Writing the new “Buffett rule” proposed by President Barack
Obama to snare more tax revenue from
millionaires will prove to be logistically and mathematically
difficult.
The concept, named for billionaire investor Warren
Buffett, would require Americans earning more than $1 million a
year to pay at least the same tax rate as middle-class households.
Such a rule would be problematical to craft or ineffectual because
higher earners aren’t the only taxpayers benefiting from breaks;
many middle-income families take advantage of deductions and
credits that drive their rates below the 17.4 percent that Buffett
pays.
Buffett has said he and other Americans earning more than $1
million a year should pay more in taxes than they currently do. The
administration wants to include Buffett’s concept in a broad
overhaul of the U.S. tax code. Obama didn’t include specific
language in the proposal he released today.
“We’re not going to give the Congress a detailed proposal for
how to meet that principle because we think there are a bunch of
different ways to do that,” said Treasury Secretary Timothy
Geithner, adding that the details of the rule would depend on
the rest of the structure of a new tax system.
Charles Schumer
of New York, the third-ranking Democrat in the Senate, said on a
conference call with reporters today that the proposal would have
broad support in his party and would be a “game-changer” in the tax
debate.
“It really works well as a defining principle, but I think it
works even better as an actual piece of legislation,” Schumer, a
member of the tax-writing Finance Committee, said. “Let’s draft the
language and get it scored. Let’s put it on the floor and let’s
have a vote.”
The example that Obama gave during his speech today illustrated
the difficulty of applying the Buffett principle in practice. He
said that a teacher earning $50,000 shouldn’t pay a higher tax rate
than an investor making $50 million.
“I reject the idea that asking a hedge-fund manager to pay the
same tax rate as a plumber or a teacher is class warfare,” Obama
said at the White House. “It’s just the right thing to do.”
That example isn’t as straightforward as it appears. Under
current law, that teacher would have a maximum taxable income of
$40,500, after subtracting the standard deduction and personal
exemption. The teacher’s federal income tax would be $6,250, or
12.5 percent of the $50,000 income.
The teacher’s tax rate, though, would be higher if payroll taxes
were included. It would be lower if the teacher took advantage of
the specific breaks available to middle-income taxpayers: those for
retirement savings contributions and health-care flexible spending
arrangements, and deductions for student loan interest and
out-of-pocket expenses of educators.
The tax rate would be even lower if the teacher were married or
had children, which would allow for a larger standard deduction,
personal exemptions and a child tax
credit. A married couple with two children can earn as much as
$45,776 without paying income taxes this
year, according to the Tax Policy
Center, a nonpartisan Washington research group.
As a result of those complexities, lawmakers trying to write a
Buffett rule would have to make some choices about how to measure a
middle-income family’s earnings and tax rate. They also face
complicated arithmetic for higher-income taxpayers.
Assuming the millionaire investor received all of his or her
income from long-term capital gains and dividends, the tax rate
would be 15 percent, the preferential rate for investment
income.
That rate could be much lower if the investor took itemized
deductions for state and local taxes, mortgage interest and
charitable contributions. It would be higher if the investor also
had some wage income.
Writing a Buffett rule into law would require defining income
and setting a minimum rate for it, said Roberton
Williams, a senior fellow affiliated with the Tax Policy
Center. That definition might need to address sources of income,
such as municipal bond interest, that aren’t included under the
regular income tax.
“Every time you set up something like this, you’re opening the
door for the tax lawyers to come in and get around the attempt to
raise revenues,” Williams said.
Obama’s prime target for what he calls income-tax fairness is
the 20-point gap between the top rate for capital gains and
ordinary income tax rates.
In 1986, President Ronald Reagan
signed an overhaul of the tax code that equalized the tax rates on
capital gains and ordinary income at 28 percent. Since then,
Congress has raised the top income tax rate to 35 percent and
dropped the top capital gains rate to 15 percent.
During a briefing at the White House today, Geithner said the
rates of high-income taxpayers vary depending on their
profession.
People who earn much of their income from wages, such as
corporate executives and professional athletes, have relatively
high tax rates. Investors who make money from capital gains and
dividends tend to have lower rates.
Buffett, the 81-year-old chairman and chief executive officer of
Berkshire Hathaway Inc., said his federal tax bill last year, or
the income tax he paid and payroll taxes paid by him and on his
behalf, was $6.93 million.
“That sounds like a lot of money,” Buffett wrote in an essay
calling for higher taxes on millionaires in The New York Times
last month. “But what I paid was only 17.4 percent of my taxable
income -- and that’s actually a lower percentage than was paid by
any of the other 20 people in our office.”
Several bipartisan groups, including the fiscal commission
appointed by Obama last year, have proposed eliminating the
preferential tax rates for capital gains as part of a tax overhaul
that would also lower rates on wage income.
That approach, rather than the calculation of a minimum tax,
might be the most straightforward way to satisfy the Buffett
principle, Williams said.
“That certainly makes it a lot easier,” he said. “But a lot of
people would oppose that on the argument that there are good
reasons to tax capital income at lower rates.”
The arguments for lower capital gains rates include the benefits
of encouraging investment, and tax economists say that lower
dividend rates minimize the double taxation of income already taxed
at the corporate level.
The Buffett rule would essentially operate as a type of
alternative minimum tax.
Since 1969, the U.S. has imposed a minimum tax of some sort on
the nation’s highest earners to prevent them from using legal
deductions, credits and exemptions to avoid paying taxes. That
year, in response to a report that 155 people earning more than
$200,000 had paid no taxes, Congress created the forerunner to the
alternative minimum tax.
The AMT came into its current form in the 1986 tax-code overhaul.
It requires taxpayers to compare their tax liability under the
regular tax code with their liability under the AMT. Because the
AMT doesn’t allow taxpayers the full benefits of the state and
local tax deduction or personal exemptions, people with large
families or who live in high-tax states in the Northeast tend to be
disproportionately affected.
Congressional lawmakers’ efforts to prevent people from legally
avoiding all taxes haven’t been successful. In 2008, the most
recent year for which data is available, 18,783 people filed U.S.
tax returns with adjusted gross incomes of at least $200,000 and
owed no taxes. That represented 0.43 percent of high-income
taxpayers, the biggest non-payer percentage in an Internal Revenue
Service study that dates to 1977
from bloomberg
