Capital Gains tax vs Net Worth tax.

[db]

Curt Clawson makes the point that the rate is now 20% plus some surtaxes and can run as high as 23.8% (marginal) for the wealthy, when in 2012 it was only 15%. It's a good point.

Last week I got into a discussion with another poster here about using a net worth tax instead of income tax in this country. I advocate a net worth tax. He apparently did not agree.

Consider a net worth tax of 1%. If I have a large investment portfolio that makes a steady return, that return is probably 7-8% before inflation. In 2012 if I paid 15% of my investment income in capital gains tax (which of course requires a certain asset-appreciation style of investing to avoid mixing in short term gains)...15% of 7-8% is 1.05 to 1.2%.

With a net worth tax things get a lot simpler because it's harder to hide gains until they are realized and play various other income-deferral and income-offsetting games. Also a net worth tax would permit me to drop my opposition to lowering estate taxes, thus allowing people more easily to keep their family farms and other small businesses. It's a pay-as-you-go approach instead of an event-driven approach.

How is a net worth tax a bad thing compared to using income tax on investment income? Someone please make that argument so that I can think about it. Are the mechanics too difficult to enforce? What else?

 

[CWS]

A net worth tax taxes you again and again on money that you already paid taxes on. This penalizes you for saving and for living longer.
Posted from wireless.rivals.com[/URL]

 

[threeeputtt]

Under your scenario when the market tanked 35-50% in 2008 or the few consecutive years it goes down adding another 1% tax is sensible?
This post was edited on 6/30 9:33 AM by threeeputtt

 

[gr8indoorsman]

A net worth tax would be great for the government, and devastating to anyone who saves money. It would further encourage folks to spend, rather than save for retirement, as accruing wealth would be detrimental.

Take an example:

A couple makes $100,000, lives below their means, and manages to save and invest over the period of 30 years such that they accrue $3,000,000 in invested assets.

At the beginning, their income taxes before deductions would be $25,000/year.

As they accrue, their taxes go up, compounding right along with that average 7-8% return, until such a time that at their $3,000,000 worth, they are now paying more than half of their income to taxes. This would affect not only their ability to live (going from $75,000 net to $45,000 net income) but also their ability to continue saving.

In retirement, when they need to draw on that $3,000,000, their tax burden would then be whatever their income was based on what they took out (if they needed $100,000 to live, they'd pay tax on that $100,000 or whatever portion is taxable) and then the net worth tax. They'd have to save even more to make the NW tax burden, and it becomes a deteriorating cycle. Save more to account for tax burden, increase tax burden because you saved more.

Go look at the impact of an expense ratio over time. Look at the 1% column. The first one I found is based on the growth of $10,000 of initial capital, at a rate of 10% per year for 30 years. Chopping 1% off the top in the form of an expense ratio (the same thing that 1% NW tax would do) results in a 24% reduction in the amount accrued after 30 years ($175,000 to $132,000). When you start adding in 401K fees, expense ratios, trade commissions, etc. it's easy to see most investors losing more than 2% of their investments per year, every year, for life. Over 30 years under the same conditions, that costs you more than 42% of your return.

Finally, how do you define "net worth?" Does in include home equity? Does it include debt? Does it include only certain types of debt? Does the government get to decide what debt is OK and what is not (student loan vs. mortgage vs. home equity vs. investment leverage)? How do you account for a pension? Future Value? Net Present Value? Does Social Security get counted as part of your NW since it's guaranteed?

Conclusion: anyone who advocates a "net worth" tax either has no savings themselves or hasn't thought about it for more than two seconds. There is literally nothing about a net worth tax that is better than our current system... I mean unless all you really care about is "net worth redistribution."

I would seriously consider renouncing my US citizenship over a net worth tax. Fortunately, under our present political system, it will never happen because no Congressman is going to vote for it, and no one who funds their campaigns would ever let it get beyond discussion.

This post was edited on 6/30 12:22 PM by gr8indoorsman

 

[GMM]

Neither

Both are bad for the country. Both give the government too much power over our lives. Both invite corruption and confusion. One is unconstitutional and the other should be.

Since its the greatest legislative proposal of our era I'll say it again: Fair Tax!

 

[qazplm]

or

you could simply narrow deductions/loopholes and lower the rate.

Seems to me both sides have effectively agreed to this at various times (closing loopholes/lower rates) but it never gets any traction.

 

[gr8indoorsman]

Re: or

Originally posted by qazplm:
you could simply narrow deductions/loopholes and lower the rate.

Seems to me both sides have effectively agreed to this at various times (closing loopholes/lower rates) but it never gets any traction.

This. I like the idea of the Fair Tax, but in practice and reality a progressive tax is what we're going to have. Need to narrow the loopholes and reduce the overall rate, with the goal of raising the effective rate on those who can afford it while holding the effective tax rate for middle class. How very unconservative of me, I know.

 

[gr8indoorsman]

Originally posted by db:
Consider a net worth tax of 1%. If I have a large investment portfolio that makes a steady return, that return is probably 7-8% before inflation. In 2012 if I paid 15% of my investment income in capital gains tax (which of course requires a certain asset-appreciation style of investing to avoid mixing in short term gains)...15% of 7-8% is 1.05 to 1.2%.

You also have some errors here. Many investors don't realize capital gains every year. That allows their money to grow over a long period, compounding, by that 7-8% every year, and then choose to sell (realize their gains) and pay taxes when they need the money.

As I showed in my earlier post, a 1% NW tax takes roughly 24% off the top over the course of a 30 year period (assuming a 10% return). So that 1% NW tax is a lot worse than paying the 15% on capital gains. As another poster pointed out, a Net Worth tax continues taxing you on the initial investment over and over and over again for as long as you have it.

It's just a terrible idea.

 

[kescwi]

I'm don't know how the OP came to the idea but if it is legitimately being talked about as an option then your second sentence, not the first would, IMHO, be the reason.

Savers have been punished since 2008 by zero interest rates and QE, speculators have been well rewarded but those gains aren't the spend it on Main Street or trickle down type. TPTB is getting desperate to get money out and moving and probably feel that putting savers in "time out" with inflation wasn't enough to get them to change their frugal ways so it's time to bring out the paddle and get them spending. .

Noting was learned or resolved after 2008 and the next big fall, again IMO, will produce some sort of negative interest rate plan, which is the same as this sort of tax plan, the end result is the same, force people to spend it or lose it and better yet get them to want to borrow as much as they possibly can over the value of the item they are buying, i.e. 125% mortgages, 120 month car loans, no money, down no payments till May on everything from donuts to dental care...

Then the banks, insurers, Wall Street... will be healthy again, right?

 

[gr8indoorsman]

I agree that that would be the reason, but I can't see it happening. As I said, I'd seriously consider renouncing my citizenship if it did.

 

[db]

Re: Capital Gains tax vs Net Worth tax - thread responses

Thanks everyone for the thoughtful responses.

Everyone didn't like the idea and the reasons fell into categories.

The main category seems to be a simple revulsion to having small repeated taxes on property instead of big one-time taxes on income (except GMM who wants to tax only the stale bread crumbs that the genetically-challenged poor buy -- but that's not a shared POV or worth a response).

What's the history here? For millenia, when the tax man comes, he comes for a tribute -- a slice of your property. If you have 20 goats he takes 2 goats. If you have 10 goats he takes 1 goat (unless the tyrant is regressive). He never asks for your new goats or a specific share of the shekels you made at the market in the most recent year. Does he?

Around 1913 the U.S. instituted a tax on earned income. To me this is an odd concept. People need to be rewarded for their hard work above all else. Yet now we (except GMM) regard income tax as a sacred cow, like we do the equally bad idea of company-paid health care which is only half as old a concept.

The next category of objection seems to be that for a wealthy investor there is double taxation and/or through some complicated math that the investor would be worse off. That's a misinterpretation of what I said. The wealth tax would replace the income tax on any income including the tax on non-earned income. If the math is right, the wealthy should be indifferent to one vs. the other (except for wealthy tax consultants who might be out of a job). Why would they not be indifferent to it? Now that the marginal tax on investment income is zero (or 1% if you want to split hairs), people would invest, invest, invest.

The next category seems to be that a wealth tax would discourage savings. I think if you think it through this is the same objection as the one above, with the same answer. Any accumulated wealth, even a small amount, makes you an investor. But to assuage this concern we could certainly progressive-ize it and use a lower rate on the firs $X million of wealth. I'm not advocating for that but it would address this concern if it is a real concern.

But suppose some people don't save (for the sake of argument). The opposite of savings is spending. Spending is good for the economy. Where is the pain here for the broader society?

Another poster asked whether it is fair to tax 1% after a bad market year. That question doesn't concern me. First, your tax bill does go down if your net worth goes down. Second, the concept is that your long term average gain is what it is, a healthy positive percentage, and the NWT averages some small fraction of that. So to me, being concerned with short term ups and downs makes even less sense when talking about taxes than it does when talking about investment strategy.

gr8 made some thoughtful points that to an investor the NW tax looks like another form of load. Which it does. But the income tax on investment income acts like exactly the same thing. So I don't see that argument making sense.

gr8 also pointed out what I believe is the main if not the only weakness in the NW tax, namely that you have to have a way to value the net worth. Personally I think that is the one thing most likely to kill the idea. But gr8 is the only one who mentioned that.

gr8 also made some off-target comments speculating about who would advocate for what, but I won't say any more about that.

Why I like the NW tax is that it is one-rate-fits-all but it is still progressive in concept. People who live paycheck-to-paycheck would still pay none of this tax (like they do now unless they have big incomes and big spending). People who spend everything can pay a consumption tax as most do; that's not exclusive with a net worth tax; in fact adding a consumption tax would seriously cause a lot more saving, not diminish saving. Meanwhile people who build businesses never have to face a tax cliff at the end -- it's a pay-as-you-go system that assumes that either your share of the government's work is related to the wealth you are protecting, or that progressive taxation is good, or a little of both. And the "both" are already present in the current tax code and not going anywhere anyway.

 

[gr8indoorsman]

Re: Capital Gains tax vs Net Worth tax - thread responses

The history argument is silly. People didn't have income to tax, so the tax collectors took what they could that was of value (goats in your example).

I think you're neglecting two problems: 1) how do you implement it (beyond my questions about the definition of net worth, seriously, how do you change from income to net worth tax?); 2) the effect on salaries including minimum wage. Companies aren't going to continue paying people the same amount because income tax goes down.

It doesn't solve the problems you think it does in that regard.

There are spenders and there are savers. Savers need spenders to spend to raise earnings, and spenders need savers to save to keep prices low (by limiting demand).

As I said, in the event that a net worth tax comes to fruitition (it won't in my lifetime, thankfully), I will renounce my US citizenship. And no, I am not kidding about that. I don't live below my means and save so I can have a retirement so the government can change its mind about how it comes after my assets.

 

[db]

Re: Capital Gains tax vs Net Worth tax - thread responses

I agree that new legislation that screws a bunch of people in transition would never pass. So I think that's a hollow concern. And you're right that figuring out how to do that might be too big of a hurdle.

Other than that, you've offered nothing of substance to refute the idea that we'd be better off with a net worth tax instead of an income tax. So I'm not sure why it elicits this "I would renounce my citizenship" posturing.

 

[qazplm]

the problem isn't the income tax

or any of the other kinds of taxes, the problem is in implementation.

For example, IIRC the corporate rate is 35%, but the problem is we have so many exceptions and loopholes that favor some industries over others that you have some corporations paying zero taxes (or even getting refunds) while other corporations pay the full rate.

So, to me, the solution is obvious, lower the rate, but get rid of all the special treatment. Now EVERY corporation pays say 25% or whatever is a globally competitive number. There are few if any deductions. I bet you get more money out of it in totality, and you'd lower the rates for many corporations who've been unfavored under the law.

Same goes for individual taxes. I have no idea why 39% is such a rallying cry for some given that for the vast majority of our income tax history the top bracket has been anywhere from 50-90%. but ok, again, let's cut out some of these loopholes and lower the rates. find a way to guarantee we don't lose income while lowering rates. thus everyone pays evenly (progressively speaking).

There are ideas out there that both sides could get on but as long as it's my way or the highway then we are where we are where Congress passes nothing, and what little they do pass is not remotely going to be agreed to.

 

[gr8indoorsman]

Re: Capital Gains tax vs Net Worth tax - thread responses


On the contrary, I've offered a hell of a lot that the net worth tax would be detrimental to many people, including me. By the standard that you've set, you've also offered nothing that says we'd be better off with a net worth tax. Frankly, I don't think you understand the implications of it. The only people it benefits are Americans who spend, run up debt, and don't save for retirement. I'm sorry that I'm not in the club that thinks we should be encouraging all that kind of consumption with our tax laws, particularly when we've thrown the retirement ball completely in the court of the individual.

But I get it: we'd be better off with a net worth tax, because then we could limit how much money people save, and increase social security contributions so that everyone works until they are 62.5 years old, collects whatever the government deems they should for retirement, and we tax the hell out of everyone's savings so we can make everyone equal financially, regardless of what they did for a living or how they got there. Makes perfect sense to me.

How about this: how do you account for net worth of cash? I take $2M out in cash over the years and sit on it. You can't tax it because you can't prove that I have it. How do you account for possessions?

You say this is simpler, but then you say to encourage saving you'd implement a consumption tax along with this net worth tax. My God.

I guess I don't see the point in spending a lot of time discussing something that's not feasible to implement, regardless of the fact that I'm diametrically opposed to the concept.

qaz is on the money. Lower the total rate and close the loopholes. The current progressive income tax is fine.



This post was edited on 7/2 4:28 PM by gr8indoorsman

 

[gr8indoorsman]

Re: Capital Gains tax vs Net Worth tax - thread responses

I thought more about this on the commute home today to see if I thought I was missing something, and I don't think I am. While completely opposed to the notion of a NW tax because it targets financially responsible people (i.e. someone who may not make more than the median income, but lives frugally, saves money, invests in their home, etc.), I just don't see how it simplifies anything or guarantees more revenue for the government. When that's couple with the fact that it royally screws just about everyone, I can't see how you think it's a good idea.

More implementation issues:

- How do you account for annuities? I buy an annuity for $6million dollars, do you tax me for that $6 million since it's guaranteed? Even though I don't have that money anymore, I have to come up with the $60,000 every year to pay the tax on it?

- What about home equity? I have $400,000 equity in my home, but that doesn't mean I necessarily have the extra $4,000 per year to pay your tax because there's nothing liquid about it.

- Cash? I could sit on a briefcase full of money and the IRS has no way of proving it because no one's required to report it. (right now incomes are reported by payroll).

- What counts towards NW? House? Car? Jewelry? Who appraises these things? How often? What's my way to appeal an appraisal, or am I just beholden to whatever Joe the House Appraiser says?

- Already talked about debt.

- Man living below the poverty line inherits a house from a dead parent. House is valued at $250,000. He wasn't paying income taxes because he was below the poverty income, but now he owes a minimum of $2,500 per year, or roughly 10% of his income.

- Oh, but people might spend more money to avoid the tax? Let's implement the consumption tax, effectively a national sales tax, thus raising the entire country's cost of living.

- Do corporations get to reduce what they pay people based on no income tax, or do they just have to suck it up for the good of the people? Effectively, most people just got a 15-39% raise thanks to Uncle Sam! How does this affect the minimum wage argument?

- Siphons money from the hands of the individual and puts in into the hands of the corporation or the government. You can't keep it, because you'll pay for it. But if you spend it, you get taxed on consumption. I guess your theory is that the corporations make more money which drives earnings which drives stock prices up which drives net worths higher which generates more revenue for the government... but still takes more money out of the hands of individuals, up to 24% more money over the course of 30 years (rather than the 15% one-time capital gains tax).

- Stock values are based on price and the actual value is completely imaginary until the day they are sold. Everyone's just running around with estimates of their worth. Income is exact. You made $XX,XXX last year thus your tax is $X,XXX. Whose estimate do we trust? Interday stock values? Does everyone sell their stocks on April 14th and hide the cash?

- Ah but people take home more money, right? Until companies start reducing hiring salaries because they no longer need to give people a certain amount to live on. Think that won't happen? Why do you think salaries in California are generally higher? It's not because companies out here are more benevolent. It's because cost of living is higher, so they have to pay more to keep quality employees. Once people have excess income, that motivation goes away, companies pay less... their bottom line goes up, earnings go up, stock prices go up, net worth goes up, tax liability goes up.

How, exactly, does your plan simplify things? Because I'm really struggling to see it.

This post was edited on 7/3 5:51 PM by gr8indoorsman