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Reagan’s Tax Shock

Wall Street has always claimed that income from investments is entitled to lower taxes than other income. As The Street sees it, investments in the market deserve tax breaks because they grow jobs, grow companies, and stimulate the economy.

A tax system tied to that belief is a major driver of rising income inequality. Congress could bend the curve by restoring Ronald Reagan’s 1986 shock: equal taxes on income from wealth and income from work. The idea is back and thriving, as we’ll learn. First, let’s take a hard look at the Wall Street claim.

Buying stocks doesn’t grow jobs or grow the economy, it grows portfolios. The money that’s invested doesn’t go to companies, it goes to the prior owners of the stock. In fact, through dividends and stock buybacks, shareholders take money out of companies rather than put it in; they’re a drain on company funds, not a source.

Billions of shares trade hands every business day. Except for the tiny number that raise money for the issuing companies, it’s all just white noise. There’s no real reason for preferential taxes on investment income.

President Reagan tacitly admitted as much with his signature Tax Reform Act of 1986, which levied equal taxes on capital gains, dividends and ordinary income such as wages.  At the signing ceremony, he called the bill “a sweeping victory for fairness” and “the best job-creation program” ever to come out of Congress. Equal taxes soon reverted to unequal, and became more so with the Bush tax cuts of 2001 and 2003 (true, new levies in 2013 did reduce the spread for the most affluent.) Today though, Reagan’s policy is on the rebound.

In 2010, when the federal deficit preoccupied all the Very Serious People in Washington, two bi-partisan groups looked at ways to put the nation’s fiscal house in order. The first was a Congressional body, President Obama’s debt commission, commonly known as Simpson-Bowles; the second was the Bipartisan Policy Center, a top D.C. think tank. The blueprints they drew up differed in many specifics, but in the large not so much. Both called for lower marginal rates and a broadened tax base, the pillars of the 1986 reform. Both broadened the base in large measure, as Reagan did, by taxing all income at the same rates.  

Three billionaires say aye, each from a distinct vantage point.

Warren Buffett long ago famously asked why he should pay taxes at a lower effective rate than the secretaries in his office. The hedge fund guru Stanley Druckenmiller has spoken out at college campuses about America’s fiscal stacking of the deck against the young, in favor of the elderly. Tax favors for dividends and capital gains help fuel the unfairness, Druckenmiller says.

Pimco co-founder Bill Gross is the latest equal-tax convert; he published his epiphany in the investment giant’s November newsletter. Gross wrote with feeling about “the plight of labor.” He talked about his wealth having piled up on the backs of workers, about guilt setting in. Finally, this coda: “The era of taxing ‘capital’ at lower rates than ‘labor’ should now end.” Gross also said he had company: Stanley Druckenmiller and Warren Buffett.

President Obama grasps the damage being done by America’s runaway income inequality. As he said in early December, “it challenges the very essence of who we are as a people.” It also challenges him. The president should urge the nation toward greater equality, and make the case for equal taxes on income from wealth and income from work.

It isn’t about redistribution, it’s about tax fairness. Americans understand fairness, as The Gipper well knew.     

Gerald E. Scorse helped pass the bill requiring basis reporting for capital gains. His articles on investment taxes have appeared in newspapers across the country. 

Notes.

“For stocks, mutual funds and bonds…Congress now requires brokerages to report the basis of these investments, a reform wrought partly after my reporting on this issue and the work of others, including Gerald Scorse, who pressed this issue with lawmakers.” – pp. 271-2 of the David Cay Johnston book, The Fine Print.

 
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