Monday, October 27, 2008

I've been thinking about spreading the wealth around. . .

That's right, I've been thinking about the big "Obama's a red" line McCain's taking, yeah, I know he says "socialist" . . . is there a difference to the audience? I know I've written about this topic already in who's the socialist but I thought some more about how our system currently funnels wealth through both the tax system and the services it provides.

Republicans tell us that they simply want everyone to keep their own money and decide what to do with it. If we just did that then everything would be just fine. Of course, since we all pretty much agree that we need a few government services like, oh, national defense, we do have to tax a bit. They tell us that this tax should not fall on the shoulders of the rich any more than it does on any other group of citizens because this amounts to redistributing the wealth through the tax system, which they decry as socialism.

So, first off, let's take on that tax system and look at how it channels wealth

First off there are some cherished benefits that primarily accrue to the benefit of the middle class or wealthy. The king among these is the mortgage deduction. Hey, I benefit from this deduction. I own my home - well, I'm buying it from Countrywide/BOA anyway, and I get to deduct the interest payments from my income. This only benefits me if I make enough money to profit from the deduction. Thankfully, that's been the case. But, in a bad year, it's conceivable that I won't benefit from this deduction. That's because the deduction only reduces the amount of income subject to federal income tax. If I make under a certain adjusted gross income I may not be subject to federal income tax and so my interest payments will not bring me any benefit. I will pay them completely with pre-tax dollars.

Well, you might say that's fine because I'm not paying any taxes anyway so why should I get a tax benefit. Oh, but I am paying taxes and so are millions of other people who pay no income taxes. I still have to pay payroll taxes and there are no deductions available to me to reduce the amount of tax I pay on those.

Not only that but the benefit I derive from my mortgage deduction is dependent on how much money I pay in taxes and what rate I am taxed at. That means that my neighbor who bought his identical house at the same time and for the same price as me but is in the next higher tax bracket will actually get a larger tax reduction for the same amount of mortgage interest than I will. And I will get a larger deduction than the person in the bracket below me and we will all get more money than the person who doesn't make enough to pay income taxes.

hmmm. . . starting to look a bit like socialism in reverse. Don't get me wrong, I like my interest deduction and, possibly, couldn't afford to stay in my house without it. I do question, however, why my richer neighbor needs greater assistance in the form of tax reductions when he has greater resources to do without. At a minimum one might think that we should get the same reduction.

Ah, you say that he pays more to begin with because of his higher tax bracket. Sounds true, let's look at this a little closer. My wealthier neighbor, assuming he hasn't lost it all in the recent market collapse, has more money than I do and so he's been able to invest in the stock market and has had amazing returns over the previous 10 - 15 years. I'm sure he pays taxes on that money though, right? Well. . . to some degree. You see, his investments, as long as they aren't of a "speculative" nature, are taxed at the much lower rates assigned to income from, so-called, capital gains. This is money you make off of an investment, any investment, rather than from your own work. The rationale is that we want to encourage investment to stimulate economic growth and so we tax investments at a lower rate than regular income.

That also sounds fine on the surface but when we look closer we find that the definition of investment is so broad as to be meaningless in terms of the intent of the reduced capital gains tax rate. An example, you've all heard of hedge funds, right? The funds open only to the wealthiest of investors. Returns on "investments" in hedge funds are classified as captital gains, as are the incomes of the fund managers themselves, cool huh? So what do hedge funds invest in to drive the economic growth engine?

Here's an example:

Here's an oversimplification of what that link describes. You take some amount of your client's money, say 10 million, and convert it to Yen. You then use that Yen bank account to leverage that into a larger amount, say 100 million dollars worth in a Yen loan at practically 0% interest. Take that and convert it back into dollars where you deposit it in a CD earning 4% interest. You are now earning 4% on 100 million dollars, minus transaction fees. But, since only 10 million of that is your money you're actually earning much much more. Over the course of the year you've made roughly $4 million on your $10 million investment. Cool! By the way, this is a part of how our financial markets melted down.

Now, what did you invest in? The local car dealership? A factory? How did you create any jobs there? Let's cut to the chase, you didn't! You simply multiplied your money because of the access you have to financial leverage. Yes, you can lose a lot if the Yen rises or something else occurs that throws the wrench into your plans. That's the speculative nature of the beast. Get that, speculative. However, if the investment time frame is long enough, I think 3 months, then the government will tax your profits at the lower capital gains rate. And, of course, you'll pay no payroll taxes on it either because you already make more than the maximum subject to payroll taxes.

Seems like the government has paid for more of your house and given you a favorable tax rate on a big chunk of your income. Did you know that this is the same way that most corporate executive income is taxed as well? Most executives earn the lion's share of their income through stock options and other related mechanisms. Done properly, and don't think they don't do it properly, they can take home that "pay" at the capital gains tax rate! Isn't that at least pay for work? Oh well, at least we know they've earned that money, right? I mean, with the exception of all those CEOs who drove their companies in the ground while bailing with platinum parachutes.

We could go on here. With the exception of direct payments for things like medicare and social security etc., the wealthy in this country benefit disproportionately from everything ranging from our judicial system to the transportation infrastructure and our educational system. How can that be? I'll save that all for another rant soon. This one's too long as it is. Suffice it to say, that the great wealth of this nation was not built solely by the sweat equity of the men, mostly, and women who own most of it. The system of laws, the productivity of the workers and infrastructure built by us all made it possible to create the great corporations of our world. The same is true of every industrialized western nation. Where this great physical and intellectual infrastructure is lacking, you have narrow economies based on commodities or cheap labor and even the rich are in jeopardy of losing their wealth to caprice of the state. We're told the rich will leave and invest elsewhere. Maybe. They may choose to invest their speculative capital in any number of risky places but that capital doesn't benefit our nation anyway. When it comes to investing for the long term and building something of substance, investors will choose to live and invest here in the US or other equally friendly, stabile and free market oriented economies.

Or maybe they'd like to try Russia?

No comments:

ss_blog_claim=e6732b5b3a7e9fb6c37425eb3bbbc640 ss_blog_claim=e6732b5b3a7e9fb6c37425eb3bbbc640