text: >>, lots of running in circles here. How about if we tax cashflow instead of income? That way the proceeds of a loan are taxed, as well as the proceeds from a stock IPO, just as revenues that ultimately go to pay back loans or to pay dividends (or salaries for that matter). This would also mean a tax on the principal of an investment when it is liquidated. Lots of double taxation from many angles. Effectively a transaction tax that ignores the nature of the transaction.
  Given such a massive base however, the tax rate could be very low--perhaps 5% for both corporations and individuals. We'd most certainly have to change the mechanism of our currency (so that every changing of hands can be tracked and taxed), which does not excite the libertarian in me. And there would need to be fixed inflation, i.e. expansion of the money supply, to discourage cash hoarding.
  The other alternative is to eliminate all direct taxes, and simply have the government print money for all of its needs. Inflation would run wild until the various levels of government got their spending in line with broad economic growth. But imagine the savings from eliminating the taxation bureaucracy...
  RR,
  Where is the double taxation in your example? By double taxation, I'm inferring that you mean that the same income is taxed twice. In your example, the initial 100 of income is taxed at a rate of 20%, leaving the earner with 80 net. He invests the 80 and earns a 100% return, or 80. That incremental 80 (not his principal investment of 80) is taxed at 20%, leaving the earner with the net aftertax balance of 144.
  The 100 he initially earned was taxed once, leaving him with 80.
  The 80 he earned on his investment was taxed once, leaving him with 64 of aftertax investment income.
  Unless I'm misunderstanding your example, nothing but income has been taxed here.
  Income taxes and capital gains taxes tax two different sources of income, but they do not double-tax anything. Your earner's earned income of 100 is not subject to capital gains tax, nor is his capital gain of 80 subject to income tax (as in a tax on earned income).
  Dividends... not deductible by corporations under our current tax regime because they are not expenses. They are a distribution of capital/earnings.
  Am I the only person who has noticed that an article on USian financial reform has a picture showing Australian (Commonwealth Bank) ATMs. Ah the joys of stock photography!
  Tzimisces, in your example, you're not being taxed on your medical investment. You're being taxed on the income you receive from the medical services you sell as a doctor. If you use your returns as an investor to sell services, you too will be taxed on the proceeds from those sales.
  Heimdall, last I checked, Buffett wasn't a CPA. It's very possible he knows less about the tax code than I do. The income Buffett used to invest was already taxed. We can satisfy both of you by taxing post-investment income instead of pre-investment income. It wouldn't make a difference but at least we wouldn't be having this discussion.
  For perspective, it's not necessarily those burdened with higher tax rates on earned income who feel that the system needs to be changed.
  A couple of quotes from that eminent communist, Warren Buffet:
  * ... that US government policy had accentuated a disparity of wealth that hurt the economy by stifling opportunity and motivation."
  I find the third quote particularly intriguing: one of the wealthiest humans in history is on the record as saying that higher overall tax rates on less wealthy people actually harms the economy.
  Given that he's in the business of amassing great wealth, perhaps we should give him a listen? He may know a thing or two about enlightened self-interest...
  _jks,
  My point wasn't that people who invest don't know what the term "capital gains" means. Of course they do. They benefit from it. It's the people who *don't* benefit from the preferential tax treatment of capital gains who are confused by the term.
  Which is exactly the reason that we don't hear "clamoring from the proletariat for the populist rebranding of a well understood economic term." They don't get it.
  If more people understood that they get taxed more for working than the moneyed few get taxed for investing and not working, there might indeed be a clamoring. Especially if they add all of the taxes on their earned income together (i.e., "income tax" + "payroll tax" = total tax on earned income) and compare them to the total taxes wealthy folks pay on their capital gains.
  But so long as the terms we use don't reflect that difference, it continues to go unnoticed.
  Far from being "loaded", I'd say the term "unearned income" is every bit as accurate as "capital gains" with the added advantage of comparing it to that other form of income, "earned income".
  My sense is that all income, earned or unearned, should be taxed in the same manner at the same rates.
  RR,
  "Tzimisces, if you take out a loan and spend it, you also pay no taxes. Doesn't make sense to tax the investor and not the spender."
  Let's take a look at this from a different angle, human capital vs investment capital. My natural talents lie in being a great doctor, I take out a $100,000 loan to invest in myself. When I graduate, I have to pay back the loan untaxed but I will be taxed on the earnings I make from my income that is a result of investment in my human capital.
  Let's say instead, my natural talents lie in being a great stock picker. I take out a $100,000 loan and invest it in assets. When the loan comes due, I have to pay it back untaxed and I will furthermore not be taxed from my income that is a result of my investment assets.
  Why should we be treating investment capital differently from other earned income?
  Heimdall,
  Anybody with invested capital or the desire to invest capital knows what capital gain means. Just because a thing confuses you doesn't mean everyone elses can't handle the language that has been used to describe it for 90 years. See the psychologist's fallacy. I'm saying you could just call it the industry accepted term, leaving out the emotionally loaded word "unearned".
  Even if "unearned" was an accurate qualifier (and it certainly isn't) I don't hear the clamoring from the proletariat for the populist rebranding of a well understood economic term.
  Tzimisces, if you take out a loan and spend it, you also pay no taxes. Doesn't make sense to tax the investor and not the spender.
  ."
  It's the same thing just taxed at a different point in time. Doesn't matter if you tax pre-investment or post-investment. The latter has behavioral benefits because of this difference in perception but the tax burden is identical.
  RR,
  My point was largely that people can live solely off of capital gains and there is no reason not to tax this like any other income, aside from the fact that corporations get taxed as well. For an example aside from old money, how about someone that takes out a loan, invests in stock, and lives off the capital gains. Obviously this would take a very talented individual to do this, but such an individual would never pay a cent in taxes if the only taxes were on income and there were no capital gains or consumption taxes. A corner case but it illustrates my point that not all capital gains represent a type of double taxing on income. Also, as earnings from capital rise, the amount of extra tax paid over income shrinks towards zero assuming that the majority of earnings from capital is reinvested.. I just don't think that income from savings should be treated differently because the principal had already been taxed.
  Pacer, I'm not sure how what I said implies that there is anything wrong with earnings from capital. This would only apply if I thought the fact that income was taxed meant there was something wrong with that. I simply think that all income should be treated equally, whether the working man's wages or the wealthy man's earning from capital. If you don't treat capital gains as income, than you favor the wealthy man over the poor. People have been making arguments about this for centuries and probably millennia but I think that it's a good thing that we now tax everyone, though I believe how we tax them is in need of considerable refinement. Far better than when we believed the excuses made by the rich for why their income shouldn't be taxed, which was the standard way of doing things for most of history.
  Tzmisces- "The need for some form of tax on investment income comes from the fact that once someone accumulates enough there is no reason...to continually refresh the capital stock from regular earned income."
  Is there something wrong with people living off investment income? Isn't that what retirees often do and are supposedly encouraged to do? Put another way, "Passive income: it's not just for trust fund babies."
  Of course more to your point--there is a tax on capital called inflation. It ensures that the real return on capital is not maintained unless the principal is augmented by additional investment from some source. This challenge is only amplified by capital gains taxes.
  And I'm glad there's been such a healthy debate about capital gains taxes. My orignial point about a graduated capital gains tax would be to penalize individuals/entities that generate gigantic sums of investment income (although we might have to exempt insurance companies, since often it's the only thing keeping them solvent). The goal would be to make corporations smaller, particularly financial institutions and hedge funds. Can large numbers of firms fail just as easily as a few large ones? I suppose, but the chances seem less likely. If nothing else, there would be more sets of eyes scrutinizing smaller baskets of risk.
  Bluecrab, a capital gains tax is functionally identical to an additional pre-investment income tax on the principal. As I demonstrated previously a 20% income tax plus a 20% capital gains tax is identical to a 28% income tax with no capital gains tax. If you don't like the term "double taxation," you can call it "additional taxation."
  Income tax without capital gains tax IS a consumption tax. Sure, it'll look different from a VAT because the collection method differs but they're functionally identical.
  Double taxation simply means the same capital or good or service is taxed twice. Dividends are taxed twice. Investors aren't taxed on any value-added. They are taxed on the same money that the corporation is taxed. Contrast that with salaries which are not part of a corporation's taxable income and only taxed once at the employee level.
  RestrainedRadical,
  Here's what I meant when I said you imply a tax on principal.
  You posted: "...If you spend you're money, you're only taxed once. If you invest it, you're taxed twice."
  Let's assume that I earn $100 aftertax from my job. Yep, I've paid the income tax on that aftertax $100.
  If I invest that $100 and earn $25, only my investment income of $25 is subject to taxation. If I cash out and redeem my $125, my initial investment of $100 is not taxed. The return of principal is not subject to taxation because, as you noted, it's already been taxed.
  As for some type of consumption tax like a VAT... well, now you're introducing an entirely new element into the discussion. Our current federal tax system is based on income, not consumption. The two systems function very differently.
  I don't see how the taxation of the receipt of dividend income by individuals is double taxation. Corporations pay dividends out of (taxable) income. Shareholder recipients are subject to tax on those dividends because the dividends are income to them (not to the corporation - that's already been handled; two different economic/legal entities). Neither entity paid tax twice on the same income.
  The term "double taxation" implies to me that a single legal entity is compelled to pay tax twice on the same income. Where's the double taxation in the current dividend tax regulations in the US?
  Tzimisces, if you want, you can tax old assets to current tax rates. There are other policy reasons against it (namely, the inherent unfairness of retroactive laws) but it's you're only concerned about current tax burden, it makes sense.
  It doesn't matter how many times I reinvest earnings, it's ultimately earned income at some point.
  Here's another way of thinking of it which may be more intuitive. Eliminate the income tax and replace it with a sales tax or VAT. Savings would not be taxed when invested. Instead, what you withdraw and spend will be taxed just like someone who spends his income without investing. Does that seem more fair? But this is functionally identical to an income tax with no capital gains tax. The difference is only the point of collection (when spent vs. when earned). As I said before, this difference of perception is why a sales tax or VAT would be more appealing to a behavioral economist even though it makes no theoretical difference in tax burden.
  RR,
  Your example assumes that all income ultimately comes from earned income, an assumption that there is no reason to make. Some people have property from before the income tax was instituted and others will simply re-invest their earnings from capital gains. Your example only works when money if being funnelled from earned income into investments and back into consumption. The need for some form of tax on investment income comes from the fact that once someone accumaltes enough there is no reason not to be able to live off a permanent stock of capital rather than needing to continually refresh the capital stock from regular earned income.
  Admittedly, your example gives a good reason to let people have a tax write off for income they invest specifically from earned incomes but this is a special case and not a general case against capital gains.
  Bluecrab, I was not referring to a tax on principal. The tax on the capital gains is a double tax. The dividend tax is also a double tax but for a very different reason. As you point out, it's taxed at the corporate level then again at the individual investor level. One of them should be eliminated. Behavioral economics would suggest that it be eliminated at the corporate level (an idea that I was surprised to hear John Kerry support during the 04 elections) so that corporations will perceive dividends as tax advantaged and distribute more of them. On the other hand, collection of dividend taxes is easier at the corporate level so it may be better to eliminate it at the individual investor level.
  _jks,
  It seems reasonable to distinguish between types of income because the most widely used terminology is confusing to most folks.
  For instance, both capital gains and salaries are type of income. Yes? But when we say "income tax" what do most folks think of?
  By specifying the two types of income -- earned and unearned -- we place them on an equal footing in terms of understanding what's actually happening.
  No one is saying or implying that unearned income isn't legitimate or that folks with capital aren't entitled to returns on their property. Just that they didn't earn that income in the same way that someone who works for their income earns it.
  Both labor and capital are critical to a functioning economy. They should be recognized as such.
  Would you prefer "labor income" and "capital income" as something less "loaded"?
  Heimdall, capital gains tax is a double tax. It's just not as intuitive which is partially why it's elimination, while functionally identical to a consumption tax, doesn't receive as much support as more intuitive consumption taxes like a VAT or sales tax. In fact, behavioral economists would probably favor a VAT or sales tax over eliminating the capital gains tax precisely because people you like perceive the capital gains tax to be as neutral as a VAT when actually the VAT is neutral and the capital gains tax punishes savings.
  Maybe this will help. Imagine we replace all taxes with a national sales tax of 20%. You earn $100. If you spend all of it, you pay 20%, or $20, in taxes. You get a good or service worth $80. If you invest all of it and make a 100% return ($100) then spend it, you pay 20% of $200, or $40, in taxes. You get a good or service worth $160.
  Now let's redesign that to resemble our current income tax system. You earn $100. You pay 20%, or $20, in taxes. You can buy a good or service worth $80. As you can see, consuming our earned income is the same as with a national sales tax. Suppose you invest it instead. You have to pay the initial 20%, or $20, no matter what. So you can only invest $80. You make a 100% return ($80). You withdraw the entire $160 then spend it. You can get a good or service worth $160. Same as with the national sales tax.
  Now, add the capital gains tax. You withdraw the $160, but have to pay a 20% capital gains tax on the $80 in unearned income, or $16. That leaves you with $144. You can buy a good or service worth $144, not $160. If you paid no taxes, you'd be able to buy a good or service worth $200. Your purchasing power has diminished $56, or 28% of $200. So if you spend the $100 you earned, you pay 20%, if you invest it, you pay 28% (broken up between the initial earned income tax and the later capital gains tax). So with a capital gains tax, you pay a higher EFFECTIVE tax rate if you invest than if you spend.
  I warned you that it wasn't intuitive. But it's a mathematical fact.
  It seems simple enough to use the neutral term "capital gains" for income derived from investment rather than the loaded term "unearned income" as though someone is not entitled to returns from property rightfully owned by them.
  "We say "derivatives" with scorn, as if an airline hedging its fuel prices with futures is the same as some hotshot hedge fund manager massively leveraging the 27th tranche of an IO CMO securitized with the third houses of speculators who have no other income but flipping their second houses. In Las Vegas."
  I certainly agree. Derivatives can be excellent risk management tools, just as they can be speculative instruments. Consider for a moment that, according to the folklore, the very first interest rate swap involved the World Bank. They don't leap to my mind when I think of financial speculators.
  @RestrainedRadical: your (you're? ;~)) logic is faulty. You imply that savers/investors are taxed on their principal. They are not - only on their investment income. And the double taxation argument that you allude to has been made (not entirely convincingly) for decades with respect to the fact that dividends paid are not tax-deductible to corporations.
  And one more time... why, oh why is Blanche Lincoln allowed to be in charge of much of the writing of this law? She has no training whatsoever in finance. The fact that the Agriculture Committee of the Senate has responsibility in this sphere is just another example of the archaic and dysfunctional organization of Congress.