—without exacerbating income inequality. [see this post for context]
Low capital gains tax rates might be a good thing for promoting investment and economic growth. But as currently structured, the break on capital gains enormously benefits millionaires and billionaires, without bringing much benefit to the middle class.
The goal should be to promote investment in the economy—not to promote the interests of a small number of super-wealthy individuals.
Absent replacement with a consumption tax, which would incentivize all forms of savings and investment by everybody, here is a modest proposal to achieve the goal of stimulating investment, without unduly benefitting a small number of individuals.
Savers and Investors Tax Relief Act of 2017 (=SITRA)
- Every taxpayer files a second form: their Capital Income Account. This form replaces most of schedule B (interest) and schedule D / 88xx (capital gains & dividends).
- The Capital Income Account records all interest from FDIC-insured bank accounts and Federal debt obligations, along with all long term capital gains and qualified dividends.
- The Capital Income Account carries the same standard deduction as the taxpayer to whom it belongs, currently close to $12,000 for a married couple.
- The regular income tax rate brackets apply to capital income beyond the standard deduction; the couple pays on these gains according to their regular income bracket, after adding in capital income
That’s it. Everyone who saves or invests in the indicated ways can shelter up to $12,000 in favored forms of capital income, every year. A married couple would pay 10% on the next $18,000 or so, and 15% on up to about $75,000 per year. And up to the point where they pull down $75,000 or more a year in capital income, their (statutory) marginal rate on capital gains would be the same or lower as now.
Under this proposal, tens of millions of individuals get a break on their modest capital income. A few tens of thousands of millionaires take it on the chin, as they pay the highest regular income tax rate on capital income in excess of $500,000 per year.
What’s not to like? A broad range of people, whose aggregate capital amounts to many billions, receive an attractive incentive for making this capital available for investment; a small number of people, who have hoarded most of the dollar gains from the current break, with the effect of concentrating vast wealth in the hands of the few, will not be able to pile up more wealth quite so quickly.
I might make one small adjustment: what about the business enterprise, built up over decades, now to be finally sold by the aging entrepreneur? Or the thrifty investor who bought Intel at the IPO decades ago, and held on for the very, very long term?
These people have huge gains, but the greater part of these gains represents inflation. Solution: for assets held longer than five years, have the IRS publish inflation indices. Look up the index in a table; if inflation has totaled 33% since the date of acquisition, divide the asset price at time of sale by 1.33, and owe tax according to the derived gain (if any).
The inspiration behind this modest proposal is that there are two basic kinds of income tax breaks: 1) reductions in rate; and 2) exemptions that remove the first dollars of income, up to some amount, from tax. Tax benefits due to reductions in rate, considered in dollar terms, must disproportionately benefit those few individuals who are disproportionately wealthy. Tax benefits due to exemptions, when the dollar amount of the exemption is modest, must flow mostly to those of modest incomes.
Now you know why Republican legislators and lobbyists, from the infamous Grover Norquist, to the hapless Paul Ryan, always focus their tax plans on rate reductions. It’s the money, honey: donors rule!
Hope you didn’t fall for that mantra about how reduced rates motivate effort and investment …
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