Taxes & Generational Equity: Federal Taxes in 2020

For the past four decades, the retired, the rich and (in some states such as New York) selected public employees and unionized employees of government contractors have become richer and richer, while ordinary workers in the private sector have become poorer and poorer.   It is estimated, for example, that the average Millennial is paid 25 percent less than the average Baby Boomer had been at the same age. 

https://www.wsj.com/articles/playing-catch-up-in-the-game-of-life-millennials-approach-middle-age-in-crisis-11558290908

At the same ages, Gen X men working full time and who were heads of households earned 18% more than their millennial counterparts, and baby boomer men earned 27% more, when adjusting for inflation, age and other socioeconomic variables.  Among women, incomes were 12% higher for Gen Xers and 24% higher for baby boomers than for millennials, using the same measures.

If one ignores the rising level of education, labor force participation and pay of women since 1980, this is a trend that actually started with those at the back end of the Baby Boom, who have been disadvantaged compared with earlier-born generations, those now in retirement, for their entire lives. After I called for a study of Social Security records some years ago, one found this.

Adjusting for inflation, the median male worker born in 1958 earned just 1 percent more during his career compared with the median man born 27 years earlier, in 1932. In fact, the median male born in 1958 earned 10 percent less during his career compared with the median male born 16 years earlier, in 1942. The lack of progress of mid-level male earners is not a surprise, of course. We know the median real hourly wage received by men reached a peak sometime in the 1970s. It has not surpassed that peak in any year since the 1970s, and in many years it has been far lower.

And yet it is work income that has been taxed more heavily over the past four decades.  Retirement income has received the same exemptions, and in fact even more exemptions, compared with the time when each generation was richer than the one preceding, rather than poorer, and seniors were more likely than working-age adults to be poor, rather than less likely to be poor.   And investment income has come to be taxed far less than work income.  At the federal level, one by one, both political parties have supported most or all of these tax deals to benefit the retired, rich, and the other organized selfish.  What does it add up to?  Let’s fire up the Turbo Tax and find out.

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This is the second post in a series on taxes and generational equity, using TurboTax and other information.  It compares three prototypical Brooklyn couples:  the Young Hopefuls, with work and unemployment income of $81,600 in 2020.  The Senior Voters, early-retired NYC teachers with $203,600 in cash retirement income, and extensive government-funded health benefits on top of that.  And Chad the Private Equity Guy and his new wife Trixie, who typically get more than $5 million in investment income each year, but took advantage of the big dip in asset prices in 2020 to realize some capital losses, before racking up unrealized and as of yet untaxed capital gains once yet another federal bailout of asset prices kicked in.  This reduced their 2020 net income for tax purposes to $200,000 in capital gains.

The initial post, which went into detail on the circumstances of these prototypical couples and their overall tax burden, is here.

The data shows (once again) that the Young Hopefuls paid 25.1% of their income of $81,600 in taxes in 2020.  The Senior Voters only paid 17.3% of their much higher income of $203,600.   As although Chad and Trixie paid 30.7% of their income of $200,000 in taxes, that is only because they live in an expensive place with high property taxes.   Federal taxes alone cost the Young Hopefuls 15.1% of their income, compared with 13.6% for the Senior Voters and just 7.1% for the Chad and Trixie. 

Moreover, the amount the Young Hopefuls have to pay for Obamacare nearly tripled from $2,693 in 2014, the last time I did this analysis, to $7,392 in 2020, or an additional 9.0% of their income.  New York State is the only state that charges young adults, and those of parenting age, as much for Obamacare as it does 64-year-olds, forcing the young to further subsidize the old.  (According to federal Obamacare legislation, there can be a variation of up to three-times in premiums by age).  And government and government-mandated health care spending is a higher percent of GDP in the United States than total health are spending is in developed countries, as I showed here.

Which makes the burden on those younger of paying for those older (who, on average, have been richer) even greater.

For now, let’s focus on federal taxes, and this chart.

In general the executive/financial class has ruled the federal government, and the political/union class has ruled state and local governments in some places (including New York), over the past 30 or so years.  This power is reflected in the tax code.  At the federal level, however, these two classes have one thing in common. Relatively little of their income is in the form of “ordinary” work income – wages, salaries and self-employment income, which the federal government taxes twice.  More of it is in the form of untaxed employer-provided benefits, pensions and other retirement income; and investment income taxed at a lower rate.  For the serfs highly-taxed work earnings is often all they get.  

The ignorant view is that while sales (consumption) and property taxes are generally “regressive,” falling harder on those who earn and have less, while income taxes are “progressive,” falling harder on those who have and earn more.  Some people continue to believe this, based on what a political science professor told them in college. That view, however, is shown to be false once generational equity and the payroll tax are taken into account.

Even considering the federal personal income tax alone, the tax burden is not as progressive as it first seems.  It is true that the Young Hopefuls pay only 4.7% of their income for that tax, while the far richer Senior Voters pay 13.6%.  But is also true that Chad the Private Equity guy and Trixie would pay only 7.1% of their purported incomes in federal income tax, far less than the Senior Voters even though their income was approximately the same.  That is because investment income in general, and capital gains income in particular, is taxed far less at the federal level than either work or retirement income.

Having investment income taxed at a lower rate than work income started with the administration of Democrat Bill Clinton, the first Baby Boomer President, who wanted to help the Democrats compete for Wall Street and Silicon Valley campaign contributions.   The tax rate on capital gains was decreased in the 1990s after the tax rate on work income had been increased several times starting in the early 1980s, including a payroll tax increase in the Reagan Administration (the largest tax increase in U.S. history at the time) and personal income tax increases in the George HW Bush and Clinton Administrations.

https://www.taxpolicycenter.org/taxvox/who-benefits-zero-percent-tax-bracket-capital-gains-and-dividends

The 2003 tax cuts created the zero percent bracket for long-term capital gains and qualified dividend income, which went into effect in 2008. Supporters argued that lowering taxes on capital gains and dividends would boost growth, reduce double taxation, and help middle-class seniors.

That’s the administration of Republican George W. Bush, or Bush the Second.  Evidently having the same work income taxed under both the federal payroll tax and the federal income tax is not double taxation, but having capital gains and dividend income taxed at all is double taxation.

After the dot.com bust of 2000, people discovered that top executives had taken advantage of market enthusiasm to cut corporate dividends, and instead use profits (real and imagined) for buybacks and other financial maneuvers to temporarily increase stock prices, and thus their bonus pay.  After the bust, ordinary shareholders were left with neither dividends nor capital gains, even as executive pay soared. The executives blamed the fact that dividends continued to be taxed at regular rates, compared with the lower rates for capital gains, for their decision to avoid paying dividends. So the tax rate on dividends was cut to match the lower capital gains rate.

Even so, the dividend yield never increased to anything close to the historical average, and executive pay never fell.  Today, even so-called “progressives” continue to side with campaign-contributing and lobbying C-suite executives against shareholders, by lumping dividends in with capital gains in legislation designed to limit excess profits.  While the federal government continues to act to re-inflate asset prices relative to actual (let alone sustainable) earnings, to allow high executive pay to be justified.

The 2012 tax bill made the lower rates permanent for most filers.  

Democrat Barack Obama was in office, and running for re-election.

Then Donald Trump was elected promising to turn the Republican Party into a workers party, and make rich people like himself pay their fair share. Remember that promise?  But after the Republican congress passed his tax bill, the only thing his administration actually got done, the amount of total income someone could get and still pay zero taxes on the first $80,000 in investment income went up.

What do they mean when they say that taxes on capital gains are double taxation?  The argument goes like this.  Two households receive the same income.  Household one spends it all immediately.  Household two saves it, and invests it in something that could benefit the larger community – like a business, building, research and development, plant and equipment. They might lose all that money. The investment may increase in value by no more than the rate of inflation, leaving them with a taxable gain on paper but none in reality.  Or they might get a real capital gain.  In that case, why should they be taxed a second time, since they already paid taxes in the “ordinary income” they got to start with?

There are two flaws in that argument.  

First, wealthy people such as Chad the Private Equity guy now get almost all their income in the form of investment income in general, and capital gains in particular.  They never paid much of anything on any “ordinary income” the first time.  

Second, there is very minimal investment in the United States in something that could benefit the larger community – like a business, building, research and development, plant and equipment. Yes, there are Venture Capitalists out in California on Sand Hill Road in Menlo Park, who still do that kind of investing.  Increasingly, however, they are only willing to invest in companies that they believe have the potential to become, or be bought out by, a massive e-monopoly or near monopoly firms such as the so-called FAANGs (Facebook, Apple, Amazon, Netflix, Google).

More and more, moreover, what you have instead are Hedge Fund Guys, who are basically engaged in a zero-sum high stakes poker gain with no money added to the table until there is a government bailout to “save the financial system” and “prevent a great depression.”   And Private Equity guys, equity strippers who take over existing viable businesses (and properties), load them with unsustainable debts to take cash out off the top, and then drive them into bankruptcy.   And financial sharecropping plantation owners, who invest in the debts people run up to live what used to be considered a middle class U.S. life, but is now unaffordable on their lower incomes.

People who actually start new, independent businesses?  They are taxed up the wazoo, especially in New York.

Thus the lower federal personal income tax burden on Chad the Private Equity guy and Trixie compared with the Senior Voters, on approximately the same income.  If, however, the Young Hopefuls had the exact same work income as the Senior Voters, then they would pay even more in federal income taxes.  Because the first $20,000 in Social Security income is exempt from tax, meaning the Senior Voters would appear (for tax purposes) to be $20,000 poorer than the Young Hopefuls.

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The real unfairness for the Young Hopefuls, however, and the real reason why they pay a far higher percent of their incomes in federal taxes than either the Senior Voters or Chad the Private Equity Guy and Trixie, is found in the payroll tax, which really is double taxation.  Neither the rich nor the retired pay the federal payroll tax, which in theory is dedicated to Social Security and Medicare, on their capital gains, investment and retirement income.  That’s why among our three prototypical couples, only the Young Hopefuls have to pay it.  Note the federal chart again.

The payroll tax falls on wage and self-employment income alone.

https://www.ssa.gov/oact/cola/cbb.html

For wage and salary employees, the payroll tax rate is nominally 7.65% of wage income for the employee and 7.65% of wage income for the employer, for a total of 15.3%.  Of this amount 12.4% in total and 6.2% for each is only assessed on (in 2021) the first $142,800 in income.  So not only is the tax limited to cash work earnings only, but also it absorbs a lower percent of that income for those earning over $142,800. For someone earning $200,000, the tax would absorb just 11.7% of the total wage base, not 15.3%, because the dollars from $142,801 to $200,000 would be untaxed.

I use the word nominally for the employer and employee shares because of the concept of “tax incidence” – the person or entity on which a tax is assessed isn’t necessarily the person or entity that actually pays it. That cost could be shifted to someone else, depending on what happens in the labor or consumer marketplace. In theory that entire 15.3% payroll tax might be paid neither by the employer nor the employee, but rather by the customers, as it is included in the price of goods and services. Or the employees might try to shift their share to employer by holding out for higher wages, to offset the payroll tax they have to pay.  

It is more likely, however, given the way the labor market has worked for 45-plus years, that the employees are paying the employee share AND the employer share, the latter in lower wage increases.  After all, wage increases have certainly been fatter for those over the payroll tax limit in recent decades.  For those higher-paid workers, a raise does not also require a higher employer payroll tax contribution.

There is no doubt, moreover, that the worker pays the entire 15.3% if they are self-employed.  As it happens, self-employed “freelancers” and “contract workers,” including quite a few “permalancers,” are a growing share of the workforce, particularly among later-born generations.  Employers are required to offer non-wage benefits equally to all employees, to have those benefits exempted from federal income taxes.  So at first, the tax exemption for benefits such as pensions and health insurance led to more equal compensation for employees. But businesses can get around this requirement – and other labor protections – by deciding that their later-hired employees are not actually employees.  And that is what has been happening.  As I noted here…

Among non-farm workers, the self-employed accounted for 13.5% of U.S. private sector jobs in 1969, 18.3% in 2000, and fully 25.0% in 2019.  New York City once had relatively more actual private wage and salary jobs, and less self-employment, as a share of the private sector total.   The self-employed accounted for just 9.0% of total private employment in 1969 and 15.2% in 2000, but this had risen to 26.0% of the total in 2019, more than the national average.   These days even assembly line workers are freelancers and temps, required to shape up each day in the hopes of getting work like longshoremen in On the Waterfront.

Because much of the Young Hopefuls’ work income is self employment income, they paid 10.3% of their income in federal payroll taxes (FICA), while the Senior Voters and Chad the Private Equity Guy and Trixie paid zero. If you include the employer share of FICA, assuming it was also shifted to them in lower wages, then the Young Hopefuls paid 12.0% of their income in FICA taxes.  While the other couples still paid zero.

Even among those who pay it, the exemption of work income above a certain level, combined with growing inequality, means that a lower share of work income is subject to the payroll tax.  This discussion is from 2011.  Note that 1983 is after the last big payroll tax increase.

https://www.ssa.gov/policy/docs/policybriefs/pb2011-02.html

Although the nominal value of the tax max has grown from $3,000 in 1937 to $106,800 today, in inflation-adjusted dollars the tax max declined from 1937 until the late 1960s, and then grew once it was indexed to wage growth in 1975. In wage-adjusted dollars, the tax max has remained roughly constant since the mid-1980s.

The percentage of workers with earnings above the tax max (“above-max earners”) fell from 15 percent in 1975 to about 6 percent in 1983 and has remained at that level since.

Historically, an average of roughly 83 percent of covered earnings have been subject to the payroll tax. In 1983, this figure reached 90 percent, but it has declined since then. As of 2010, about 86 percent of covered earnings fall under the tax max.

The percentage of earnings covered by the tax max has fallen since the early 1980s because earnings among above-max earners have grown faster than earnings among the rest of the working population.

Democrats have therefore proposed raising the payroll tax max (and the rate) on today’s workers, and using some of the money to increase benefits for today’s seniors – who had benefitted from lower rates back when they were working. Delaying the increase until the last of the Baby Boomers had retired.  With the largest increase for those earning more than $400,000, so most of the upper middle class – lawyers, tenured professors, public union leaders, the highest paid public employees (other than college sports coaches) and elected officials – would not have to pay more.

But the tax max is just one of the factors that make the payroll tax regressive.  The more important factor, the factor the Democrats do not want to address, is the exemption of most types of income from the tax entirely.

What sorts of income is exempt from the payroll tax, and what sorts of people have lots of that exempt income?

1)  Investment income. The type received, almost exclusively, by the .01 percent.  As noted since the Clinton Administration investment income has not only been exempted from the payroll tax, but also taxed at a lower rate under the federal personal income tax.  No wonder the rich like increasing the payroll tax.  Prior to becoming President, Donald Trump probably paid no payroll taxes at all.  Same for folks like Jeff Bezos of Amazon, and Warren Buffet.

Not having to pay the payroll tax on most of their income is the reason, as Warren Buffet puts it, that CEOs have a lower marginal tax rate than their secretaries.

2)  Retirement income. The AARP would probably say that the retired already paid their share when they were working, but the fact is those who are age 62 and over as of next year have taken more out, relative to what they put in, than any generation in history.  Which is why there is a fiscal disaster coming, to be solved by higher taxes on poorer later-born generations, and/or cuts in their benefits. 

3) Non-wage benefit income.   Unionized public employees, the most powerful interest group in the Democratic Party, get the most income in that form.  Older generations of public employees have had their benefits increased, especially in Democratic-leaning states, even as the benefits of most private sector workers have been cut, to reduce prices and the cost of living for (among others) active and retired public employees. 

Take, for example, a NYC teacher or police officer earning $80,000, and a private sector NYC worker with the same cash income – but no employer provided retirement benefits, no employer provided health insurance, etc. Based on current benefit cost to wages ratio, the NYC teacher or police officers has another $48,000 to $70,000 in income that the private sector worker doesn’t have.  Income that is fully exempt from both the payroll tax AND the income tax.   Even though the public employees are, in reality, far richer, the private sector worker would pay just as much in payroll taxes as the public employees. If forced to be self-employed, the private sector worker would pay even more. 

All of these groups – today’s seniors, the rich, and unionized public employees, have gotten richer in the past four decades compared with the vast majority of later-born regular workers, who have been getting poorer.

Between the rising share of income going to those at the top and in excess of the tax max wage base, and the rising benefit income of those in the public sector due to their extensive health benefits and early retirement, only two-thirds of work income is now subject to the payroll tax.

Work income itself has been going down as a percent of total personal income, with  investment and government transfer payment income going up.  Wages, salaries and self employment income accounted for 80.2% of total personal income in the third quarter of 1950. By the third quarter of 1983, when the last big payroll tax increase went into effect, cash work income accounted for just 62.9% of total personal income.  It was down to 59.1% in the third quarter of 2019, and just 56.2% in the third quarter of 2020.

And note that total “transfer payments” have soared as a percentage to total personal income even though federal cash income support for women and children – the despised “welfare” – fell by 89.2% as a percentage of personal income from 1972 to 2017.   As I showed here.

One finds the same trend in the U.K., where public benefits for seniors were increased and put under a “triple lock,” while benefits for working age adults and children were slashed.  It doesn’t matter what policies are enacted now.  The values of the 1960s generation and their effect on others is set in stone.  Back then, everything was for the young, and to hell with the old, who had worked and sacrificed.  And now?  Everything is for the old, and to hell with the young, those snowflakes who need to get a life. For decades, it has been everything is about us, because everything is about me.

The debts they dumped on us make me perspire, sick and tired of your generation, I hope they all die before they retire.

According to a 1981 analysis…

A worker’s total compensation typically consists of cash pay and fringe benefits. The cash wages of covered workers and the earnings of self-employed persons (up to a statutory ceiling) are subject to social security taxes, while fringes are not. Thus, taxable payroll may be thought of as the part of cash earnings of workers and of self-employed persons that is subject to social security taxes.’…

Table 1 shows that cash payroll as a percentage of total compensation declined steadily over the last 30 years, falling from 95 percent in 1950, to 92.2 percent in 1960, 89.7 percent in 1970, and 84.2 percent in 1980. The reason for the decline is that the growth rate of fringes exceeded that of wages by an average 0.4 per- cent per year during 1950-80.The “faster growth rate assumption” embodied in official actuarial projections for social security is an extrapolation of this trend…

Fro private sector workers, that trend ended after 1992, as I showed here.

With higher worker co-payments for health insurance, the end of traditional pensions in the private sector, cuts in employer contributions to 401Ks, and a rising share of the workforce shifted to the “gig economy” with no employer benefits at all, and forced to pay both halves of the payroll tax themselves, if anything fringe benefits are falling as a share of private sector compensation – with cash income also falling, adjusted for inflation, for most workers.

Meanwhile…

https://www.nber.org/papers/w18976

Why are public-sector workers so heavily compensated with pensions and other non-pecuniary benefits? In this paper, we present a political economy model of shrouded compensation in which politicians compete for taxpayers’ and public employees’ votes by promising compensation packages, but some voters cannot evaluate every aspect of compensation. If pension packages are “shrouded,” meaning that public-sector workers better understand their value than ordinary taxpayers, then compensation will be inefficiently back-loaded. 

That backloading leads to more worker resentment, lower qualifications, and less work effort combined with higher labor costs.  But it also means that those whose income comes from other peoples’ taxes are paying far less in taxes themselves.  

Despite rising tax-exempt fringe benefit income for public workers, overall fringe benefit income was at 23.9% of wages and salaries in 1992 and 22.8% of wages and salaries in 2019.  So private sector fringe benefit income fell. 

In 2010, there was a discussion of raising the payroll tax further. Nothing was done, in order to shift more and more of the pain to poorer, later-born generations.

https://www.ssa.gov/policy/docs/policybriefs/pb2010-01.html

Each option (immediate and phased) would close the 75-year actuarial deficit and would raise lifetime taxes about 10 percent, compared with an 8 percent increase under the as-needed scenario. Neither the immediate nor the phased option would achieve sustainable solvency, however.

The longer a rate increase is delayed, the fewer workers are affected. The immediate option would affect 92 percent of workers, compared with 78 percent under the phased option and 48 percent under the as-needed scenario.

However, the longer a rate increase is delayed, the higher the increase in lifetime taxes for later generations. Workers born 1936–1990 would typically have higher increases in lifetime taxes under an immediate rate increase, workers born 1996–2005 would generally have higher increases in lifetime taxes under phased increases, and workers born 2006–2015 would have higher increases in lifetime taxes under as-needed increases.

Future workers would experience the smallest tax increases under the immediate option. Lifetime taxes for workers born 2011–2015 would rise 16 percent under an immediate increase, 27 percent under phased increases, and 33 percent under as-needed increases.

Neither option would eliminate intergenerational inequities, but both would reduce the cross-cohort variability in the ratio of benefits received to taxes paid that is seen under as-needed tax increases.

You had some discussion of these realities during the administration of Barack Obama, a late Baby Boomer.  But with the 1960s generation back in charge of every level of government, that discussion has disappeared.  But when the consequences arrive, remember that Generation Greed had known what they were doing for decades.  Here is an article from 1996.

The trustees of the Social Security System estimate that revenues will fall short of scheduled outlays by about 30 percent between 2019 and 2043. Mr. Schieber argues that this projection is optimistic; he reckons that it will take a 40 percent across-the-board cut in outlays to balance the books without tax increases.

Alternately, “The tax increases needed to cover the costs would probably be enormous. Mr. Schieber estimates that it would take a 40 percent increase in payroll taxes, starting now, to square Social Security’s accounts without reducing benefits.”

By starting now they meant 1996, when the article was published. But Generation Greed wanted more tax cuts instead, not increases.  After the Reagan personal and corporate income tax cuts (and payroll tax increases), the Bush II personal and corporate income tax cuts. 

If Congress waits — a sure bet — the numbers would quickly become staggering.  How staggering?  Mr. Kotlikoff and Mr. Auerbach calculate the extreme case. Under current law, they estimate, Americans who are now working will pay about 34 percent of their lifetime wages in taxes. If, however, everyone alive in 1993 were exempted from the extra taxes needed to pay for currently mandated services, the hapless people born after 1993 would have to pay 84 percent of their wages in taxes.

In 2017, the Baby Boomer-based Trump Administration pushed through a third round of income tax cuts, both personal and corporate, for the better off – while promising that old age benefits for today’s seniors would be secure.  The Democrats then promised to never again worry about the consequences for later-born generations of getting what they want for their interests today.  And since the Biden Administration took office they have been true to their words.    Modern Monetary Theory = the Laffer Curve.  A self-serving fraud by Generation Greed.

Republicans have long ignored the payroll tax when talking about the federal tax burden, focusing on the federal personal income tax alone. See!  The rich pay most of the taxes!  Payroll taxes are not taxes, they argue, but rather “insurance trust payments” in exchange for future benefits.  But combining the fact that Millennials are paid 20 to 25 percent less on average than Baby Boomers had been at the same age, and the fact that Social Security is 20 to 25 percent underfunded, then (since future benefits are based on taxable work income) Millennials will end up receiving 40 percent less in future Social Security benefits.  Or 20 to 25 percent less while being clobbered by the tax increases described above.  

And all the older people making decisions know this.  No wonder they want to talk about where the transgendered go to the bathroom instead.

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Is it too late to ask this generation to do anything to pay for the disaster it is leaving behind, or even refrain from taking even more and making it even worse?  Nearly, but not quite.

As I discussed in detail here…

If the payroll tax were eliminated entirely, and replaced by a value added tax that was nominally assessed on consumers, then the inequities between the high-consumption Senior Voters, the higher consumption Chad the Private Equity Guy and Trixie, and the low-consumption Young Hopefuls would disappear.

The value added tax would be placed on everything, including the government itself – with the remaining state and local government workers brought into the Social Security system.

For most businesses, it would be placed on their sales minus the goods and services they purchased from other businesses.  That, by definition, is the “value” they add.  But to eliminate the incentive to shift workers into the gig economy to avoid the tax, payments to freelancers and temp agencies could be made not deductable – just like payments to employees.  

In theory a value added tax is passed on to the customers, but it actually paid by businesses and other employers.   Who would end up paying it?  That depends.

Guess what sales minus purchases from other businesses also adds up to? Cash wages and salaries (now taxed from the first dollar to the last, unlike under the payroll tax) plus fringe benefits (now taxable rather the “shrouded” tax free compensation) plus profits!  

There is a big argument on Washington right now as to whether the corporate income tax should be 20 percent, more competitive with Europe, or 28 percent.  What this ignores is that in just about every other country there is also a value added tax on profits, generally one of around 20 percent.  Add that additional 20 percent value added tax and the existing 20 percent corporate income tax rate gives you 40 percent total tax on profits.  At that rate, perhaps Chad the Private Equity Guy would find asset stripping less profitable.

By sending a tax rebate check to every U.S citizen and legal immigrant, moreover, consumption up to some minimum level could be made tax-free.  If the value added tax were 15 percent, for example, and everyone received a rebate of $50 per month, that would make the first $333 per person per month in effect tax-free. For a family of four, that would be about $16,000.  That could be enough, in effect, for one family to make food exempt from the VAT tax.  But if another family lived on a farm and grew their own food, or was poor enough to qualify for food stamps, the rebate could make that amount in other purchases exempt from the VAT tax.  A rebate would make the VAT “progressive.”

All three couples in this example would receive the rebate, but a far higher share of the Young Hopefuls’ lower income would thus be exempt from the tax.  And they would be the only couple to benefit from elimination of the payroll tax.

The one item less well off people spend the most on, moreover, is housing.  Under a VAT housing would be taxed when it was built – when the value was added. If a 30-year loan were used to finance the construction of a house or apartment building, then the value added tax would affect how much it cost for its first 30 years. After that, however, an existing building would be value-added tax free (though the cost of maintaining, rehabilitating and operating the housing would be taxed).  Most less-well-off people live in housing that is more than 30 years old. They also buy used cars and, sometimes, wear used clothing and have used furniture.  

This would also make the VAT progressive.  Only Chad the Private Equity Guy and Trixie live in recently-built housing, with extensive spending on shared building costs as well. For the Young Hopefuls, only the wages and benefits paid by, and profits made by, their landlord would be taxed as part of their rent.  Not the amount the landlord paid for the old building itself.   The same would be true of the Senior Voters. Each would also end up paying a value added tax on building utilities, services and maintenance.

Finally, imports would be subject to the value added tax, but exports would not, the opposite of the payroll tax.  This would make imports more expensive, and exports more competitive, possibly increasing the need for work done in the United States. Companies such as Apple and Amazon, which import much of what they sell in the United States, would suddenly be hit with a large tax bill, rather than none at all.

If the VAT were set at a global-standard 20.0%, moreover, it could be used to pay for more than just Social Security and Medicare. Perhaps it could be used for all federal programs to ensure the public welfare, including Medicaid, Obamacare, and SNAP.  This could be offset by raising the exemption on the federal income tax, perhaps so high that in this example none of three couples would have to pay it for 2020.  And only Chad and Trixie would have to pay it in most years, as the Young Hopefuls and Senior Voters would be taxed on their consumption alone.

Think about.  Under the payroll tax, the Young Hopefuls paid $8,442 in payroll taxes – or $9,819 if the employer share of the payroll tax was shifted to them, while the Senior Voters and Chad the Private Equity Guy and Trixie paid nothing.  To just pay for Social Security, Medicare, and the rebate, perhaps a 10 percent VAT rate would be enough. Assume the entire tax were shifted to the customers and didn’t come out of profits.  And assume that, net of spending on used goods with no value added (housing, etc), the Young Hopefuls spent $60,000, the Senior Voters spent $180,000, and Chad and Trixie spent $950,000.  

Then the value added tax on the Young Hopefuls falls to $6,000, the tax on the Senior Voters rises to $18,000, and the tax on Chad and Trixie increases to $95,000.  The Senior Voters and Chad and Trixie would get a rebate of $1,200, reducing their net value added taxes to $16,800 and $93,800 respectively.  But thanks to Baby Hopeful, the Young Hopefuls would get a rebate of $1,800, reducing their value added tax burden to just $4,200. And if the Senior Voters and Chad and Trixie didn’t want to pay that much, the could always give more of their money away to charity and/or invest in something that could benefit the larger community – like a business, building, research and development, plant and equipment.   Tax free.

Which is the more progressive tax?  Forget what the political science professors said.  It isn’t that income taxes are progressive, and consumption and property taxes are regressive.  It is that the simple taxes you read about in the newspaper are progressive, but all the details, exemptions, deductions, privileges and favors negotiated by lobbyists in secret are regressive. 

So the Senior Voters could give something back to their disadvantaged children.  People with four houses and private helicopters could be charged more in tax, without increasing their personal income taxes.  Businesses could be made to pay more in tax, without raising the corporate income tax – especially the FAANGs, which pay little or no corporate income tax.  They could, but they won’t.  It’s not because the selfish people running our society don’t know everything you just read.  It is because the secretly benefit from things as they have made them.

And in New York taxes are even worse from a generational equity point of view, as I will show in the next post. 

2 thoughts on “Taxes & Generational Equity: Federal Taxes in 2020

  1. Pingback: Taxes & Generational Equity: New York State and New York City in 2020 | Saying the Unsaid in New York

  2. larrylittlefield Post author

    This just in from the UK. It sound like New York State, the subject of the next post.

    https://www.if.org.uk/research-posts/age-bias-government-spending-by-age/

    The gap in the amount of money the government spent on an older person compared to what it spent on a child has doubled over the past 19 years.

    The government now spends around £20,800 on each pensioner and only £14,700 on each child – a £6,000 difference.

    Since 2010/11, the research finds that although overall public expenditure has grown by 60% in real terms, reaching £850 billion in 2018/19, pensioners captured 30% of this growth throughout the period, rising by around £100 billion.

    Twice as many children – 4.2 million – now living in poverty compared to older people, who have seen their generation’s poverty levels fall by around half.

    The Triple Lock on the State Pension, introduced in 2010, and which rises by the higher of earnings, inflation or 2.5%, can explain much of the divergence in spending.

    The government has spent 45% more on servicing public sector pension debt interest payments (£18 billion a year) over the previous four years than it spent on child benefit payments (£11.5 billion in 2018–19).

    Pensioners have also benefited from the highest rate of growth in outpatient mental health treatment, receiving three times as much spending in 2018/19 compared to 2011/12, whereas spending on children rose by only 5.6% over the same period.

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