The dual-taxation meme
Warren Buffett’s op-ed on Monday calling for higher taxes for the very rich clearly touched a national nerve. Which is one reason there’s been a steady stream of arguments from the right explaining that in fact he’s wrong when he says that he pays much lower taxes than anybody who actually earns money from a job. And there’s one argument in particular which seems to be very popular.
Here’s Daniel Indiviglio:
The income that a corporation makes is first taxed at 35%. Then, a dividend is paid out — after taxes. If you obtain that dividend, should it be taxed? Well, it already was — at 35%. For this reason, it makes sense to tax it at 0%. If you tax it more, then you are taxing the income it produced twice.
And here’s Tim Worstall:
In the U.S. system from our $100 first we take $35 at the corporate level. Then we take another $15, or the dividend tax rate of 15%, from the recipient. Giving us a tax rate of 50% on dividends. We’ve taken $50 from the total amount that was to be used to pay dividends.
And here’s the WSJ:
Much of his income was already taxed once as corporate income, which is assessed at a 35% rate (less deductions). The 15% levy on capital gains and dividends to individuals is thus a double tax that takes the overall tax rate on that corporate income closer to 45%.
Amazingly, the WSJ editorial page is the most honest of the lot here, insofar as it admits that U.S. corporations don’t actually pay 35% tax on their corporate earnings. In fact, U.S. corporate taxes account for just 1.8% of GDP, the lowest number in the OECD, far behind, say, Switzerland (3.3%), Britain (3.6%), Japan (3.9%), or Australia (5.9%). We could literally impose that tax burden twice over and still only come up to the OECD average of 3.5%. So much for the WSJ’s idea that “this onerous tax on capital is a U.S. competitive disadvantage in the global economy”.
But there’s a deeper conceptual problem with the double-taxation argument. Money sloshes around the economy, and it’s taxed at various points along its journey. If I pay sales tax, for instance, I do so with my post-tax income: you can’t deduct the sales tax you pay when you file your taxes every year. Follow a dollar on its way around the economy, and you’ll find it being taxed at city, state, and federal levels; as income and as capital gains; and in many other ways besides. If it’s used to pay for a plane ticket or a cellphone bill or a hotel room, for instance, there are likely to be all manner of taxes imposed on it.
In fact, I’m a fan of the idea that one great way to simplify the tax code is to get rid of the deductibility of tax payments altogether; in particular, state and local income taxes should not be deductible. That deduction costs the federal government some $50 billion a year, for no good reason. By definition, all of that money goes to people who itemize their taxes, who are generally rich: 16% of it, in 2004, went to people earning over $1 million per year, and the number has probably risen since then.
All money has been taxed at some point along the line, many times over. Indeed, given the extremely modest rate of growth of the money supply, the government basically just taxes the same monetary base over and over again in order to generate its revenues. If we didn’t impose taxes on money which had already been taxed, then we wouldn’t have any taxes at all.
So enough, please, of this idea that if corporate profits are taxed once, at the corporate level, then that means they should never be taxed again when they show up as individual income. That income is unearned: if anything, it should be taxed at a higher rate than earned income, because we want to encourage people to create value by working, rather than just living parasitically on the labor of others. If you want to make an argument that unearned income should be taxed at a lower rate, go right ahead. But don’t give me the dual-taxation argument. Because the same argument can be applied to just about any tax you like.
Update: A group called Citizens for Tax Justice has more reasons (PDF) why the dual-taxation meme is silly. A few:
First, about two thirds of personal dividends paid by taxable corporations go to tax-exempt entities such as retirement plans and university endowments. In all likelihood, a similar percentage of capital gains on corporate stock are also tax-exempt.
Second, taxes on capital gains earned outside of tax-exempt plans are not imposed until shareholders sell their corporate stock at a profit. This means that those taxes can be deferred indefinitely. And even if individual shareholders do report taxable capital gains, they often will offset such gains with capital losses (by selling stocks that did poorly at the same time).
Third, even personal dividends and capital gains that show up on tax returns are not subject to the Social Security tax of 12.4 percent that applies to the earnings that make up most or all of the income of middle-class taxpayers.