Wealth Taxes
There is an interesting discussion among smart, expert, thorough economists about wealth taxation. It is clearly stimulated by Warren’s proposal to tax wealth. Gabriel Zucman, Roger Farmer, and the much less famous but also super smart Noah Smith are debating the issues. I’m sure AngryBear readers can benefit from their discussion (to which I don’t link cause I just saw one tweet).
I am also sure that it will be a waste of time to click “more” and read my thoughts on the topic. Caveat lector.
I am not going to do any research. So I will have fresh thoughts untainted by data analysis or familiarity with the theoretical discussion.
1. How is introducing a wealth tax different from an increase in capital gains and estate taxes which produces revenue of the same present value ?
One issue is that the Roberts Court might declare it to be unconstitutional. I won’t discuss that.
Another is that to assess a wealth tax one has to measure wealth. Moving wealth to assets whose value is not easily assessed is one way to avoid a wealth tax. One class of such assets is art — thin market, amazing valuations, hard to assess. I am going to assume that this is not an insolvable *new* problem. Hidden ownership and non fair market valuations are also used to hide income and capital gains. My guess is that the problems are similar. I am very not expert on this, and won’t go on.
Another issue is that the tax starts immediately. Note the key weasel phrase “present value”. If one assumes that the government has an intertemporal budget constraint and maximizes some assessment of social wealfare (or national goals or whatever) subject to that constraint, then the present value of tax receipts is the only thing that matters. But this is not the way politics actually works. If governments did that, then they would issue bonds and buy risky assets making huge risky returns on the carry trade in exchange for automatically smoothing business cycles.
There is no rational reason why only a few states do this (see Norway, Singapore, and I guess some petrostates). When we discuss policy, we must consider the policy makers we have not the policy makers we want. Without understanding the nonsensical choice, we can’t figure out how reforms affect future policy. I think that collecting the tax now (just pulling the revenue forward) will affect meaningless numbers such as estimated deficits and national debt. These numbers are not economically relevant (the budget constraint also depends on future tax revenues and unfunded pension liabilities, and non financial assets owned by the public sector, oh an financial assets owned by the public sector whose value is assessed without assuming that the public sector has the same risk bearing capaicty as private investors).
A model of a rational policy maker is of very little real world relevance. Sorry I mean has negligible real world relevance.
Consider the cases of Fannie Mae and Freddie Mac and the bailout. This was by far the most profitable trade in human history. The gain of hundreds of billions (in present value) was estimated as a cost of hundreds of billions. The reason was that the standard calculation of the estimated effect on the expected national debt after 10 years showed a profit. And that can’t be, because public ownership of Fannie and Freddie is socialism which can’t be profitable and efficient. So the books were cooked (in the opposite of the usual way) and publicly owned assets were valued at market price not at the expected flow of revenues discounted at the Treasury rate.
Barney Frank complained that this was unfair to him (it was). He was ignored. The bottom line is now clear — in any case it is clear that it is to be written with black not red ink. Nonetheless it is argued that socialist Fannie and Freddie are no good and they must be privatized. Ideology has defeated arithmetic. Economists have to face this fact when they discuss policy.
2. Realized capital gains, restarting on inheritance and stuff. Under the current system capital gains aren’t taxed at all if they are not realized before the owner’s death. The assets pass to heirs and future capital gains are assessed compared to the value on the date of inheritance. This is an important feature of the current tax code. In effect it makes capital gains taxes avoidable in a way which a wealth tax wouldn’t be.
I will consider the effects of the current tax code. I think it really, in present value, penalizes the realization of capital gains. This reduces trading volume and makes assets less liquid. I think this is a good thing. I think that a financial transactions tax would be good policy and the incentive to leave capital gains unrealized until death has a very vaguely similar effect. It makes people think of the very long term. It is a distortion. If one assumes that market outcomes are Pareto efficient and maximize money metric welfare, distortions are dead weight losses. If one doesn’t make those absurd clearly false assumptions, then one has to consider each distortion with an open mind. I think anything which reduces trading is probably good.
3. Foundations. The really rich don’t just avoid capital gains taxes by holding assets till they die. They also avoid estate taxes by giving their wealth to a foundation and making their heirs officers. The cost is that they can’t spend that wealth (or if they do as Trump did they can be penalized). This is not a cost at all for the super wealthy who are physically incapable of spending their wealth anyway.
In FRED there are not numbers on the total wealth of households. All refer to households and non-profit corporations. The approximation is that most assets of non profit corporations are effectively the property of their founders or their founders’ heirs. Similarly, Forbes counts assets of foundations when it tries to figure out how rich the super rich are (not giving to the Bill and Melinda Gates foundation did not affect the Forbes rank of Bill, Melinda, or Warren (oh that is Warren Buffett the one with immense wealth not Elisabeth Warren the one who wants to tax wealth).
A wealth tax absolutely has to confront this issue (and I know that E Warren has a plan for that).
I think the solution is pretty simple. It would have two parts. First the founder and any relative of the founder must not be an officer of the foundation. This would be like anti-nepotism laws (but with real money at stake). Second that the founder and all relative of the founder must not have any private, ex parte, communication with the foundation. Any communication with any employee of the foundation must be public.
That would mean that wealth which is given away is actually really away. This would be an extremely radical change. For one thing, it wouldn’t be a “taking” to apply this rule retroactively. The founders of foundations claim that they have no personal interest in the foundation. If they claim that forbidding them to communicate with the foundation is taking their property, they confess that they have committed tax fraud. I’m pretty sure Roberts et al would declare my proposal unconstitutional (no personal interest doesn’t mean no personal interest). I am pretty sure no Congress would approve it.
One might argue that, with my proposed rules, rich people wouldn’t give their wealth away and wouldn’t found foundations. I don’t see that as a problem. Bill Melinda and Warren can say that the assets belong to them personally to spend as they please and also give them to people fighting AIDS and Malaria and such like. Foundations currently are often like the personal property of the founders. I don’t see a big cost in forcing them to make that explicit (and pay 2% per year when they do).
The idea of forcing charities to act as charities and not as the property of their major contributors is too radical to implement. I am almost afraid to blog about it.
But without that, a wealth tax is just an invitation to even more fraud. I think this is an important issue.
As part of the income tax, have filers use work sheets to calculate their net worth. This net worth points to income tax brackets/rate schedules. The work sheets would have lists of major assets like art in addition to other classes. A tax filer would not submit the worksheets but they would then be subject to audit of the work papers, looking like all audits for missing items, mark to market discrepancies needing appraisals that consider sales in the market, and so forth. Heavy fines and criminal actions would establish a deterrence nurtured by robust budgets for compliance efforts.
After two years of data and practice knowledge perhaps the facts would demonstrate to the public the need for a net worth tax and the need to eliminate or proscribe and limit tax avoidance use of ‘charity’ notions (as these would be itemized in the worksheets).
In the meantime, a highly progressive set of tax rate schedules applied to all sources of income, for those of high net worth, would produce needed revenues allowing adjustments in other areas of the US revenue system’s design (for instance, to limit payroll taxation burdens or remove tariffs that lay heavily on those of lesser means).
Taxing wealth by taxing investment income: An introduction to mark-to-market taxation by Greg Leiserson and Will McGrew is a must read:
I know two heirs of huge family fortunes. One is a Bloomingdale. He works at hobbies, nothing else. The other is a Wrigley. Now this fortune really fascinates me because the first Wrigley made his fortune selling gum in the late 1800s. Now consider how in the world one could make so much money selling something as cheap as gum. In the late 1800s. He made so much dough so fast that a baseball stadium was named after him in Chicago in the early 1900s. He bought Catalina Island and a huge chunk of Pasadena. That was 100 years ago. Yet here his heir is owning a winery in a very expensive area generations down the road. How is that possible? When we can fully understand this then we can decide whether or not it is good policy to allow for family dynasties.
” If one assumes that the government has an intertemporal budget constraint and maximizes some assessment of social wealfare (or national goals or whatever) subject to that constraint, then the present value of tax receipts is the only thing that matters. ” This belief is the largest reason we do a lousy job of governance. The is no ‘intertemporal budget constraint,’ in reality. There are only resource constraints.
Christopher:
Welcome to Angry Bear. First time commenters always go to moderation to weed out spam, spammers, and advertising.
Property Tax is a wealth tax. Al you need to do is expand the definition of property tax. Too simple?
Jerry Critter —
Property taxes aren’t that simple. Do you base your tax on the purchase cost of the property, holding the tax constant until the property is sold again (or transferred to heirs)? Or do you boost the tax annually, indexing it to inflation? Or so you rely on a tax assessors guestimate of property value?
That’s the easy part. Do you want to change your policies when inflation is severe (say 5% per annum for five years)? What do you do when the market collapses and house values drop? For that matter, how do you apply your formula to dilapidated and deteriorating property in an otherwise thriving neighborhood?
Now that you’ve answered these issues to your satisfaction, how do you handle artworks? And speculative businesses? What’s your formula for taxing Bezos’ Blue Origin?
Mike:
All of those things, we have in the Homestead Act in Michigan. Our home is valued at 50% for purposes. The tax does increase sans schools; but, the increase is small unless we vote for an increase which has happened for roads, fire department, police, and a renewal millage for schools. I have seen a 1/3rd increase in 25 years or an approximate $1100 per year on top of $2000. We are older too nd are covered by other discounts. When we sell the tax will like double for the new owners.
Valuation does change up or down which causes the taxes to do the same.
Wealth taxes are actually quite widespread, it is just that they are called inheritance taxes or gift duties or council rates. What is missing is a consistent approach. Most of these taxes are also not as progressive as they could be.
Taxes on capital income also amount to some extent to a wealth tax. (I particularly don’t like interest being taxed on the basis of nominal interest, I think it should be net of inflation (and perhaps there needs to be also an inflation allowance on depreciation)).
My general approach is that taxes should be non-distortionary, cheap to administer, progressive and hard to avoid. Progressive land tax is obviously the best from this point of view, but transfer of title taxes (like inheritance taxes) are also good. Having to measure fluctuating values every year seems just to be a gift to auditing firms and tax professionals to me without doing much good.
P.S. Re the post – I’m not a great fan of private charity full stop. As far as I’m concerned it should be subject to gift duties like every other title transfer. My general approach would be that it should be progressive at the recipient level. If some billionaire gives a few thousands to each of hundreds of charities, it should be tax free. If he gives one single charity millions he should have to pay a tax. He is taking the choice away from the public and should pay for the privilege.
The one major problem with a wealth tax is the valuation of closely held businesses for which the stock has no market value.
There are plenty of valuation analysts but the valuations are expensive and not always consistent.
Overall it would be a welfare plan for CPAs, who can barely keep up with the workload now, but more work can always be accomomdated.
Private property is a government service, but no one wants to pay for it. Instead of wealth taxes, the government should get out of the business of dealing with more than some basic quantity of private property per individual. This is a libertarian approach. If you are robbed or defrauded and still have $10M, then it is your business and the government can keep out of it. If you are left flat broke, the government would step in and try to find and prosecute the the miscreant. Everyone would get some basic private property, but people with lots of it would be forced to accept the risks of ownership without government interference.