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High Tax, Low Tax? Comparing Income Tax and Wealth Tax Rates

by Erin Melly and Alan D. Viard Without taking a position on the merits of wealth taxation,1 we provide a framework for properly interpreting wealth tax rates and their relationship to income tax rates. Because wealth taxes impose a flow of taxes on a stock of wealth, they cannot be properly stated without specifying a time unit. For example, the top tax rate in the wealth tax proposal by Sen. Elizabeth Warren, D-Mass., is not 6 percent but is instead 6 percent per year. No time units are required for income tax rates, for which a flow of taxes is imposed on a flow of income. We discuss how to translate wealth tax rates into equivalent income tax rates for both safe and Erin Melly is a research associate and Alan D. risky assets. We show that apparently low wealth Viard is a resident scholar at the American tax rates are equivalent to apparently high income Enterprise Institute. They thank Karlyn tax rates and vice versa. Bowman, Alex Brill, Jason Saving, and Michael We critically assess the public and political Strain for helpful comments. discussion of wealth tax rates. We find that the In this article, Melly and Viard clarify the media and the candidates have a mixed record fundamental differences between wealth tax regarding the clarity and accuracy of their rates and income tax rates, and they critique the public discussion of wealth tax rates. descriptions of wealth tax rates. Although taxes on investments can be The views expressed herein are solely the expressed in terms of wealth tax rates or income authors’ and do not necessarily reflect those of tax rates, economists often prefer to express them any other person or institution. in terms of effective tax rates on future spending. Copyright 2019 Erin Melly and Alan D. Viard. We explain the computation and significance of All rights reserved. those tax rates.

Although the wealth taxes proposed by two I. Background prominent Democratic presidential candidates On January 24, 2019, Warren proposed an have drawn wide attention, the discussion has not annual wealth tax as part of her campaign for the always made clear that wealth tax rates and 2020 Democratic presidential nomination. Her income tax rates are fundamentally different. proposal featured a tax rate of 2 percent per year on wealth between $50 million and $1 billion, and

1 For a discussion of the advantages and disadvantages of wealth taxes, see Alan D. Viard, “Wealth Taxation: An Overview of the Issues,” in Maintaining the Strength of American Capitalism 180-199 (2019).

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For more Tax Notes® Federal content, please visit www.taxnotes.com. ON THE MARGIN or third party content. domain © 2020 Tax Analysts. All rights reserved. Analysts does not claim copyright in any public a rate of 3 percent per year on wealth exceeding $1 sense in principle,” it should not be adopted billion.2 because it has failed in other countries.6 Sen. Cory On September 24, 2019, Sen. Bernie Sanders, I- Booker, D-N.J., has criticized the wealth tax as Vt., another candidate for the Democratic cumbersome and hard to evaluate, and has urged 7 presidential nomination, also proposed a wealth that revenue be raised through other means. tax. For married couples, the marginal tax rate Michael Bloomberg has said that wealth taxation would be 1 percent per year on wealth between has been tried in other countries and “it just 8 $32 million and $50 million, 2 percent per year on doesn’t work.” wealth between $50 million and $250 million, 3 As shown in Figure 1, there has been a percent per year on wealth between $250 million dramatic increase in internet searches for the and $500 million, 4 percent per year on wealth phrase “wealth tax” in the United States since late between $500 million and $1 billion, 5 percent per January 2019. Popularity receded after the first year on wealth between $1 billion and $2.5 billion, two months of 2019, although the term was still 6 percent per year on wealth between $2.5 billion more frequently searched throughout 2019 than and $5 billion, and 8 percent per year on wealth in previous years. Later in the year, there were exceeding $10 billion. The wealth levels for the two additional spikes in internet searches during various brackets would be half as large for the weeks of September 20 and October 13. The unmarried taxpayers.3 increases coincided with the January 24 release of On November 1, 2019, Warren revised her Warren’s plan, the September 24 release of proposal, raising the tax rate on wealth exceeding Sanders’s plan, and the October 15 release of $1 billion to 6 percent per year. The rate increase economists Emmanuel Saez’s and Gabriel was part of her plan to pay for Medicare for All.4 Zucman’s book, The Triumph of Injustice, which Other Democratic presidential candidates advocates a wealth tax. have expressed various views about wealth We now examine the differences between taxation. Tom Steyer has said that “a wealth tax is wealth tax rates and income tax rates and how a 5 central to any progressive path forward.” South tax rate for either tax can be translated into an Bend, Indiana, Mayor Pete Buttigieg has said, “I’m equivalent rate for the other tax. all for a wealth tax.” Sen. Amy Klobuchar, D- II. Understanding Wealth Tax Rates Minn., has said that a wealth tax “could work” and that she was open to it, but that different ways A. Stocks, Flows, and Time Units to tax the affluent should also be considered.

Former Vice President Joe Biden has stated that Wealth tax rates and income tax rates are wealth taxes “demonize wealth” and proposes fundamentally different because of their distinct instead to “raise taxes on the wealthy” by tax bases. increasing the capital gains tax. Andrew Yang has Under an income tax, a flow of taxes is said that, although a wealth tax “makes a lot of imposed on a flow of income. The tax rate therefore need not include a time unit. Under a 20 percent income tax, for example, each month’s tax payment is 20 percent of the month’s income, each year’s tax payment is 20 percent of the year’s

2 Warren release, “Senator Warren Unveils Proposal to Tax Wealth of Ultra-Rich Americans” (Jan. 24, 2019). For previous coverage, see Asha Glover, “Warren Proposes New Tax on Wealthiest Americans,” Tax Notes, Jan. 28, 2019, p. 444. 6 3 The remarks by Buttigieg, Klobuchar, Biden, and Yang were made at Sanders, “Tax on Extreme Wealth” (Sept. 24, 2019). For previous the October 15 Democratic debate. The Fix Team, “The October coverage, see Glover, “Sanders’s Wealth Tax Takes Warren Proposal Democratic Debate Transcript,” The Washington Post, Oct. 16, 2019. Further,” Tax Notes Federal, Sept. 30, 2019, p. 2317. 7 4 Booker made his remarks at the November 20 Democratic debate. Warren, “Ending the Stranglehold of Health Care Costs on The Fix Team, “The November Democratic Debate Transcript,” The American Families” (Nov. 1, 2019). For previous coverage, see Jad Washington Post, Nov. 21, 2019. For previous coverage of the debate, see Chamseddine, “Warren’s Medicare for All Offsets Hit the Rich,” Tax Jonathan Curry, “Debate Foes Attack Viability of Warren’s Wealth Tax,” Notes Federal, Nov. 11, 2019, p. 1025. Tax Notes Federal, Nov. 25, 2019, p. 1366. 5 8 Steyer, “Tom Steyer to Michael Bloomberg: Back a Wealth Tax or Mark Niquette, “Bloomberg Says He Should Pay More Taxes but Drop Out of the 2020 Presidential Race,” USAToday.com, Nov. 25, 2019. Opposes Wealth Levy,” Bloomberg.com, Nov. 26, 2019.

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income, and each decade’s tax payment is 20 Under a 6 percent per year wealth tax applied percent of the decade’s income. annually, tax payments per month equal 0.5 Under a wealth tax, in contrast, a flow of taxes percent of wealth, tax payments per year equal 6 is imposed on a stock of wealth. A wealth tax rate percent of wealth, and tax payments per decade therefore cannot be stated correctly unless a time equal 60 percent of wealth. The tax rate can unit is (explicitly or implicitly) specified. A wealth therefore be expressed as 0.5 percent per month, 6 tax rate cannot be simply 6 percent, but it can be 6 percent per year, and 60 percent per decade.11 The percent per year.9 Wealth tax rates require time tax rate is inescapably dependent on the choice of units for the same reason that interest rates, which time unit. describe the flow of income generated by a stock In principle, the wealth tax rate can be of wealth, require time units. For example, an expressed using any time unit. There is no unique interest rate cannot be simply 2.5 percent, but it significance to the interval in which our planet can be 2.5 percent per year.10 revolves around its sun. In practice, however, a year is the most natural time frame to express wealth tax rates, both because the wealth tax would probably be applied annually and because 9 No time units are needed for estate taxes because a single tax payment is imposed on a single stock. 10 The correct statement of an interest rate requires that the frequency 11 of compounding, as well as the time unit, be specified. For example, an The frequency of the wealth tax’s application must also be interest rate of 2.5 percent per year, compounded monthly, is higher than specified. A 6 percent per year wealth tax applied monthly is lower than a rate of 2.5 percent per year, compounded annually. Similarly, the a 6 percent per year wealth tax applied annually because the tax is correct statement of a wealth tax rate requires that the frequency of imposed each month only on the wealth remaining after previous application also be specified, as we discuss infra note 11. months’ tax payments.

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the income tax system generally relies on annual wish to modify our calculations to reflect other taxable periods.12 It is therefore easier to refer to values. the tax rate in the preceding paragraph as 6 With a 2.5 percent per year safe interest rate, a percent per year rather than as 0.5 percent per wealth tax rate of 6 percent per year (the top tax month or 60 percent per decade. rate in Warren’s revised proposal) is equivalent to It may seem convenient to leave the annual a 240 percent income tax rate because the wealth basis unstated, using “6 percent” as shorthand for tax payment is 240 percent of the asset’s before-tax “6 percent per year.” That shortcut is used in income. A 3 percent per year wealth tax (the top many contexts. For example, a commentator may rate in Warren’s original proposal) is equivalent to refer to an interest rate as 2.5 percent, trusting a 120 percent income tax, and an 8 percent per readers to understand that the rate is 2.5 percent year wealth tax (the top rate in Sanders’s per year. Different unstated time units are used in proposal) is equivalent to a 320 percent income different contexts. A reference to a $2,000 tax. Seemingly low wealth tax rates are equivalent apartment rental rate generally means $2,000 per to seemingly high income tax rates.16 month, and a reference to a $10 wage rate Conversely, seemingly high income tax rates generally means $10 per hour. are equivalent to seemingly low wealth tax rates. Nevertheless, leaving the time unit unstated With a 2.5 percent per year safe interest rate, an 80 when referring to wealth tax rates can be percent income tax on a safe asset is equivalent to misleading. Because the public has less familiarity a 2 percent per year wealth tax. with wealth tax rates than with interest rates, Although wealth taxes and income taxes are rents, and wages, the risk of misunderstanding is equivalent if the tax rates are appropriately greater. translated, the two taxes are dramatically different if the income tax’s rate is set equal to the B. Equivalent Income Tax Rates on Safe Assets wealth tax’s annual rate. With a 2.5 percent per Although most Americans are unfamiliar year safe interest rate, a 6 percent per year wealth with wealth taxes, they are very familiar with tax is 40 times higher than a 6 percent income tax. income taxes, which have been in place C. Equivalent Income Tax Rates on Risky Assets continuously since 1913. Translating wealth taxes into equivalent income taxes can therefore be a Most assets are risky and have expected useful way to understand wealth tax rates. returns higher than the safe interest rate. Of For any wealth tax rate, an equivalent income course, the actual return on a risky asset may turn tax on a safe asset can be identified, as long as the out to be either higher or lower than the safe before-tax safe interest rate is positive.13 For a safe interest rate. asset, a wealth tax’s equivalent income tax rate Wealth taxes and income taxes have different equals the wealth tax rate divided by the safe risk characteristics, which make it a little more interest rate. Because the Congressional Budget complicated to establish an equivalence between Office projects that the three-month Treasury bill the taxes. For example, consider a risky asset with rate will converge to 2.5 percent in 2024 through an annual return that could end up being either 2029,14 we treat that value as the normal level of negative 4 percent or 20 percent. Both outcomes the safe interest rate and use it in our calculations are equally likely, so the asset’s expected return is of equivalent income tax rates. Because the safe 8 percent per year. What income tax, if any, is interest rate fluctuates over time,15 the reader may equivalent to a 6 percent per year wealth tax? At first glance, it may seem that the wealth tax is equivalent to a 75 percent income tax because 12 both taxes result in an expected tax payment of 6 Section 441(a) states that “a taxpayer’s taxable income shall be computed on the basis of the taxpayer’s taxable year.” 13 We discuss that restriction later. 14 CBO, “An Update to the Economic and Budget Outlook: 2019 to 2029,” at 51 (Aug. 2019). 16 15 The total tax burden on the interest income would be even higher For example, the three-month Treasury bill rate was 1.57 percent because individual income tax and the section 1411 net investment per year on December 18, 2019. income tax would also apply.

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percent per year. Nevertheless, the two taxes are financial frictions prevented the taxpayer from quite different. Under the wealth tax, the tax rearranging her portfolio, financial frictions are payment is guaranteed to be 6 percent per year. unlikely to significantly affect the wealthy Under the income tax, the actual tax payment will taxpayers subject to the proposed wealth taxes. not be 6 percent per year; instead, it will end up With that assumption about marginal being either negative 3 percent (75 percent of preferences in hand, the analysis proceeds in negative 4 percent) per year or 15 percent (75 three steps: percent of 20 percent) per year. Although they 1. a 240 percent income tax on the safe asset result in the same expected tax payment, the two is identical (and therefore ex ante taxes are far from identical. equivalent) to a 6 percent per year wealth Because no income tax would result in a fixed tax; tax payment of 6 percent per year, no income tax 2. a 240 percent income tax on the risky asset can be identical to the wealth tax. No matter what is ex ante equivalent to a 240 percent tax rate is chosen, the income tax payment is an income tax on the safe asset; and uncertain fraction of wealth. 3. a 240 percent income tax on the risky asset Suppose, however, that an income tax rate can is ex ante equivalent to a 6 percent per year be found for which the taxpayer is indifferent wealth tax. (before knowing what the risky asset’s return will The first step has already been demonstrated. be) between making the uncertain income tax Because the safe asset’s income is fixed at 2.5 payment and making the fixed wealth tax percent per year, a 240 percent income tax results payment. The two taxes are still not identical, in a fixed payment of 6 percent of wealth per year, because they will end up resulting in different tax which is identical to the wealth tax payment. payments based on the risky asset’s return. The second step follows under the Nevertheless, the two taxes are ex ante equivalent assumption about marginal preferences stated because they impose equal ex ante burdens on the above. The safe asset’s return and the risky asset’s taxpayer. return are ex ante equivalent, and that Under reasonable assumptions, an ex ante equivalence still holds when both returns are equivalent income tax rate can be found for any multiplied by 2.4. wealth tax. That rate, which is the same for every The third step follows from the mathematical risky asset, equals the wealth tax rate divided by property of transitivity. If A is equivalent to B, and the safe interest rate. With a 2.5 percent per year B is equivalent to C, then A is equivalent to C. safe interest rate, a 6 percent per year wealth tax is To obtain the ex ante equivalent income tax equivalent to a 240 percent income tax on each rate for any risky asset, the wealth tax rate should risky asset, regardless of the asset’s expected be divided by the safe interest rate, not by the return. risky asset’s own expected return. In this example, The key assumption required for that result is the 6 percent per year wealth tax is ex ante that the taxpayer holds a mix of safe and risky equivalent to a 240 percent income tax on the assets so that all the assets are equally ex ante stock’s return, rather than a 75 percent income tax. attractive on the margin. For example, the safe A 75 percent income tax on the asset’s risky return asset paying 2.5 percent per year must be ex ante would be ex ante equivalent to a fixed wealth tax as attractive to the taxpayer as the risky asset payment of 6 percent per year only if the asset’s described earlier, which has an expected return of risky return was ex ante equivalent to a safe return 8 percent per year. To verify the assumption, we of 8 percent per year. Although both those returns do not need to study the taxpayer’s attitudes have the same expected value, they cannot be ex toward average returns and risk. Instead, we ante equivalent for the taxpayer; if they were, she simply observe that the taxpayer must consider a would not hold a safe asset paying a mere 2.5 dollar of each asset equally attractive on the percent per year. margin because she would otherwise move a Although the analysis will not be presented dollar from the inferior asset to the superior asset. here, it can be shown that the wealth tax and its ex Although that assumption might not hold if ante equivalent income tax also provide ex ante

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equivalent revenue to the government, assuming name would be as low, and an income tax by any that both taxes are administered perfectly. other name would be as high.19 Moreover, the taxpayer and the government can Because wealth taxes’ equivalent income tax react to each tax in a way that offsets the rates may exceed 100 percent, it is important to differences in the tax payments so that both taxes understand the implications of those rates. It may ultimately cause the same economic outcomes. appear that a 100 percent tax on investment Although switching from a wealth tax to an income removes the entire economic reward to income tax shifts risk from the taxpayer to the saving in the same way that a 100 percent tax on government, the two parties can undo that shift. labor income removes the entire economic reward The taxpayer can hold more of the risky asset to working. However, that analogy is invalid. under the income tax to “scale up” her before-tax Even when a tax captures all, or more than all, of risk exposure and thereby offset the income tax the investor’s return, saving still offers an system’s absorption of part of the risk. The economic reward in the form of the future government can hold less of the risky asset under spending that can be financed from the investor’s the income tax to offset the additional riskiness of remaining principal. There may be many reasons its revenue stream. If both parties make that to oppose capital income tax rates exceeding 100 adjustment, their combined holdings of the risky percent, but those tax rates are not confiscatory in asset are unchanged. Although the offsetting the same manner as labor income tax rates adjustment might not actually occur,17 its exceeding 100 percent. feasibility confirms the two taxes’ economic It is important to note that the high-wealth equivalence. households subject to the proposed wealth taxes can easily afford to pay those taxes, however high D. The Need for Clarity the equivalent income tax rates may be. Wealth Dividing wealth tax rates by the safe rate of tax supporters may view the high equivalent rates return reveals that wealth taxes that appear to be as desirable because they reflect the wealth tax’s low are equivalent to income taxes that appear to power to slow or reverse wealth accumulation by 20 be extremely high. Conversely, income taxes that the affected households. In any event, proper appear to be extremely high are equivalent to policy analysis requires that the tax rates be correctly understood. wealth taxes that appear to be low. The late tax We now use the principles set forth in this theorist David Bradford emphasized that income taxation of risky returns is ex ante equivalent to a section to assess the public and political 18 tax on only the safe interest rate, which can be discussion of wealth tax rates. While our review is interpreted as indicating that taxes on capital not exhaustive, it reflects a search for the phrase income are less burdensome than they appear. “wealth tax” in the online content of the U.S. Changing the terminology does not change newspapers with some of the largest circulations. the tax. We should not view a tax as low merely because a commentator describes it as a 6 percent III. Public Discussion of Wealth Tax Rates per year tax on wealth, and we should not view it Our review revealed that the media and the as high merely because she describes it as a 240 Democratic presidential candidates have a mixed percent income tax. A wealth tax by any other record in discussing the wealth tax. Because we found no clear difference in general accuracy between news articles and opinion pieces, we generally refer to both types of content

17 Standard economic models suggest that the government and the 19 taxpayer should make the offsetting adjustment. Louis Kaplow, As William Shakespeare said, “What’s in a name? That which we “Taxation and Risk Taking: A General Equilibrium Perspective,” 47 Nat’l call a rose, By any other name would smell as sweet,” Romeo and Juliet, Tax J. 789 (Dec. 1994). In practice, however, the adjustment is unlikely to Act II, Scene II. occur because the government generally does not hold risky assets. 20 18 Saez and Zucman, “Progressive Wealth Taxation,” Brookings Pap. Bradford, Taxation, Wealth, and Saving 92-93 (2000). Econ. Activity (coming fall 2019).

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interchangeably in our discussion of “media The most common error was in the failure to coverage.” explicitly include the time unit when citing a Some media articles described the wealth tax wealth tax rate. As we described earlier, that correctly and clearly communicated the omission can be dangerously misleading because fundamental differences between income and the public is more familiar with income tax rates wealth tax rates. For example, a Wall Street Journal than wealth tax rates. We found other common article by Richard Rubin described Warren’s errors in the media coverage of wealth taxes, proposed wealth tax as “a 2 percent tax each year which we group into a few broad categories. on individuals’ assets above $50 million and a 21 further 1 percent on assets exceeding $1 billion,” A. Missing Time Unit thereby including the time unit for the tax rate. The failure to include a time unit occurred Further, Rubin explicitly noted that for an across a variety of major outlets. In many articles, investment yielding a steady 1.5 percent per year there was at least one instance in which a time unit return, a 2 percent per year wealth tax is was omitted when referring to a wealth tax rate. equivalent to an income tax exceeding 100 Many articles referred to a wealth tax rate percent, causing wealth to shrink. Quoting Ben using phrases such as “per year” or “annual” in Ritz of the Progressive Policy Institute, he wrote, the first mention of the rate, or referred to the “You hear 1 percent, 2 percent, doesn’t sound that wealth tax as an “annual” tax, but omitted a time much. Paying 1 percent, 2 percent on an asset you 22 unit in at least some references to the tax rate. That have every single year, that can add up.” approach arguably conveys the essential Similarly, a Los Angeles Times article clarified that information, but it does not consistently state that the Warren proposal is an annual 2 percent tax by the tax rate would be applied each year. For stating that “a wealth tax of just a few percentage 23 example, a New York Times article first described points might erode fortunes over time.” In Sanders’s plan as “an annual tax that would apply earlier issues of Tax Notes Federal, an economic to households with a net worth above $32 analysis clearly stated that the tax rate would be million,” but later referred to Warren’s plan as “a “applied annually,” and a news story referred to a 24 2 percent tax on net worth from $50 million to $1 “2 percent annual tax.” billion, and a 3 percent tax on net worth above $1 One of the clearest examples of a correct 26 billion,” omitting the time unit. At least three Tax description of a wealth tax is a Washington Post Notes news articles took that approach.27 article that emphasized how seemingly low Unfortunately, some articles omitted a time wealth tax rates impose larger-than-perceived tax unit altogether, with no mention of the wealth tax burdens. The article stated that “six cents on every as levied “annually” or “per year.” That approach dollar taken out every year would be an 25 fails to provide a correct statement of wealth tax enormous chunk of their wealth.” rates. For example, a recent Washington Post article However, a significant portion of the media described Warren’s plan as a “2 percent tax on coverage failed to explain a wealth tax as well as wealth above $50 million, as well as a 3 percent tax the above examples. on wealth above $1 billion,” with no mention of

21 Rubin, “Democrats’ Emerging Tax Idea: Look Beyond Income, Target Wealth,” The Wall Street Journal, Aug. 27, 2019. 22 Id. 23 Rich Miller and Laura Davidson, “The World’s Richest Could Lose Hundreds of Billions Under Warren’s Wealth Tax,” The Los Angeles Times, Sept. 13, 2019. 26 24 Thomas Kaplan, “Bernie Sanders Proposes a Wealth Tax: ‘I Don’t Martin A. Sullivan, “Risking the Wrath of 900 Billionaires,” Tax Think That Billionaires Should Exist,’” The New York Times, Sept. 24, 2019. Notes Federal, Oct. 21, 2019, p. 398, at 400; and Curry, supra note 7. 27 25 Glover, supra note 2; Amanda Athanasiou, “Wealth Tax Would Megan McArdle, “Elizabeth Warren’s Wealth Tax Might Sound Require More IRS Resources, Study Says,” Tax Notes, Feb. 11, 2019, p. Like Nothing. But the Numbers Aren’t Small,” The Washington Post, Nov. 698; and Glover, “Ambitious Tax Proposals Polling Well for 12, 2019. Progressives,” Tax Notes, Mar. 4, 2019, p. 1067.

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time units.28 At least five news stories in Tax Notes wealth tax. The omissions were likely the result of Federal took that approach.29 a failure to understand wealth taxes or a Errors, inconsistencies, or complete omissions misplaced desire to simplify the exposition rather of time units occurred in articles in the Associated than an effort to deliberately understate wealth Press, Bloomberg News, The Boston Globe, tax rates. Business Insider, CNBC, the Los Angeles Times, the 30 B. Confusing Income and Wealth Washington Examiner, and USA Today. Time unit omission is more troubling when Some articles incorrectly treat wealth and wealth tax proposals are compared with income income as interchangeable. tax proposals. A recent New York Times article Two New York Times articles offered a sharp referred to proposed wealth tax rates of 1 percent, contrast in accuracy. A February 2019 article 2 percent, and 8 percent, and to a proposed began by explaining the crucial distinction income tax rate of 70 percent, with no time units between income and wealth. The article quoted specified as part of the wealth tax rates. comedian Chris Rock, writing: Comparing a 2 percent per year wealth tax rate and a 70 percent income tax rate without stating “Shaquille O’Neal, the star basketball the time unit can artificially make the wealth tax player, was rich.” . . . “The team owner seem low and the income tax seem high. On the who signed his paycheck was wealthy.” positive side, however, the article included a And that, in a nutshell, gets at the reference to how much a hypothetical investor conceptual difference between trying to tax people’s income, as the tax code does would pay “per year” under a wealth tax, stated 32 that the wealth tax would shrink taxpayers’ today, versus their wealth. wealth over time, and adequately described the The article described those fundamental 31 difference in the bases of the two taxes. differences and then correctly referred to a wealth We found no pattern of error based on tax rate as a percentage per year. In contrast, an political viewpoint. Time units were omitted from October 2019 article not only failed to specify the articles against, in favor of, and neutral toward a time unit when referring to a wealth tax rate, but also conflated income and wealth by stating, “Income inequality has surged in the United States in the last 50 years, with the top 0.1 percent 28 Jeff Stein, “Wealth Tax Splits Sanders and Warren From the Rest of now controlling about a fifth of the nation’s the Democrats,” The Washington Post, Oct. 16, 2019. 33 29 wealth.” Curry, “Ultra-Wealthy Call for Warren-esque Wealth Tax,” Tax Notes Federal, July 1, 2019, p. 123; Glover, supra note 3 (stating, however, that the wealth tax would dramatically reduce the taxpayers’ wealth C. The ‘Two Cents’ Slogan over time); Glover, “De Blasio Exits Presidential Race,” Tax Notes Federal, Sept. 30, 2019, p. 2348; Chamseddine, “U.S. Well Positioned for Wealth Tax, Economist Says,” Tax Notes Federal, Oct. 28, 2019, p. 656; and The most striking misrepresentation of a Chamseddine, supra note 4. wealth tax is the “two cents” rhetoric used by 30 See, e.g., Will Weissert, “Dueling ‘Wealth Tax’ Plans May Prompt Warren’s campaign. The plan’s description on Sanders-Warren Clash,” Associated Press, Sept. 24, 2019; Miller, “Summers Lambasts Warren, Sanders Plans to Tax Wealth of the Rich,” Warren’s official campaign website plainly states Bloomberg News, Oct. 17, 2019; James Pindell, “Warren’s Wealth Tax that the wealth tax is an annual tax. However, it Proposal Could Alter How Democrats Talk About Economic Inequality,” The Boston Globe, Jan. 26, 2019; Eliza Relman, “Hillary Clinton Slams also refers to the wealth tax as a “small tax,” Bernie Sanders’ and Elizabeth Warren’s Wealth-Tax Plans as ‘Incredibly which is incorrect under the standards commonly Disruptive’ and ‘Unworkable,’” Business Insider, Oct. 7, 2019; Tucker Higgins, “Elizabeth Warren Would Double Her Proposed Billionaire applied to income taxes. In the October 15 Wealth Tax to Help Fund ‘Medicare for All,’” CNBC, Nov. 1, 2019; Democratic presidential debate, Warren denied Michael Hiltzik, “Elizabeth Warren’s Wealth Tax Proposal Is Constitutional, Experts Say — and Necessary,” The Los Angeles Times, that her plan was “punitive” and called for the top Jan. 25, 2019; Nihal Krishan, “Two French Economists From Berkeley 0.1 percent of Americans to “pitch in two cents so Advise Warren and Sanders on Wealth Tax,” Washington Examiner, Oct. 6, 2019; Sean Sullivan and Stein, “Sanders Proposes Sweeping Wealth Tax, an Idea Highlighted by Warren,” The Washington Post, Sept. 24, 2019;

and Joshua Bote, “George Soros, Other Ultrarich Urge Tax on Top 0.1 32 Percent in a Letter to 2020 Candidates,” USA Today, June 24, 2019. Neil Irwin, “Elizabeth Warren Wants a Wealth Tax. How Would 31 That Even Work?” The New York Times, Feb. 18, 2019. Nelson D. Schwartz and Guilbert Gates, “Democrats Want to Tax 33 the Rich. Here’s How These Plans Would Work (or Not),” The New York Alan Rappeport and Thomas Kaplan, “Democrats’ Plans to Tax Times, Sept. 24, 2019. Wealth Would Reshape the Economy,” The New York Times, Oct. 1, 2019.

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every other kid in America has a chance to make (including income, real estate, stocks, and other it.”34 At Warren’s rallies, her “two cents” investments) is more than $50 million?” The description of the wealth tax has become a slogan, question’s failure to clarify that the tax is an 35 often embraced and cheered by crowds. annual tax on a stock of wealth, not a tax on a flow The phrasing understates the economic of income with which most Americans would be burden of a wealth tax by implying that it is a one- familiar, complicates the interpretation of this time contribution. In contrast to the media poll. Similarly, a poll conducted by Business articles, Warren’s campaign messaging is Insider found that 56 percent of respondents 39 purposeful36: Warren has acknowledged that she supported Warren’s wealth tax plan. While the 37 uses that rhetoric to “make the point sharper.” exact wording of the question was not stated, the

Although Sanders’s campaign website article neglected to include a time unit in each

initially refers to his proposal as “an annual tax on mention of wealth tax percentage rates.

the extreme share of wealth of the top 0.1 Although one might think that the failure to percent,” additional references do not include the specify a time unit would artificially boost wealth time unit. Although it is clear that the tax is tax support by making the tax seem more modest, incurred annually, that point is not consistently a poll that used a more accurately worded conveyed. question found similar levels of support. A Both candidates’ websites make clear that the Quinnipiac University poll reported that 60 tax base of a wealth tax is not the same as the percent of responding Americans supported “an current income tax base. If anything, the websites annual 2 percent tax on any individual wealth 40 highlight that difference and promote it as over $50 million.” demonstrating the wealth tax’s power to reduce Even with the time unit stated, however, the inequality. However, they do not make clear the public may not fully understand the differences time unit, the contrast to income taxation, and the between the two types of tax rates. Interestingly, large tax burden that a seemingly low rate the Quinnipiac poll also found that 60 percent of imposes. In particular, Warren’s messaging voters oppose raising the top income tax rate to pointedly underplays the wealth tax burden. $10 million. Were voters more likely to support the wealth tax because they mistakenly thought it D. Opinion Polls was a smaller tax than the income tax increase? Or

Opinion polls have shown broad support for a did they understand that a wealth tax more profoundly reduces inequality, and embraced it wealth tax. For example, a New York Times poll found that 63 percent of adults (including 77 because of its stronger impact? It would be percent of Democrats, 55 percent of independents, interesting to see whether there would be any and 57 percent of Republicans) supported a change in public support if the poll included an wealth tax.38 However, the poll question was explanation of the comparison between wealth worded, “Do you approve or disapprove of a two tax and income tax rates. percent tax on households whose net worth E. Summary The media coverage of wealth tax plans has been mixed, with accuracy even varying across 34 The Fix Team, supra note 6. articles published in the same outlet. We generally 35 The “two cents” slogan also understates the tax rate for billionaires, did not find a correlation between an article’s which Warren set at 3 percent per year in her original plan and revised to 6 percent per year on November 1. At the November 20 debate, which accuracy and its attitude toward a wealth tax. One was the first debate after the November 1 revision, Warren used the “two cents” slogan, but added, “And when you hit a billion dollars, you’ve got to pitch in a few pennies more,” The Fix Team, supra note 7. 36 Robert Frank, “The Two Words Powering Elizabeth Warren’s Rise and Energizing Campaign Rallies,” CNBC, Oct. 4, 2019. 39 37 Bob Bryan, “A Majority of Americans Approve of Elizabeth Joshua Jamerson and Julie Bykowicz, “Passive Income to ‘Two Warren’s New Tax on the Wealthy, According to a New Poll,” Business Cents’: How Elizabeth Warren Honed Her Message,” The Wall Street Insider, Feb. 1, 2019. Journal, Oct. 4, 2019. 40 38 Quinnipiac University Poll, “Biden Surging Among Democrats in Laura Wronski, “New York Times/Survey Monkey Poll: November Presidential Race, Quinnipiac University Poll Finds; U.S. Voters Support 2019,” Survey Monkey. Wealth Tax, Oppose Free College,” Apr. 30, 2019.

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major exception is the campaign messaging of spending could be consumer spending, charitable Warren, which emphasizes that a wealth tax is a giving, or political outlays. “small” tax through her description of the tax as a Those tax rates describe how taxes alter the payment of “two cents” for every dollar by the amount of current spending that the taxpayer taxpayers that would face it. must forgo to obtain one dollar of future spending. Because those tax rates capture the IV. Tax Rates on Future Spending impact of taxes on the trade-off between current Because taxes on investments can be spending and future spending, they are described as income taxes or wealth taxes, with analogous to labor income tax rates, which capture the impact of taxes on the trade-off sharply different tax rates, it may not be clear which description is more useful or correct. between leisure and consumer spending. When formulating models of optimal taxation, To make things more confusing, there are still other ways to express the tax rates. For example, economists usually translate taxes on investment income or wealth into taxes on future spending.43 the tax rate can also be expressed as a fraction of the real inflation-adjusted investment return. The In the appendix, we provide an example of real return, which reflects inflation’s erosion of the how to compute effective tax rates on future buying power of the investor’s principal, is equal spending. The table lists the percentage tax rates to the conventional nominal return minus the on spending one year, five years, 10 years, 20 inflation rate. For example, the CBO projection years, and 40 years in the future that arise under a implies that a leading inflation measure will 6 percent per year wealth tax, for four illustrative converge to 2 percent per year in upcoming years, before-tax rates of return. Tax rates are expressed as the safe nominal interest rate converges to 2.5 on a tax-inclusive basis. The calculations are percent, implying a safe real interest rate of 0.5 available from us upon request. percent per year.41 The tax that we have described As shown in the first row of the table, the as a 6 percent per year wealth tax and as a 240 equivalent income tax rate rises dramatically as percent tax on (nominal) investment income can the before-tax return falls. As mentioned earlier, also be described as a 1,200 percent tax on real the equivalent income tax rate is not meaningful inflation-adjusted investment income. when the before-tax return is negative, as it is in Some commentators have treated the the last column. The equivalent income tax rates therefore suggest that the 6 percent per year equivalence of apparently low wealth tax rates to wealth tax becomes far more burdensome as the apparently high income tax rates as proof that the proposed wealth taxes are high. For example, one before-tax return falls. author of this article referred to Warren’s Looking at the effective tax rates on future proposed wealth tax as a high-rate tax because it spending dispels that view, however. The was equivalent to a high-rate income tax.42 That effective tax rates on spending at each future date approach implicitly assumes that income tax rates rise only slightly as the before-tax return falls. are the right way to measure the size of the tax Regardless of the before-tax return, the 6 percent burden. per year wealth tax imposes effective tax rates of In reality, however, the most economically approximately 6 percent on spending one year in 44 meaningful description of the tax burden is the future, 25 percent on spending five years in neither the income tax rate nor the wealth tax rate. the future, 45 percent on spending 10 years in the Instead, the best description is an array of future, 69 percent on spending 20 years in the effective tax rates on spending at future dates. The

43 41 See, e.g., Martin S. Feldstein, “The Welfare Cost of Capital Income CBO, supra note 14. The CBO projected that the personal Taxation,” 86 J. Pol. Econ. S29, S34 (Apr. 1978); Anthony B. Atkinson and consumption expenditures price deflator would rise 2 percent per year Joseph E. Stiglitz, Lectures on Public Economics 73-74 (1980); Bradford, on average from 2024 to 2029. It also projected that the consumer price supra note 18, at 153-154; and Kaplow, The Theory of Taxation and Public index, a more familiar price measure, would rise 2.3 percent per year on Economics 222-223 (2008). average during those years. 44 42 For short time intervals, the effective tax rate is approximately Viard, “High-Rate Wealth Tax Enters the Policy Debate,” AEIdeas equal to the wealth tax rate multiplied by the interval. However, that blog, Feb. 1, 2019. approximation breaks down at longer intervals.

280 TAX NOTES FEDERAL, JANUARY 13, 2020

Equivalent Income Tax Rates and Tax Rates on Future Spending for a 6 Percent Per Year Wealth Tax (tax-inclusive rates) Before-Tax Return

8 Percent Per Year 5 Percent Per Year 2 Percent Per Year -1 Percent Per Year Equivalent Income Tax Rate

75% 120% 300% Not meaningful

Tax Rate on Future Spending 1 year in future 5.6% 5.7% 5.9% 6.1%

5 years in future 24.9% 25.5% 26.1% 26.8% 10 years in future 43.5% 44.5% 45.5% 46.5%

20 years in future 68.1% 69.2% 70.3% 71.4%

40 years in future 89.8% 90.5% 91.2% 91.8% future, and 90 percent on spending 40 years in the countries. Although negative rates are not likely future. A similar pattern, although with lower to occur in the United States soon, some observers effective tax rates, holds for a 2 percent per year have speculated that they could happen at some 45 wealth tax. Regardless of the before-tax return, point. Real inflation-adjusted interest rates have that tax imposes effective tax rates of been negative in the United States at various approximately 2 percent on spending one year in times, making it impossible to calculate the future, 9 percent on spending five years in the meaningful tax rates on real inflation-adjusted future, 18 percent on spending 10 years in the interest income. future, 32 percent on spending 20 years in the future, and 54 percent 40 years in the future. V. Conclusion

The wealth tax rate can therefore be used to Recent wealth tax proposals have drawn infer the approximate magnitude of the tax’s media and political attention in the past year, but impact on the trade-off between current spending the fundamental differences between wealth tax and future spending without needing to know the rates and income tax rates are sometimes before-tax return. In contrast, a specified tax rate misunderstood. Notably, because wealth taxes on nominal or real income would result in impose a flow of taxes on a stock of wealth, a dramatically different effective tax rates on future proper statement of a wealth tax rate must specify spending, depending on the before-tax return. In a time unit. No time units are required for income that respect, the wealth tax rate is more tax rates, which impose a flow of taxes on a flow informative. of income. As shown in the table, the effective tax rates Seemingly low wealth tax rates are equivalent on future spending remain less than 100 percent to seemingly high income tax rates, and vice even when the equivalent income tax rate exceeds versa. Of course, the high-wealth households 100 percent, correctly indicating that, as discussed subject to the proposed wealth taxes can easily earlier, the tax does not remove all of the reward to saving. However, the tax rates approach 100 percent as the time interval becomes very long. 45 On September 11, 2019, President Donald Trump tweeted, “The The wealth tax rate is particularly useful when Federal Reserve should get interest rates down to ZERO, or less.” The Fed is unlikely to heed that misplaced advice in the near term. The code the before-tax return is zero or negative, as in the and the regulations do not have clear provisions for taxation under last column of the table, because no meaningful negative interest rates, a problem discussed in William Hoke, “Negative Interest Presents Perplexing Problem,” Tax Notes, Jan. 11, 2016, p. 191; income tax rate can be defined. Negative nominal Sullivan, “Can I Deduct My Negative Interest?” Tax Notes Federal, Sept. interest rates already prevail in several European 30, 2019, p. 2199; and Paul H. Kupiec, “The Tax Code Can’t Handle Negative Interest Rates,” The Wall Street Journal, Nov. 28, 2019.

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For more Tax Notes® Federal content, please visit www.taxnotes.com. ON THE MARGIN or third party content. domain © 2020 Tax Analysts. All rights reserved. Analysts does not claim copyright in any public afford to pay those taxes, however high the equivalent income tax rates may be. Nevertheless, proper policy analysis requires that the level of the tax rate be understood. Our assessment of the public and political discussion of wealth tax rates reveals that the media and prominent political figures have a mixed record regarding the clarity and accuracy of their descriptions of wealth tax rates. We do not take a position on the merits of wealth taxation. Instead, we provide a framework for properly comparing wealth tax rates and income tax rates.

VI. Appendix: Computing Tax Rates on Spending

We provide an example of how to compute effective tax rates on future spending, which can easily be generalized to other values of the before- tax return, tax rate, and time interval. Consider a taxpayer who is choosing between current spending and spending five years in the future. At a before-tax return of 8 percent per year (compounded annually), an investment of 68.1 cents grows to $1 over five years. The before-tax price of $1 of spending five years in the future is therefore 68.1 cents. Now, introduce a tax of 6 percent per year, which lowers the after-tax return to 2 percent per year. The tax can be described as either a 75 percent income tax or a 6 percent per year wealth tax. At the after-tax return of 2 percent per year (compounded annually), an investment of 90.6 cents grows to $1 over five years. The after-tax price of $1 of spending five years in the future is therefore 90.6 cents. The tax increases the price of spending five years in the future from 68.1 cents to 90.6 cents. The 22.5 cent increase in the price of future spending is 24.9 percent of the 90.6 cent after-tax price. The tax rate on spending five years in the future is therefore 24.9 percent on a tax-inclusive basis. We quote tax rates on future spending on a tax-inclusive basis because that is the basis on which income tax rates are commonly quoted. Tax rates could alternatively be quoted on a tax-exclusive basis. The tax-exclusive rate in this example is 33.1 percent because the 22.5 cent increase in the price of future spending is 33.1 percent of the 68.1 cent before-tax price.

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For more Tax Notes® Federal content, please visit www.taxnotes.com.