Tax Reform

One of the objectives of tax reform should be to correct the inequality that was the result of the tax policies that came about after the influence of trickle down or supply side theories were made part of the tax code.  Historical evidence has shown that extreme income inequality results in economic decline, recession, or depression.  When there is a large gap in growth of income between the very wealthy and the rest of the citizenry only the wealthy benefit from the growth while the rest of the citizenry are actually penalized.  The lack of economic growth on the part of the majority results in a decline of economic activity on the part of a majority of the citizenry that leads to some degree of economic decline.  One problem we face today is the difference in tax rates between earned and unearned income.  Most people do not have an option as to the form of income they depend upon.  The majority of any citizenry will be dependent upon wages, salary, or hourly pay...in other words, earned income.  It is only a very few, normally those at the very top of the economic ladder, who can be totally dependent upon receiving their income in the form of dividends, gains from investments, or other forms of un-earned income.  Based upon the belief that granting favorable tax rates to unearned income leads to greater economic activity for everyone, in other words, “trickle down” to “the masses” tax rates for capital gains and dividends were as much as 50% lower than rates for wages and salaries.  In addition to failing to have positive economic results for everyone, lowering the tax rates for a large sector, and the fastest growing sector of the economy also resulted in a drop of tax revenues.  The lowered rates failed to create jobs and failed to maintain economic growth.  This, then is the argument that tax rates for unearned income should be progressive just as tax rates for earned income are progressive.  The following is a suggestion for tax rates for dividends and capital gains:

• The first $50,000 of dividends and capital gains taxed at 10%
• From $50,001 to $100,000 of dividends and capital gains at 20%
• $100,001 to $500,000 of dividends and capital gains at 30%
• All dividends and capital gains over %500,000 at 50%.

All gain from a sale of a residence lived in for the past 5 years should be a single lifetime exclusion.

Along with this it is also necessary to redefine the term of earned income to eliminate the uses of various tax avoidance strategies.  All income earned from compensation from work should be considered earned income and subjected to the tax rates of earned income as well as reportable on form W-2.  Some indicators of earned income would be:

• Compensation specified in an employment contract or agreement
• Funds deducted by the payer claimed to be compensation for labor or services
• If self-employed, all income
• If principles in partnerships, LLCs, or S Corporations, all pass-through payments presently considered to be dividends.

In any of the above cases, as in the case of wage and salary, re-defined income should be subject to all of the payroll taxes for Social Security, Medicare, or state and local payroll taxes.

For too long the very wealthy have managed to craft ways to avoid paying the top marginal rates of tax and it is past time for this practice to end.