“TAX THE RICH” FOR DUMMIES
The intent of this article is to try to use simple terms to explain why so many people feel that the answer to our national debt problem is to raise the taxes on the rich. To avoid argument, this article will not evaluate the validity of this belief, but instead will explore two methods to achieve this goal of increasing the taxes of the rich to an effective rate of 30%. The average effective tax rate for the rich (upper 1%) is currently about 21%, so we will evaluate how that number is achieved, and what can be done to change it. To begin this discussion, the very basics of our tax system for the rich must be explained. To understand the difference between an earned income tax bracket (tax rate seen on your tax forms) and the “effective tax rate” that the rich actually pay, we need to look at what the rich use to adjust their taxes due. The major tools the rich utilize to lower their taxes are deductions, loop-holes and interest income. Here are some terms that will help you understand this
EARNED INCOME TAX RATES –This is the tax rate you see on your tax form based upon how much money you have earned for the year. The present earned income tax rate for anyone making roughly over $380,000/yr is set at 35% of their earned income. Yet the rich never pay anywhere near this tax rate on their annual income tax, and we will explain that below. “Earned Income” that is taxed at the 35% rate can come from many sources, but it will be easier to explain “Interest Income”, which covers the vast majority of income the rich acquire that is not taxed at the earned income rate.
INTEREST INCOME – This income is not taxed at the 35% rate that “earned income” is taxed at, and includes interest earned from bank accounts, stock investments, Certificates of Deposit, and many other sources that account for a larger portion of their total income for the rich than it does the poor. These incomes are taxed at a lower rate than earned income, and while they do vary depending on the type of interest income, the average rate for this income is about 15%. Why is this so much lower than the rate for “earned income”? Because Congress has decided that this lower interest rate will be a motivational factor for the rich to put some of their wealth into investments. The theory is that these investments help the overall economy of our nation.
DEDUCTIONS AND LOOPHOLES – Deductions vary from loopholes only in the method in which they are used to lower your tax rate, but they both operate under the same premise. Congress over the years has decided there if the rich invest or spend their money in specific areas, that this money will benefit either a specific group of people or our nation in general in a positive manner. To motivate the rich to spend or invest their money in these specific areas, Congress has allowed the rich to lower their taxes based upon the amount of money they put into these avenues. You may or may not have taken advantage of some of the same deductions or loopholes that the rich utilize, only maybe to a lesser degree. Here are just a few of the areas that Congress has designated as being beneficial enough to our society to warrant a reduction in taxes for those putting money into these areas:
Charities / Alternative Energies / Job Creation / Environmental Benefits
The Congressional thought process is that if a wealthy person or corporation knows they will make the exact same amount of profit for two different investments (or spending), but will only lower their taxes for one of those two investments, they will be motivated to put their money into the areas that Congress has deemed to be beneficial to our society. Why? Because it is more profitable to do this because of the tax deduction or loophole. It would be nice to assume that the rich would do this anyways out of the goodness of their hearts, but realistically speaking, Congress knows that they need a financial motivator for them to put their money into worthwhile causes.
On a side note: When our economy took a horrible nose-dive back a few years ago, Congress believed that the best method to help improve our economy was to funnel money into certain avenues that were known to help stimulate the economy. They took billions of dollars of Federal money to put into these avenues of economic recovery, and that money was called the Stimulus Plan. How effective this money was is open for debate, but Congress did come to an agreement on where best this money could be spent to help improve the economy. We can utilize this Congressional agreement in our plan below.
PLAN “A” VS. PLAN “B”
We will now discuss two different methods to try and accomplish the same goal, namely, to increase the effective tax rate of the rich to approximately 30% from it’s current 21%.
We will look at each of the 3 factors that affect the effective tax on the rich, and how an adjustment of each could affect the overall tax rate.
STEP 1 – EARNED INCOME TAX RATE – Adjustment of this tax rate alone might increase the effective tax rate of some of the rich to 30%, but for the VERY rich, this will have little effect, so adjustment of this rate should be moderately combined with a few other steps. The actual rate this would have to be adjusted would have to be calculated along with the other steps, but an increase of this rate from 35% to 40% would most likely be adequate for the desired effect.
STEP 2 – INTEREST INCOME TAX RATE – This adjustment will have the most significant effect on the VERY rich. But raising it significantly could negatively impact the amount of money the rich invest, and therefore the change should be tempered and accompanied by the other changes to achieve the overall goal. A raise of this tax rate from 15% to roughly 22% will suffice when combined with the other steps in this plan.
STEP 3 – DEDUCTIONS AND LOOPHOLES – All deductions and loopholes should be addressed one at a time by Congress to evaluate its validity. The intent is not to create any lengthy debate about individual deductions, but simply to highlight the fact that many of these deductions and loopholes are many decades old, and may no longer have a valid beneficial effect. Corporations are still taking advantage of deductions that make absolutely no sense in our present economy, but the deduction still exists simply because Congress has never had the opportunity to re-evaluate the validity of the deduction. If each deduction required either a thumbs up or down from Congress based on today’s needs, it’s quite possible we could eliminate 5% of our outdated un-needed deductions that are being abused. The one deduction I would suggest we adjust, would be Charitable contributions. While it is still a worthwhile cause to help foreign countries, we would adjust the charitable deduction to provide a bigger deduction for contributions that specifically aid our country, and a slightly less deduction applied to contributions that put massive amounts of money into foreign aid. The intent is simply to address a the negative cash flow out of our country to try and minimize its effect on our local economy.
STEP 4 – CREAT NEW DEDUCTIONS/LOOPHOLES – This might seem like a ludicrous idea just after a step to eliminate deductions and loopholes, but the idea here is to look at the avenues that we are funneling federal money into (the stimulus plan) and give a corporation a tax break if they will use their money (instead of Federal money) to simulate the economy. While the end-result might lower the effective tax rate for that individual corporation, the idea is that the resultant stimulus to the economy will produce enough new taxes to more than offset the tax deduction given to that one corporation.
PLAN “B” (Obama tax Plan)
This is a much simpler approach to raising the effective tax rate on the rich to 30%. It’s quite simple in implementation:
STEP 1 – In figuring out their taxes, the rich start with their Earned Income tax of 35%, and then add their Interest income(roughly 15%) and calculate their pre-deduction effective tax rate. If their effective rate is less than 30%, they will adjust it up to 30%. That is, they are done.
STEP 2 - If after performing step one, their effective tax rate is above 30%, they can then start to add in their deductions and loop-holes. But under no circumstance may they lower their effective tax rate to less than 30%.
For comparison purposes, the next step would be to identify the impact these two plans could have.
1) Adjust Effective tax rate on the rich to 30%
2) Since the beneficial aspect of deductions and loopholes would remain in effect, the rich will still be highly motivated to put their money into the beneficial aspects of the investments that earn the rich a tax break (maybe even more so because of the higher earned income and interest tax rates).
3) The additional stimulus deductions/loopholes would allow the rich a profitable avenue to invest their money into a method Congress has deemed will create new jobs, stimulate the economy, and help the lower 99% get back on their feet and involved in our economic society. This will help the rich get involved in recovery for the poor in addition to what they might already be doing via their other deductions.
1) Adjust the Effective tax rate on the rich to 30%
2) Since the vast majority of the rich would already have an effective tax rate of less than 30% pre-deduction/loophole, the rich will adjust their tax rate to 30% and eliminate their deductions and loopholes entirely.
3) This will expose which rich are greedy and which are not. Assuming that not all the rich will continue to give money to charities/job creation/etc., once it no longer benefits them financially, it will become imperatively obvious to the nation that the rich are greedy and do not care for the poor. This will be the catalyst for class-warfare, and in some people’s opinion, is the equivalent of throwing gasoline on the fire.
4) This exposing the rich for the greedy bastards they are: This should generate support from the lower 99% on Obama’s plan to ensure the rich pay their “fair share” and help the middle and lower class citizens.
5) With the loss of the beneficial deductions for the vast majority of the rich, and the loss of investment that follows, we can expect to see an major impact on those aspects in terms of job-creation, environmental pollution, charitable organization capabilities, etc.
Some people (mostly republicans) might say that Obama’s tax plan was not thought out, and that Obama did not consider the consequence such a tax plan would have on this nation. I for one would tend to disagree: I believe he has evaluated it intensely, and knows exactly what to expect if it were to pass, but I believe he knew how overwhelmingly it would be opposed, but not until he received the support he wanted for the upcoming election, and that class-warfare is the catalyst he needs to further his ambitious plans for our country.