Warren Buffett has been talking virtually nonstop about how tax rates on “the wealthy” need to be increased, and of course the dinosaur media has been praising and amplifying this viewpoint. People who think this way are especially fond of citing the 15% capital tax gains rate and contrasting it with the considerably higher rates on ordinary income.
This simplistic comparison, though, ignores the effect of inflation, which acts to increase the effective tax rate–especially on assets which are held for a long period of time. Consider a simple example: let’s say you bought a stock in 2003 and sold it in 2011, with a 30% price increase. To make the numbers easy, you bought $10000 worth and sold it for $13000. But according to BLS data, the consumer price index has risen by 22% over the years 2003-2011. Thus, your $13000 is really only worth $10655 in 2003 dollars.
It gets worse. The IRS is going to tax you on the full $3000 of “gain,” even though it is largely illusory. At 15%, you will pay $450, which is a very big chunk of your true, inflation-adjusted gains. If you work through the calculations, you’ll find that your real capital gains tax rate for this example is not 15%, but more than 50%. (I’ll post the calculations if anyone wants to see them.) Indeed, if you buy and sell an asset whose value just keeps pace with inflation–ie, if you don’t make any money at all in real terms–you will still be paying capital gains taxes on wholly imaginary profits. If we get Jimmy-Carter-style inflation…say, 40% over the next decade…and you have an investment which just keeps pace with inflation, then federal taxes will take 6% of the value of your investment (15% times 40%) when you sell it. And that’s assuming that the current capital gains rate does not increase, and ignoring any state-level taxes on capital gains.
Warren Buffett is surely aware of the preceding considerations, and anyone who writes about finance and economic policy should be aware of them.
A good video by Christina Sochacki, for the Center for Freedom and Prosperity, about the problems with the capital gains tax, here.