Taxes, Warren Buffett, and Paying My Fair Share

http://freakonomics.blogs.nytimes.com/2008/05/01/taxes-warren-buffett-and-paying-my-fair-share/

by sfk • 16 years ago

34 29 16 years ago

freakonomics.blogs.nytimes.com

yread• 16 years ago

[2008]

mhb• 16 years ago

And besides that it's pure trolling to get the percentage vs. absolute tax payment argument kickstarted.

bretpiatt• 16 years ago

I pay a very low federal income tax bill for my gross income because I choose to pay higher local taxes (through both property and sales tax which are both deductible in TX since we have no state income tax).

The federal income tax hits non-property owner singles by far the hardest. As wealth increases people are generally no longer single nor renters. If you start to factor in FICA people making around the ~$104k limit of social security probably pay the highest total federal tax bill percentage wise.

We won't ever fix this system though because the poor, even if you took all their money can't pay for anything and the rich have the money to help shape policy. This leaves the upper middle class responsible for the majority of the burden percentage wise.

codyrobbins2• 16 years ago

While I have great respect and awe for Warren Buffet as a businessman and investor, I often feel like he publicly says little anecdotal things like this that are blatantly misleading and people just assume the validity of his premises in an ad hominem fashion. ‘Well, he is Warren Buffet!’

Wikipedia says [1] that the top 0.1% of gross earners pay out almost 20% of total federal revenue, the top 1% almost 40%, and the top 5% almost 60%! The bottom 50% of earners pay 3.3%.

So while Buffet may be paying a smaller percentage than his secretary, it’s fifth grade mathematical knowledge that percentages are normalized values. When you look at the total magnitude of taxes paid, the rich are paying a massively disproportionate share. The Wikipedia article says that when the percentage of revenue from each bracket is compared with the wealth distribution rate, it lines up very closely. That is, the top 5% pay 57.1% of the taxes and have 57.2% of the wealth. Lining the two curves up in such a way would seem, to me, a reasonable approach to taxation.

[1] http://en.wikipedia.org/wiki/Taxation_in_the_United_States#T...

ewjordan2• 16 years ago

The Wikipedia article says that when the percentage of revenue from each bracket is compared with the wealth distribution rate, it lines up very closely.

See below - one could argue that the bottom 50% numbers are extremely divergent, which is very significant, affecting half of the population (though almost none of the wealth).

Lining the two curves up in such a way would seem, to me, a reasonable approach to taxation.

It all depends what you mean by "reasonable." The numbers given by Wikipedia are here:

Top 1%: 36.9% of tax, 32.7% of wealth Top 5%: 57.1% of tax, 57.2% of wealth Top 10%: 68% of tax, 69.8% of wealth Bottom 50%: 3.3% of tax, 2.8% of wealth

(with the note that this "top/bottom X%" thing is a truly awful way to present this type of data, something I would rectify if I had time, but knowing these data sets, it's probably presented in an even worse format in the reference, so...)

One argument would be that these are all pretty close, so everything's just right. Except for the super-rich, everything is within 1%.

Another argument: this is an extremely progressive tax system, because it's measured against wealth, not income, so in effect, those that have done the "right thing" and put money away are being effectively punished for it, paying far higher taxes per unit of income than their more wasteful peers that haven't been saving.

And another: the .5% out of 3.3% overpay at the bottom 50% of the curve is massive, proportionally speaking, and really amounts to the bottom 50% paying about 20% more than their "fair share" of taxes. Worse, these people make up the bulk of the population, are actually hurt by this overpayment, and the amount of money it brings in to the government is fairly negligible.

Taking things further, we could try to work out how much each of these taxes actually "hurts" people in each bracket, i.e. how much utility it deprives them of. For instance, taking 10% of a billionaire's wealth away from him clearly "hurts" him less than taking 10% of someone with a $20k/year job; typically people assume some sort of logarithmic money -> utility mapping. Under any such mapping, even a slight one (and I think most people would accept a significant money -> utility discrepancy) the current curve (wealth vs. taxes) becomes regressively skewed.

The other thing to consider is that "fair" has other meanings when you're living in a democracy, as well - at least indirectly, we should expect "occupancy rates" at each tax bracket to determine the rates that they pay. By this logic, the people near the hump of the income distribution should be best off, and people making the most should be worst off (people in the middle would not choose to shift too much of the tax burden down to the lower classes because there's just not too much burden that it can absorb, with the lowest 50% of the population in control of only a couple percent of the total wealth).

I've done some modeling of democratic influence on tax rates, and one of the main conclusions I came to was that under what we figured were fairly reasonable assumptions (and there are a lot of them), a self-interested body of people democratically figuring out tax rates will generally come up with a very progressive system (more progressive than ours under most assumptions). In order to come up with a system closer to ours, you need to make the "fairness factor" weightings very high (i.e. assume that even the poor are highly offended by disparities in tax rates), or assume that the number of "votes" a person gets has some dependence on their wealth, or some combination of the two. In reality, it's probably a combination of the two (many people feel, for better or worse, that a flat tax is "fair", and those at the higher end of the wealth curve have increased influence than their numbers would suggest) that lets our tax rates stay at the current distributions.

Anyhow, I'm not trying to suggest anything in particular from this (I'd probably tend to agree that the current system is at least within spitting distance of a reasonable compromise, obviously with some edge cases and loopholes that could be improved upon), other than that there are pretty reasonable arguments that pretty much any tax rate curve is fair or unfair, including some very extreme ones.

codyrobbins2• 16 years ago

You've obviously thought about this a lot more than I have. I readily admit that it is an extremely complex issue when analyzed with due consideration of the subtleties involved, and I certainly don't profess to be knowledgeable in any meaningful way on tax policy. My point was mostly that Warren Buffet in particular sometimes seems to over-simplify issues such as this one in a way that I think is specious, albeit while at the same time making him look super-populist and folksy.

Thanks for pointing out so many things in such an objective fashion without getting into any political rhetoric. I definitely agree that no matter which way you do it, pretty much any taxation scheme is going to be unfair from one perspective or another, and I largely concur on all the issues you bring up. That's why I hate to see Warren Buffet make these simplistic claims that people can rabidly latch on to, rather than a real discussion of the constraints and trade-offs involved like you've done.

blantonl• 16 years ago

This reply in itself is worthy of it's own Wikipedia article. Seriously, I don't think I've ever seen a response to what could have been a seriously trollish thread become so succinct in it's content and professionalism.

Nice work ewjordan.

byrneseyeview7• 16 years ago

It gets boring to repeat this comment so often, but: Buffett's income is mostly in the form of capital gains and dividends. These are paid out of the taxable income of corporations. So he pays a direct 15% tax on something that's previously been taxed at 35%--a low rate, if you ignore the 35% part.

It would be like claiming that the average worker's income tax is zero, since federal withholdings essentially mean that their employer keeps the money and remits it to the government. (Obviously, people make this mistake when they pretend that half of social security taxes are paid by employers, not employees--as economists have long since realized, the economic effect of a tax is, discounting transaction costs, independent of which party in a transaction gets taxed.)

ewjordan2• 16 years ago

And the local 7-11's income is paid out of the taxable income of its customers, who have previously been taxed at their normal income tax rates. And those customers income is coming from an employer that takes its income from customers that have already been taxed at normal income tax rates.

There's nothing nefarious going on here, income tax has always been collected at every hop. The exception is that businesses can deduct expenses against earnings, so some B2B transactions are "immune" from income taxation.

Sure, I'd be all for a system that taxed held wealth each year instead of income, I think it would be a hell of a lot more fair (both the pain you feel by paying taxes and the benefits you receive from living in this country scale with wealth a lot more closely than income), but that's another matter. As things stand, every dollar that anyone sees has already been taxed many times before, and it will be taxed again every time it's used. I see no reason things should be any different because money is coming in from an investment as opposed to work.

byrneseyeview7• 16 years ago

The difference here is that it's the same kind of income. If Warren Buffett personally owned a soft-drink company earning $1 billion each year, he'd pay ~40% of that in income taxes. If Coca-Cola earns $1 billion, it pays 35%, and then he pays 15% to see any of it.

It's essentially a tax on liquidity. Another way to look at that is that it's a big subsidy for people with enough concentrated wealth to take something private.

kevinpet• 16 years ago

I believe the point was that Buffet was comparing two things as if they were equivalent, while in fact one has an additional level of taxation between when it provided value to a consumer and when it got into the hands of the person providing the value.

A corporation's income does not include money paid out in salaries (as it obviously shouldn't).

codexon5• 16 years ago

15% of 35% is still lower than 35% of 35%.

Why do you think so many CEOs like Steve Jobs have a $1 salary? Do you really think it is because they want to pay more taxes?

byrneseyeview7• 16 years ago

Dividends are paid out of taxable earnings; salaries are paid out of pretax earnings

petercooper3• 16 years ago

The "I'm not an American" question: Why does the IRS allow you to write off mortgage interest? That seems like a lot of tax lost for not much benefit to the government. Was it enacted to boost property ownership or something?

patio11• 16 years ago

The same story as every other one-off in the tax code: it was slipped in to placate an interest group who would monetarily benefit from the deduction, on the theory that the deduction rewards socially valuable behavior. (The official position of the American government for over a generation now has been that increasing home ownership is, ipso facto, socially desirable. It is a cornerstone of the "American Dream" -- our consensus idealized version of an idyllic middle class existence. )

Mortgage interest is a bit different than other one-off tax code hacks in that the group which benefits is much, much larger than typical. It is also essentially impossible to repeal, as the mortgage interest deduction essentially makes mortgages cheaper which makes property values higher, so repealing it would have the immediate consequence of making half the country poorer and also breaking their monthly budgets in an extraordinarily visible fashion.

A similar middle-class entitlement is the essentially limitless access to education loans. That also has some negative consequences (it underwrites the continual tuition inflation in higher education) and will also never be meaningfully reigned in.

[Edited to add: A common misconception, even among Americans, is that the IRS sets tax policy. The IRS does not set tax policy. Congress does, via legislation. The IRS just implements Congress' directives -- however vague, contradictory, and ill-advised they may be. My apologies if you already knew this and were just being imprecise in language.]

whatusername• 16 years ago

It's quite interesting in Australia - Home mortgage interest is not deducted but Investment Property interest is considered a business expense and is thus deductible. (Which makes sense to a degree - purchasing an income-generating asset is deductible for any other business, why not in RE).

petercooper3• 16 years ago

The IRS does not set tax policy. Congress does, via legislation. [..] My apologies if you already knew this and were just being imprecise in language.

It's roughly the same here in the UK (though the tax man can choose to "interpret" the laws in his own special way) but I was being more pragmatic than accurate - the tax authorities are the "face" behind these sorts of policies, even if the law makers came up with them :-)

pinhopro• 16 years ago

No only in USA, it is like that everywhere.

I am from Brazil, and it is even worse.

My wife is German, and the rich in Europe simple change their home to Monaco to simple don't pay the income tax at all.

Taxes, Warren Buffett, and Paying My Fair Share

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