BY JOHN FEEHERY
Reprinted from TheFeeheryTheory.com
My friend, the smart Senate staffer, sent me this missive this morning. I thought I would share it with you:
“There is clearly a Democratic obsession with taxing the rich. Let’s go through a little fiscal arithmetic and take the Democrats’ tax increase obsession out to its logical conclusion.
From a purely political power acquisition perspective, it makes all the sense in the world. It’s been a constant theme of Democrats for many years. Not all, but most, tell the American people that all of our fiscal problems can be solved by taxing the top 2%. Again, great politics. Tell most of the population that they have no significant responsibility and guess what, they’ll agree.
To show how skewed our public discourse is toward taxing the rich, take a survey. Ask for a show of hands of how many people know what the disputed higher statutory marginal rates are. Several hands go up and they know the answer. It’s 39.6% versus 35% and 36% versus 33%. Then ask how many know which bipartisan plan has the highest spending restraint on Medicare. You might stipulate that Medicare is the most immediate entitlement driving much of the second 5 year deficits; Medicaid is a close second. No hands usually go up. And if one or two go up and they get the correct answer, the Domenici-Rivlin plan, they don’t know the amount. What does that tell you?
It tells you members, staff, and opinion makers spend a lot of time trying to figure out the dynamics of taxing the rich, both pro and con. And no one, other than think tankers and a few wonkish politicians on the right (Republicans), like Congressman Paul Ryan or center-left (Democrats) like Senator Kent Conrad, are really endeavoring to frame the debate on what most independent fiscal experts agree is the key federal fiscal problems. Google articles and debates on taxing the rich and you’ll get many hits. Google articles and debates on Medicare and you’ll find a heck of a lot less.
Look at the tax rate structure from the landmark Tax Reform Act of 1986. Until 1990, there was a 28% percent (with a 33% bubble rate). It was the vestige of a grand bargain. Now, proposals for that rate, on a now broader base of income, would cause many Democratic politicians to self-immolate.
Now, for the fiscal arithmetic. If we were to seek to close the deficit for fiscal year 2013, looking to higher income taxpayers, where would we go? Let’s start with the easiest political target, the folks earning more than $1 million. If you go to 2013, under current law, the attached chart shows that group’s total AGI is about $1.2 trillion. So, this group accounts for about 10% of income. They bear 15% of the tax burden. If you took all of their after-federal-tax income, not accounting for their state and local taxes and their living expenses, then in theory, you could confiscate $788 billion.
Of course, that would be a one-time event because they would have no incentive to invest, manage, or work again. Let’s go down to the next cohort identified as rich by the President and Congressional Democrats, $500,000-$1 million. Their income is $502 billion. They account for 4% of income and 6.7% of the tax burden. Their after-tax income, available for confiscation, is $343 billion.
Let’s go to the third cohort, those with incomes between $200,000 and $500,000, still considered wealthy by the President and Congressional Democrats. Though with respect to some of that cohort, we are reaching below the President and the Democratic Congress’ definition of rich. Keep in mind I’m using AGI, but JCT grosses up AGI to include tax-exempt interest and other tax-preferred items. Their AGI is $1.5 trillion, a larger chunk than the folks above $1 million. It’s about 13 percent of all income. They bear a lot of tax, $421 billion, or 17.6%. Their after-tax income available for confiscation, is $1.1 trillion. Let’s look at the cohort of between $100,000 and $200,000. They have a big slug of income, $3.3 trillion, because there are many more of them. They account for 28% of income and pay a decent amount of tax, under current law, $729 billion, 30.5%, and their after-tax income is $2.5 trillion. Since this group is under $200,000 of income, figure they are eventually protected with current policy tax savings of $85 billion. That means their adjusted after-tax income is $2.6 trillion. Let’s take a look at everybody below $100,000. Their income is $5.3 trillion and it represents 45% of income. They bear $724 billion in taxes, accounting for 30% of federal taxes, and their after-tax income is about $4.5 trillion. If you figure this group is protected, their after tax income goes up by their savings under current policy, $98 billion, so their adjusted after-tax income is $4.6 trillion.
So, you can see that, in terms of deficit reduction targets, if we go off the fiscal cliff, or the President prevails on his rate hikes, or if there is the Speaker’s plan for base-broadening agreed to as a surrogate for the rate hike, there isn’t much after-tax income ”room” to hit up higher income taxpayers. After the dust settles in terms of after-federal-tax income available for additional taxes to fund the growing entitlement burden, here’s what we have for 2013:
All under $100,000 $4.6 trillion
$100,000 – $200,000 $2.6 trillion
$200,000- $500,000 $1.1 trillion
$500,000 – $ 1 million $.3 trillion
$1 million plus $.8 trillion
The above $200,000 cohort, the group defined as rich, account for $2.2 trillion of after-federal tax income. As a group, these higher income taxpayers have available 23% of the pool of after-tax income. As I said above, these taxpayers will need to use that pool of income to pay their state and local taxes and living expenses, etc. CBO says, if we were to adopt the President and Congressional Democrats plan to decouple, then the deficit will be roughly $1.1 trillion for FY 2013. If you wanted to close the deficit and operate from the Democrats’ campaign premise to close it solely from higher income taxpayers, you’d have to confiscate all of the after-tax income of the taxpayers above $500,000 or take 50% of all income above $200,000.
The bottom line is that the pool of higher income taxpayers is small and, even though their average income is high, as a cohort, there isn’t enough income to resolve our fiscal problems. Lower income cohorts contain more numerous taxpayers, with lower average incomes, but, as a cohort, much higher after-federal tax income.
It’s arithmetic. The Democrats will run out of higher income taxpayers and income to tax. It means the American people, after having been told by Democrats that all fiscal problems can be solved by taxing the top 2%, will meet the eventual ugly news.
It will be a choice of either reforming the entitlement programs that are driving our deficits and debt or imposing a broad-based tax targeted largely at the remaining pockets of after-federal tax income. That income resides in the lower and middle income cohorts. I haven’t even gotten into policy and technical problems that will limit the Democrats’ attempts to wring a lot of taxes out of the top 2%. Here’s an example. The revenue maximization rate for capital gains, per JCT, is 5% points higher than it will be on January 1, 2013. Ironically, the passive income tax in the health care law has dropped down that revenue maximization point to 25%.
Yet we have reams of speeches, debates, and articles on how to tax the rich.
The first instance of when the fiscal facts will trump the Democrats’ winning campaign narrative will occur when the top 2%, a majority of them Democratic voters, who don’t think of themselves as rich, wake up to a significant tax increase.
I think an interesting phenomenon is that now that a tax increase on taxpayers above $200,000/$250,000, in some form, looks probable, my Democratic friends are, for the first time in almost 20 years, about to have to concretely consider the consequences of a significant tax increase on higher income folks. They’ll have to think about what it will mean to them in concrete terms (because most of them are above, at, or near the targeted income levels). And even if they don’t believe marginal rates matter on investment, business, and labor activity, they may have doubts and will now have to understand the risk of the policy. Republicans have prevented the reckoning of Democrats’ tax increase policies with the consequences of those policies. Now, with significant tax increases on higher income taxpayers on their way, the facts will show that seeking to resolve all our fiscal problems with tax increases on the top 2% of our population is a fools’ errand.
As the President’s campaign said of Governor Romney’s tax reform plan, the math doesn’t add up.”
Editor’s Note: John Feehery worked for former House Speaker Dennis Hastert and other Republicans in Congress. Feehery is president of Quinn Gillespie Communications. He is a contributor to The Hill’s Pundits Blog and blogs at thefeeherytheory.com.