Obama's Soak-the-Rich Tax Hikes Won't Work

It’s hard to keep track of all the tax hikes that President Obama is proposing, but it’s very simple to recognize his main target – the evil, nasty, awful people known as the rich.

Or, as Obama identifies them, the “millionaires and billionaires” who happen to have yearly incomes of more than $200,000.

Whether the President is talking about higher income tax rates, higher payroll tax rates, an expanded alternative minimum tax, a renewed death tax, a higher capital gains tax, more double taxation of dividends, or some other way of extracting money, the goal is to have these people foot the bill for a never-ending expansion of the welfare state.

This sounds like a pretty good scam, at least if you’re a vote-buying politician, but there is one little detail that sometimes gets forgotten. Raising the tax burden is not the same as raising revenue.

That may not matter if you’re trying to win an election by stoking resentment with the politics of hate and envy. But it is a problem if you actually want to collect more money to finance a growing welfare state.

Unfortunately (at least from the perspective of the class-warfare crowd), the rich are not some sort of helpless pinata that can be pilfered at will.

The most important thing to understand is that the rich are different from the rest of us (or at least they’re unlike me, but feel free to send me a check if you’re in that category).

Ordinary slobs like me get the overwhelming share of our income from wages and salaries. The means we are somewhat easy victims when the politicians feel like raping and plundering. If my tax rate goes up, I don’t really have much opportunity to protect myself by altering my income.

Sure, I can choose not to give a speech in the middle of nowhere for $500 because the after-tax benefit shrinks. Or I can decide not to write an article for some magazine because the $300 payment shrinks to less than $200 after tax. But my “supply-side” responses don’t have much of an effect.

For rich people, however, the world is vastly different. As the chart shows, people with more than $1 million of adjusted gross income get only 33 percent of their income from wages and salaries. And the same IRS data shows that the super-rich, those with income above $10 million, rely on wages and salaries for only 19 percent of their income.

This means that they – unlike me and (presumably) you – have tremendous ability to control the timing, level, and composition of their income.

Indeed, here are two completely legal and very easy things that rich people already do to minimize their taxes – but will do much more frequently if they are targeted for more punitive tax treatment.

1. They will shift their investments to stocks that are perceived to appreciate in value. This means they can reduce their exposure to the double tax on dividends and postpone indefinitely taxes on capital gains. They get wealthier and the IRS collects less revenue.

2. They will shift their investments to municipal bonds, which are exempt from federal tax. They probably won’t risk their money on debt from basket-case states such as California and Illinois (the Greece and Portugal of America), but there are many well-run states that issue bonds. The rich will get steady income and, while the return won’t be very high, they don’t have to give one penny of their interest payments to the IRS.

For every simple idea I can envision, it goes without saying that clever lawyers, lobbyists, accountants, and financial planners can probably think of 100 ways to utilize deductions, credits, preferences, exemptions, shelters, exclusions, and loopholes. This is why class-warfare tax policy is so self-defeating.

And all of this analysis doesn’t even touch upon the other sure-fire way to escape high taxes – and that’s to simply decide to be less productive. Most high-income people are hard-charging types who are investing money, building businesses, and otherwise engaging in behavior that is very good for them – but also very good for the economy.

But you don’t have to be an Ayn Rand devotee to realize that many people, to varying degrees, choose to “go Galt” when they feel that the government has excessively undermined the critical link between effort and reward.

Indeed, if Obama really wants to “soak the rich,” he might want to abandon his current approach and endorse a simple and fair flat tax. As explained in this video, this pro-growth reform does lead to substantial “Laffer Curve” effects.

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But you don’t have to believe the video. You can check out this data, straight from the IRS website, showing how those evil rich people paid much more to the IRS after Reagan cut their tax rate from 70 percent to 28 percent in the 1980s.