Interesting op-ed in the WSJ last Friday: “The Real Causes of Income Inequality”
Article’s conclusion: Yeah, the Top 1% have accrued a greater portion of income in the U.S., but not to worry, they still pay proportionately more taxes that in places like, say, France or Sweden.
And, from a strictly taxes-economics perspective, the disproportionate gain is traceable to 3 tax changes which boost economic efficiency:
1) Marginal tax rates for individuals were lowered below corporate tax rates, so new businesses formed as limited partnerships and S-Corps instead of C-Corps.
In 1986, before the top marginal tax rate was reduced to 28% from 50%, half of all businesses in America were organized as C-Corps and taxed as corporations.
By 2007, only 21% of businesses in America were taxed as corporations and 79% were organized as pass-through entities, with four million S-Corps and three million partnerships filing taxes as individuals.
Now, a significant amount of what is now declared as personal income is actually income from businesses that are now taxed as individuals.
In 1986, just 5.6% of the income of top 1% filers came from business organizations filing as Sub-chapter S-Corps and partnerships.
By 2007, almost 19% of income declared on tax returns filed by the top 1% came from business income.
A significant amount of income that critics claim is going to John Q. Astor actually is being earned by Joe E. Brown & Sons hardware store.
2) Capital gains taxes were lowered, first under President Bill Clinton and then under President George W. Bush.
At a top tax rate of 28%, realized capital gains were 2.5% of GDP and made up 17.7% of the income of top 1% filers.
The percentage of the income of top 1% filers coming from capital gains grew to 26% in the 1997-2002 period and 28.1% during 2003-07.
By reducing the penalty for transferring capital from one investment to another, these lower tax rates increased the mobility of capital.
High-income taxpayers sold more assets, declared more income, and paid more taxes.
3) The tax rate on dividends was lowered,
Similarly, when the tax rate on dividends fell to 15% in 2003, dividend income for the top 1% grew 178% by 2007 to make up 5.6% of the income of these filers.
In 2007, immediately prior to the recession, capital gains and dividend income combined was equal to the amount of salary, bonus and exercised stock options earned by the average top 1% filer.
Lower tax rates made dividend-paying stocks more attractive to high-income investors and made dividend payouts more attractive for companies that would have previously retained those earnings or bought back their stock.
Capital trapped in companies with below-market rates of return was redeployed and the entire economy benefited.
* * * * *
So, if corporate tax rates are pushed own – as they should be to make the U.S. competitive in the global economy – then more businesses will incorporate as C-Corps and income will shift from the top 1% to corporations.
Hmmm.
And, if capital gains and dividend taxes are raised, then capital will become less mobile, and often locked in low return businesses.
Double hmmm.
Hope Team O read the op-ed.
