Dan Mitchell shows why soak-the-rich tax policy does not work

Dan Mitchell of the Cato Institute shows why Obama’s plan to tax the rich will not solve our deficit problem.  

Explaining in the New York Post Why Obama’s Soak-the-Rich Tax Policy Is Doomed to Failure

April 17, 2012 by Dan Mitchell

I think high tax rates on certain classes of citizens are immoral and discriminatory. If the government is going to collect revenue, all taxpayers should be treated equally, with something akin to a simple flat tax.

But most people don’t seem to care about having the law apply the same to all people, so I make a strictly utilitarian case for low tax rates in today’s New York Post. Here some of what I wrote.

Whether it’s through the Buffett Rule, higher income-tax rates or double taxation of dividends and capital gains, President Obama often demands that “rich” taxpayers and big corporations send more money to Washington. But…trying to get more money from upper-income taxpayers is like playing whack-a-mole. So long as tax rates are high, rich people will figure out ways to protect their income.It doesn’t take a tax genius; any rich person can make a phone call or hit a few computer keys and shift his or her investments to tax-free municipal bonds. It’s not good for the economy when capital gets diverted to help finance the excess spending of Detroit or California, but it’s an effective way of stiff-arming the IRS. Or the rich can play the green-energy scam, getting all sorts of credits to offset their tax liabilities. …Even if lawmakers abolished the various tax-code distortions, they might still be disappointed. The one sure way for rich people to lower their tax bills is by generating less income. …This isn’t some sort of modern-day revelation. Andrew Mellon, a Treasury secretary during the 1920s, noted that “the history of taxation shows that taxes which are inherently excessive are not paid. The high rates inevitably put pressure upon the taxpayer to withdraw his capital from productive business.”

I then provide a specific example, looking at how Reagan’s lower tax rates resulted in a lot more revenue from the rich.

Unlike the rest of us, the rich have a great ability to alter the timing, amount and composition of their income. That’s because, according to IRS data, those with more than $1 million of adjusted gross income get only 33 percent of it from wages and salaries. The super-rich (those with income above $10 million) rely on wages and salaries for only 19 percent of their income. In 1980, when the top tax rate was 70 percent, rich people (those with incomes of more than $200,000) reported about $36 billion of income; the IRS collected about $19 billion of that amount. So what happened when President Ronald Reagan lowered the top tax rate to 28 percent by 1988? Did revenue fall proportionately, to about $8 billion? Folks on the left thought that would happen, complaining that Reagan’s “tax cuts for the rich” would starve the government of revenue and give upper-income taxpayers a free ride. But if we look at the 1988 IRS data, rich people paid more than $99 billion to Uncle Sam. That is, because rich taxpayers were willing to earn and report much more income, the government collected five times as much revenue with a lower rate.

I also included above, for readers of this blog, a table with the raw numbers from the IRS. Feel free to click for a larger image and see how the “rich” responded to better tax policy.

I then close with a warning about Obama’s class warfare policy.

Obama wants to run the experiment in reverse. He hasn’t proposed to push the top tax rate up to 70 percent, thank goodness, but the combined effect of his class-warfare policies would mean a big increase in marginal tax rates. That might be good for workers in China, India or Ireland, because American jobs and investment would migrate to those places. But it’s not the right policy for the United States.

In other words, even if you’re a leftist and your main goal is giving the government more revenue, higher tax rates are a bad idea. The rich will simply figure out ways to protect their earnings while the rest of us suffer because the economy loses some of its dynamism.


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