A Quick And Dirty Fix To Regressivity In Federal Income Taxation

 

A friend of mine observed with respect to the meme above that:

That's comparing net worth to income. (Not that there's anything wrong with a net worth tax on billionaires). His net worth increased $87b in 2021, so $11b comes to 13%. While low, it's not obscenely so. Presumably it's due to unrealized capital gains. Taxing unrealized capital gains would be a bad idea in general, except for in the case of billionaires.

I responded:

I did catch that and let it slide because the basic point the Musk is undertaxed is still true. 

Taxing unrealized capital gains honestly isn't such a bad idea in the case of publicly held securities that can be converted to cash in the blink of an eye. Taxing unrealized capital gains in assets that are less liquid is much more problematic.

As you say, the amount he is being taxed on his income is actually about 13%. 

The top federal income tax rate on ordinary income is about 37% plus 1.45% employer and 1.45% employee Medicare taxes (or the equivalent for self-employment tax) or 3.8% for Obamacare on investment income. The top rate on ordinary income in California for people making more than $1 million a year is 14.4%. 

So, if capital gains and dividends were taxed as ordinary income and unrealized gains in publicly traded securities were taxed, and assuming that his income is almost all investment, he could be paying 55.2% instead of 13% of his income in taxes without even increasing top tax rates on ordinary income for the rich. 

This would be about $36 billion more in taxes collected each year. 

By comparison, that is nine times as much as the total revenues of the U.S. federal government from oil and gas leasing each year, and is about twice as much as total federal gift and estate tax revenues each year. 

Yet it would come from increased tax collections due to a couple of minor tweaks in the taxation of capital gains and dividends in publicly held companies, from a single taxpayer alone. 

Across the board, these small changes would generate immense increased tax revenues and increase equity and reduce income inequality.

To recap: 

What are these simple proposals that would profoundly increase tax collections from the rich, make our income tax system much less regressive, and reduce income inequality, without creating serious economic problems due to flawed tax incentives and laws?

1. Tax capital gains and dividends at the same tax rates as ordinary income. The tax expenditures associated with these preferential tax rates for capital gains and dividends has been calculated by the U.S. Treasury Department. These preferential tax rates cost U.S. taxpayers about $162 billion a year. About 68% of capital gains income is earned by the top 1% of taxpayers and 74% of capital gains income is earned by the top 10% of taxpayers according to the Congressional Research Service.

2. Tax unrealized capital gains in publicly held securities on a mark-to-market basis (see also here). The associated tax revenues associated with this change are harder to estimate. The step up in basis of capital gains at death and carryover basis capital gains taxation of gifts during life, combined cost taxpayers about $55 billion a year, so that's an order of magnitude estimate, although probably an underestimate.

Increasing tax collections on the unearned income of the wealthy from publicly traded securities would raise more than $200 billion a year, out of $5,000 billion of total federal tax revenues. This would be a 4% increase in total tax revenues.