Why a 70% tax rate on the rich wouldn’t work, according to a wealth expert
It’s been about a month since newly minted Rep. Alexandria Ocasio-Cortez made waves with her infamous “60 Minutes” interview with Anderson Cooper. Even if you haven’t seen it, you’ve likely heard of the bold tax plan she discussed: A 70 percent tax on earnings over $10 million to pay for her climate change plan — also known as the “Green New Deal.” Right now, the top income tax bracket is taxed at a rate of 37 percent for individuals who make more than $510,300 or married couples bringing in over $612,350.
Though this would be a drastic change from the status quo, it isn’t unheard of in American history: In 1944, to help fund World War II, those with incomes over $200,000 — nearly $3 million when adjusted for inflation — were taxed at a rate of 94 percent. And tax rates were between 50 and 70 percent for decades after, until President Ronald Regan pushed through major tax reform. So lower tax rates on the wealthy are relatively recent.
But could Ocasio-Cortez’s plan actually work? What about similar variations, such as Elizabeth Warren’s “ultra-millionaire” plan targeting the wealth (not just income) of Americans worth over $50 million? I wanted to know how the top 1 percent of America’s richest people might react, so I spoke to Peter Mallouk, president of the wealth management company Creative Planning, Inc., to get his take.
Increasing Capital Gains Tax Might Be a Better Solution
Mallouk called Ocasio-Cortez’s plan “misguided” for one big reason — the more wealth one has, the less likely it is that the bulk of it comes from income alone.
“The reality is the truly wealthy own things that aren’t subject to income taxes anyway, like stocks,” said Mallouk. “When stocks or real estate are sold, the tax rate is capital gains, not income taxes. Capital gains taxes are far lower, at only 20 percent. To keep working people working and employing others, and at the same time generate more revenue from the wealthy, the capital gains tax rate is the one to play with — not the income tax rates.”
The Tax Foundation, a think tank dedicated to issues surrounding taxation, came to a similar conclusion in its analysis of Ocasio-Cortez’s proposal, estimating what kind of revenue would be derived when taxing “all income over $10 million” according to her proposal. The number would be surprisingly low, according to their experts:
“The reason why a 70 percent tax rate on all income over $10 million would raise very little revenue is due to how taxpayers would react to the much higher tax rate on capital gains. Under current law, capital gains are taxed only when they are ‘realized’ — that is, when the assets are sold. This means that individuals can effectively choose when to pay the tax. As a result, capital gains are very responsive to the tax rate.
For capital gains over the $10 million threshold, the tax rate would increase from the current 23.8 percent … to 73.8 percent. That is a 210 percent increase. This would result in a significant decline in capital gains realizations that would otherwise be subject to the new tax rate. … As a result, federal income tax revenue from capital gains would fall and offset a large portion of the additional tax revenue from taxing ordinary income.”
Taxing Assets Isn’t Necessarily Enforceable, Either
Though Ocasio-Cortez’s plan has gotten a great deal of attention, a recent poll by Morning Consult/Politico reveals that Warren’s is more popular. Over 60 percent of those surveyed “support a wealth tax on households that have a net worth of at least $50 million.” Less than half — 45 percent — support Ocasio-Cortez’s plan. But Mallouk feels this proposal will be tough to put into action, due to the tricky nature of pinning down an individual’s net worth.
“[Warren’s] tax proposal is so impossible to enforce, it won’t happen no matter which side of the aisle you are on,” Mallouk said. “She proposes a tax of 2 percent on assets of those worth $50 million or more and 3 percent on those with assets of $1 billion or more. It is impossible to tell what people with these assets are actually worth.”
What's “ridiculous” is billionaires who think they can buy the presidency to keep the system rigged for themselves while opportunity slips away for everyone else. The top 0.1%, who'd pay my #UltraMillionaireTax, own about the same wealth as 90% of America. It's time for change. https://t.co/D04G5fNvpa
— Elizabeth Warren (@ewarren) January 29, 2019
In case you need a refresher (I know I did!), figuring out your personal net worth sounds easy — but it’s actually complicated. Essentially, you’re just subtracting your liabilities, or debts, from your assets. But assets include everything you own — from cars to investments to your home. Your debts include your mortgage and credit card debt, along with any loans. The more assets and liabilities one has, the harder this number is to pin down — the value of one’s investments or properties are frequently shifting.
“Are they going to get a professional valuation of all their business interests every year?” asked Mallouk. It seems this may indeed be one possibility — but figuring out who gets to decide which valuations are valid, as well as who pays for those valuations to occur, could add additional complexity to the process.
The Rich Could Take Extreme Measures to Avoid Payment
Mallouk explained that there is a precedent for the ultra-wealthy getting very creative with ways to avoid taxes. “Someone that is making this kind of money likely employs thousands of people,” he said. “If you tax them at 70 percent, they will likely close their doors. Remember, there are still state taxes, often 10 percent or more and sometimes city taxes on top of this.”
“Many entertainers would simply move to another country,” added Mallouk. “This is exactly what the Rolling Stones did decades ago when England introduced a 90 percent tax — they moved to France. More recently, U2 moved to the Netherlands after Ireland introduced punitive taxes.”
Mallouk believes such drastic responses to high taxes would ultimately harm the middle class. “Anytime you increase income taxes on the wealthiest, you are taxing mostly business owners. Businesses employ people. Employed people are what make the economy work.”
Whether or not you agree with this worst-case scenario, there are plenty of very real millionaires who figured out how to get out of paying taxes. And until major reforms like Warren’s or Ocasio-Cortez’s come to fruition, you may want to employ similar strategies to lower your tax bill.
Peter Mallouk is the President of Creative Planning, Inc. and its affiliated companies. Creative Planning provides comprehensive wealth management services to clients. These offerings include investment management, financial planning, charitable planning, retirement plan consulting, tax service and estate planning services.
Creative Planning manages over $36 billion in assets for clients in all 50 U.S. states and abroad. The company’s achievements have been frequently recognized: Mallouk’s leadership in the industry has not gone unnoticed, either. He is the only person to have ranked No. 1 on Barron’s “Top 100 Independent Financial Advisors in America” list for three consecutive years (2013-15). He also appeared on the cover of Worth magazine’s 2017 and 2018 issues of “Power 100” — a list of the most powerful men and women in global finance. In 2017, The New York Times wrote, “Creative Planning is at the vanguard of a profound shift in finance.”
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This article originally appeared on GOBankingRates.com: Why a 70% Tax Rate on the Rich Wouldn’t Work, According to a Wealth Expert