(Danny Tarkanian) – Last week, I discussed how unfair our federal income tax system is to the middle class. The average tax rate for 400 billionaires is 5% less than the average tax rate for the rest of us, while 40% of the people pay no taxes. Nineteen of the most profitable corporations pay little to no income tax, with some even getting a refund of your tax dollars.
Our federal tax code is 2,652 pages with well over a million words. When you include the federal tax regulation and the official tax guidance, the number of pages is approximately 75,000. It would take an average reader 14 weeks to finish.
The tax code is long and complicated for a purpose. It is littered with tax deductions, credits and loopholes for special interest groups and wealthy, powerful individuals. It allows politicians, who are more concerned about being re-elected than doing what is fair, to influence millions of dollars in tax payments, and it keeps most Americans in the dark about its inequities.
The following are just a few examples of the inequity in our tax system and how rich and powerful individuals and businesses take advantage of the system to pay far less in taxes than they should.
CAPITAL GAINS VS. ORDINARY INCOME:
Long-term capital gains are taxed at a lower rate than ordinary income. The top tax rate for capital gains is 20%, while the top tax rate for ordinary income is 37%. In addition, the employment tax (FICA), which is 7.65% or 15.3% if self-employed, is not paid on capital gains but is paid on earned income, which is treated as ordinary income.
Billionaires typically run large companies and receive most of their compensation in stock options. When they execute their options and sell the stock, they pay a little more than half the tax rate as the person being paid a salary or wage earning the same amount.
The richest 0.5 percent of taxpayers receive 70.2 percent of all long-term capital gains.
The argument for a lower rate is that capital gains is investment income which has already been taxed once. However, the tax does not apply to the income already taxed, it only applies to the additional income earned.
Taxing investment income at this lower rate reduces our county’s taxable income by $130 billion per year.
Carried interest is a form of compensation paid to investment executives like private equity, hedge fund and venture capital managers. The managers receive a share of the fund’s profits for managing other people’s money.
The money is treated as a return on investment and is taxed at the top capital gains rate of 20%, rather than the 37% top rate that applies to wages and salaries, even though it is earned by working for it, just as a janitor would work for his income.
There has been an effort to change this injustice several times, but the lobbying influence of these investment executives is too powerful.
BORROWING MONEY IN LIEU OF SELLING STOCK
Many billionaires, such as Jeff Bezos, borrow money against their stock holdings to pay for their lifestyle instead of selling their stock. Borrowed money doesn’t count as income so they don’t have to pay taxes on it.
By borrowing money against their stock holdings, they’re able to lock in a lower loan interest rate than what they would pay through capital gains taxes that are applied after a stock is sold.
STEPPED UP BASIS ON INHERITANCE ASSETS
Stepped-up basis allows people to pass their assets to their heirs without paying taxes on the asset AND raising the basis of the asset to its current value.
If an asset was purchased for $10,000 and sold for $100,000 before the person died, the person would pay $18,000 in capital gains tax (.20% of $90,000) but if the asset is sold for the same amount after the person dies his/her heir would not have to pay any taxes.
There is a limit to this loophole. After $12.92 million the estate must pay taxes on the assets left to its heirs.
This loophole reduces our county’s taxable income by $65 billion per year.
ABUSE OF BUSINESS DEDUCTIONS:
People who own their own businesses can deduct most of their travel, food, and entertainment expense as a business deduction. It allows business owners the opportunity to save up to 37% on most of their expenses.
A large loophole at the heart of U.S. tax law enables corporations to avoid paying taxes on foreign profits until they are brought home. US corporations save $90 billion a year in income taxes by shifting profits to subsidiaries, which are often no more than a post office box, in tax haven countries.
US Corporations hold $3.1 trillion in profits offshore that has not been taxed in the United Staes. These companies have been lobbying for a one-time tax holiday allowing them to transfer this money back to the United States tax free. Why not, it’s the American Way!
To eliminate this egregious loophole, all our politicians would have to do is pass legislation requiring these corporations to pay taxes on offshore income the year it is earned.
A 1031 exchange is a swap of one real estate investment property for another that allows capital gains to be deferred. It allows the investor to continue to earn a profit on the entire value of the real estate sold without paying taxes.
For example, if real estate was bought for $50,000 and sold for $100,000 the investor would pay $10,000 in taxes ($50K profit x 20% capital gains) and re-invest the remaining $90,000. With a 1031 exchange the investor gets to re-invest the entire $100,000. In effect, the investor gets a $10,000 interest free loan.
There is no limit on how often an investor can do 1031 exchanges. The capital gains from each sale can be deferred as long as the investor wants to continue to invest the full amount of proceeds.
We hear continual complaints about wealth disparity in America but there is little movement to change our federal tax laws which are a big cause of this disparity.