WASHINGTON, March 16, 2017 — President Donald Trump was interviewed by Tucker Carlson of Fox News on Wednesday. Carlson asked Trump if he believed that capital and wages should be taxed the same. After some back and forth, Trump agreed that they should be taxed the same.
Why aren’t they?
The top marginal tax rate on wages and salaries is currently 39.6 percent. Capital gains are taxed at 20 percent, with the rate increasing to 23.8 percent at higher income levels. In other words, in most instances wages can be taxed at twice the rate of capital gains.
Almost every other developed country taxes capital at lower rates than wages. In the United States, this has been true since the inception the income tax. Most economists argue that this is good policy because the lower capital gains tax rate encourages the transfer of assets to more efficient owners.
Another argument is that when the capital gains tax rate is low, business owners and CEOs will retain more of the gains they earn from selling assets. This gives them more to invest and hence promotes economic growth.
While these arguments make some sense, there really is no good answer as to why wages are taxed at such high rates while capital gains benefit by relatively low taxation.
History does indicate that when capital gain tax rates are lowered, economic growth usually increases. The opposite is also true: Hikes in the capital gains tax rate tend to slow growth. In 1996, for example, President Clinton lowered the capital gains rate from 28 percent to 20 percent. That led to an economic growth spurt that increased tax revenue enough to actually balance the Federal budget.
On the other hand, President Obama increased the capital gains rate from 15 percent to 20 percent, and to 23.8 percent for for single taxpayers with modified adjusted gross income above $200,000 ($250,000 for married couples filing jointly). That resulted in subpar economic growth throughout Obama’s entire term in office.
Low capital gains tax rates do tend to increase economic growth. Why though, should wages be taxed at a much higher rate? As Trump said, they should be taxed at the same rate. But what should that rate be?
Trump is pushing to lower the corporate income tax rates to 15 percent from the over 30 percent the government scoops up now. To be consistent and to stimulate growth up to the 4 percent annual rate he desires, Trump should push for a 15 percent capital gains tax rate, too. It makes sense to push for a 15 percent personal income tax rate so wages would be taxed at the same rate as capital, which is really the fairest approach.
Many wonder how that could be accomplished without causing huge increases in the Federal deficit. The answer is that a 15 percent single rate tax, if properly implemented, would raise nearly the same amount of tax revenue as we currently raise with the complex and counter-productive tax code with which we have long been burdened.
When President Clinton lowered the rate from 28 percent to 20 percent, revenue increased because of the increase in economic growth. After all, 20 percent of $1,000 ($200) is greater than 28 percent of $700 ($196). History shows that a lower capital gains tax rate could lead to higher tax revenue.
Suppose the 15 percent tax rate were applied to all other income. For individuals, we could set a zero tax rate on income up to a livable minimum, which would be set at twice the current poverty level. For a family of four, the livable minimum would be $50,000. Then every dollar earned above $50,000 would be taxed at 15 percent. This would apply to all income regardless of how it was earned, no matter how much was earned and no matter how it was spent. There would be absolutely no deductions for anything and no market distortions.
All income would be treated the same, whether earned by wages and salaries, interest, rent, dividends or profit. This would raise about the same amount of revenue that is currently being raised by the complex and counter-productive income tax system that we have today.
This plan would result in a simpler tax form, would raise essentially the same amount of revenue, would virtually eliminate the IRS and would treat all income taxpayers the same.
The bottom line is that there is no valid reason to tax different forms of income at different rates.