“When you buy something for one price, and later sell it for a higher price, that’s called a “capital gain.” In tax lingo, you “realize” a capital gain when you ultimately sell the asset. If the asset gains in value without you selling it (e.g., a stock you own rises in price), those gains are “unrealized.”
The capital gains tax in the US has a “realization requirement”: You have to actually sell the asset to be taxed. This creates an easy way for rich people to avoid taxes, by simply waiting to sell.
Imagine a 20-something who starts an internet company called FriendCo with his college roommates. Let’s call him Mark. (While I’m obviously basing Mark on somebody real, I’m going to simplify the real numbers a lot to make it easier to follow.)
At FriendCo’s founding in 2004, Mark and his four roommates each took 10 percent of the company, with the other half to be sold to investors. At the start, their shares were worth $0. But their website took off fast and soon had 1 billion users. The company went public in 2012, at a market value of $100 billion. Mark and his roommates’ shares were worth $10 billion each.
At this point, the company stands still and remains worth $100 billion forevermore (I told you I was going to simplify).
If Mark sells all his shares in 2012 after the company goes public, he’d pay taxes on the amount that the shares increased. They were worth $0 at first, and are now worth $10 billion. The top rate on capital gains in the US is 23.8 percent, so he’d pay $2.38 billion in taxes.
Suppose, instead, Mark decides to keep all his shares until he retires 40 years later, in 2052. Assuming the tax code doesn’t change, he’d still pay $2.38 billion. That, right there, is the problem.
Being able to pay a tax bill decades in the future, instead of right now, is a huge benefit. If I told my landlord that I would prefer to pay my rent 40 years from now, she would not find that very amusing. At the very least she would demand that I pay a lot of interest for paying so late. Other big purchases, like houses and cars, usually do involve paying a ton of interest in exchange for later payments. Capital gains taxes don’t.
The “realization requirement” of the capital gains tax thus functions like a massive, zero-interest government loan to people who’ve gained money on their investments. They’re able to save huge sums in taxes merely by waiting to sell their assets, and not paying any interest while they wait.
This is unfair; if you can afford to wait and not sell, you get a big tax break, but if you can’t afford that, you don’t. But the rule can also cause serious economic harm. By pushing people to hold onto investments longer than they normally would, it keeps them from moving their money to newer investments. That makes it harder for startups and other innovative firms to get the money they need to grow, leading to less innovation and slower economic growth.
The problem is compounded by other aspects of the US tax code. If Mark were to never sell his shares and instead pass them along to his children, they would not have to pay capital gains tax on the gain. In fact, if they were to later sell the shares, they would only pay tax on the difference between the value of the shares when they sell, and the value when they inherited them. (This is called “step-up in basis” or, more evocatively, the “angel of death loophole.”) So if the shares remain at $10 billion, the children can sell them and not pay a dime in capital gains tax. The rich are talented at evading the estate tax, too, so it’s very possible that Mark’s fortune will be completely untaxed.”
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“The Biden proposal is meant to make the ultra-rich pay more. The strategy is simple: get rid of the realization rule.
For people with over $100 million in assets, the proposal would put in place a new tax regime. For easily sold assets with clear prices, like stocks and bonds and crypto, gains in value would be taxed during the year they happen, whether or not the assets are actually sold. Taxpayers would be able to get refunds if the assets later fell in value.
Andreessen, Horowitz, and other Silicon Valley types fret about what this would mean for startup founders whose companies haven’t gone public yet. These founders may be billionaires on paper but do not have any actual cash with which to pay taxes.
If these VCs had read the fine print of the plan, they’d see that someone in this situation would not have to pay taxes yet. If more than 80 percent of a person’s net worth is in “illiquid assets” like private company shares, they would not have to pay annual tax on those assets. If they sold the assets, they’d pay the tax plus a “deferral charge,” a kind of interest for paying the tax years after they gained the money. Should the company go public or be acquired, the situation would change — but also the newly minted billionaire would suddenly have liquid assets with which to pay their tax bill.
This is all somewhat academic, though, after the Supreme Court’s June 20 ruling in Moore v. United States. While the decision itself concerned a minor provision in the Trump tax cuts, one justice, Amy Coney Barrett, wrote a concurring opinion arguing that realization is required for a capital gains tax to be constitutional. As my colleague Ian Millhiser notes, Justice Brett Kavanaugh’s majority opinion hinted pretty strongly that he’d side with Barrett on the matter, while deferring on a ruling for now.
If the Barrett view has at least five supporters on the Supreme Court, then the Billionaire Minimum Income Tax is dead in the water.”
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“I do not know of a single honest defense of the angel of death loophole, but unfortunately there are many deeply dishonest defenses. Former Sen. Heidi Heitkamp (D-ND) spent much of 2021 claiming that realization at death would obliterate family farms in the Plains, for which she offered literally zero evidence. Alas, the gambit worked.
In theory, though, a future Congress could still close the loophole. They could go further still and pass law professors Edward Fox and Zachary Liscow’s plan to tax the loans billionaires currently use to generate tax-free cash. The most ambitious option would be to add deferral charges to the capital gains tax, so the rich have to pay the government interest when they defer taxes by not selling their assets.”
“In a 2019 paper, economists Jeffrey Liebman and Daniel Ramsey ran through the changes the US would have to make to adopt this system of exact-withholding. Under this approach, used by the UK, Japan, and others, “the majority of taxpayers do not need to file tax returns. Instead, these countries use withholding systems in which the correct amount of tax is withheld during the year.”
That could be us — so why isn’t it? They offer four big aspects of the US tax code that prevent it.
The first is the complex system of benefits for families with children. Creating a simple monthly child benefit would solve that.
The second is that capital income like interest and stock capital gains aren’t “taxed at the source”: your broker doesn’t automatically tax, say, 30 percent of the proceeds from selling stock and send it to the IRS. Creating a flat tax on capital imposed at the source would eliminate filing requirements for most people with this kind of income.
Third is the numerous deductions in the tax code. Most of these, like the mortgage interest or charitable deductions, don’t come up much in VITA because it’s almost always more advantageous for clients to claim a standard deduction — but things like the education credits do come up, and removing them would simplify our clients’ lives.
Fourth and most important is eliminating joint returns and moving to individual-based taxation. Joint filing makes precise withholding much more difficult because employers would need to know the earnings of each of their employees’ spouses in order to withhold correctly. If everyone’s taxed as an individual, then eliminating joint filing wouldn’t mean couples would have to file two returns: They’d have to file zero because precise withholding would be possible.”
“With the passage of state laws intended to restrict access to abortion, some companies like Bumble, Yelp, and Salesforce have announced programs to assist employees who have to travel to other states in order to obtain the procedure. After the apparent leak of a draft Supreme Court opinion which would overturn the right nationwide, Amazon announced that for any employees who have to travel in order to receive an abortion, it would reimburse up to $4,000 annually.
Last week, Sen. Marco Rubio (R–Fla.) responded by threatening legislation.
Employees’ health care costs are typically tax deductible as business expenses for their employers. Rubio’s bill, the No Tax Breaks for Radical Corporate Activism Act, would bar a company from deducting the costs of reimbursements not only for abortions but also for gender-affirming medical treatments for transgender children. In a statement accompanying the legislation, Rubio said, “Our tax code should be pro-family and promote a culture of life.”
But directly disincentivizing behavior is a fundamental misuse of the tax code, and it’s unlikely to work anyway.
To be sure, government policies are inherently incentivizing: For example, laws against robbery and murder are intended to keep people from robbing and murdering. Regarding taxes, people with incomes near the top of their tax brackets are disincentivized to increase their income, to avoid paying a higher rate.
But writing specific incentives into the tax code is an inherent market distortion, where politicians choose what products and activities they think people should be buying and partaking in. This can take the form of cronyism when certain types of products are favored. Even something as seemingly benign and beneficial as a tax credit for purchasing electric vehicles can just become a giveaway to favored companies. Additionally, when a benefit exists, it makes it that much easier for a politician to threaten to take it away: Even the health cost deduction Rubio is targeting is, itself, a distortion that incentivizes employer-provided health insurance plans.
Politicians use the tax code to achieve social policy goals because it is typically easier to insert a targeted tax credit than to pass a bill creating a new welfare program. But in practice, these carve-outs make everything more complicated: When the various COVID-19 relief bills apportioned money for stimulus checks, even with funding for additional staffing, the Internal Revenue Service (IRS) was slammed with calls from people awaiting their payments. When the tax code is the means by which benefits are distributed, then the tax collectors must also function as a social services agency.
Worse, it’s not even apparent that these benefits have their desired effect. A 2014 study of a tax on high calorie foods showed that such a tax can lead to more purchases of high calorie foods. In 1997, Iris Lav of the Center on Budget and Policy Priorities, a progressive think tank, told The New York Times, “There’s very scant evidence that the tax code has ever changed people’s behavior.”
Ironically for Rubio, this used to be Republican orthodoxy. In 1964, Ronald Reagan declared, “We cannot have [true tax] reform while our tax policy is engineered by people who view the tax as a means of achieving changes in our social structure.” But since then, Republicans as well as Democrats have used the tax system as a shortcut to achieving their desired policy outcomes. As a result,filing one’s annual taxes is an expensive, grueling process.
To the extent that taxation has any legitimate purpose, it is to fund the basic function of the federal government. Anything further, like incentivizing family or “a culture of life,” is simply government coercion by another name.”
“Trump’s business model, which goes something like this: Launch several businesses, many of which hemorrhage millions of dollars each year, and use the publicity from those businesses to make money on personal branding. The latter is highly profitable, earning Trump $427.4 million between 2004-2018. The losses from the former—his hotels and resorts for instance—are then used to largely offset his tax liability.
The Times’ report does erode the savvy businessman brand Trump has sought to cultivate for himself, both commercially and as a candidate for office. The president is not necessarily the astute entrepreneur he claims to be, though he may be uniquely skilled at making money by wasting money. His most high-profile business successes—his golf courses—have reportedly lost $315 million since 2000. The Trump International Hotel in Washington, D.C., just opened in 2016, has already lost $55 million, both numbers according to the Times.
Losing money for a living is certainly an unorthodox business model, but that doesn’t make it illegal.
Trump’s deductions don’t stop there, however. There’s also the $9.7 million tax credit Trump claimed to renovate the Old Post Office building in Washington, D.C., which would later become the aforementioned Trump hotel. That fell under the historic preservation tax clause, an entirely legal tax incentive meant to encourage the redevelopment of old structures.
It could be legally problematic, or just another revealing symptom of U.S. tax law, that Trump has claimed millions of dollars in unspecified consulting fees on various business projects, which typically amounted to 20 percent of his income, according to the Times. Ivanka Trump was allegedly the recipient of hundreds of thousands of dollars in such consulting fees. The president also declared $1.4 billion in business losses in 2008 and 2009. An IRS audit is ongoing.”
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“Our tax code, which Bishop-Henchman says was written in the style of a “phone book,” is replete with overly complex rules and regulations meant to influence the public’s economic behavior. Former Vice President Joe Biden is no stranger to this. “I have nothing against Amazon,” he wrote in June of 2019, “but no company pulling in billions of dollars of profits should pay a lower tax rate than firefighters and teachers. We need to reward work, not just wealth.” The tech behemoth paid no federal taxes in 2018 after making use of legal tax incentives established by Congress, of which Biden was a member for 36 years. For example, Amazon invested $22.6 billion in research and development in 2017, something the legislature hopes will spur job creation and economic growth.”