Why Not Raise Capital Gains Taxes?

Dec 17, 2012
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Switching gears, we're going to turn now to some economic news. The clock is winding down for the president and Congress to reach a decision on the nation's budget before the automatic spending cuts and tax hikes known as the fiscal cliff come into play. Over the weekend, there were some signs of movement. The speaker of the House, John Boehner, offered to accept a tax rate increase for Americans making more than $1 million a year, and negotiations are continuing.

We have been taking a look at items that used to be considered untouchable, but may now be up for grabs because of the severity of the circumstance facing the country. We're calling the series Why Not? And today, we're going to ask: Why not change the law taxing capital gains and dividends?

With us now is NPR congressional reporter Tamara Keith. Joining us once again is Dorothy Brown. She's a professor of law at Emory University.

Tamara, Dorothy Brown, welcome back. Thanks for joining us once again.

TAMARA KEITH, BYLINE: Glad to be with you.


MARTIN: Tamara, I'm going to start with you. Let's keep it simple. What are capital gains and what are dividends?

KEITH: OK. So capital gains are - that would be the tax that you pay when you sell a stock and you realize a gain. Or, say, you sell a business. Like, for instance, George Lucas sold Lucasfilm this year for something like $4 billion. He would be taxed on that capital gain.

MARTIN: So the profit that you make on selling something of value.

KEITH: Right, like a business or a stock...

MARTIN: Is a capital gain.

KEITH: a capital gain.

MARTIN: And what's a dividend?

KEITH: A dividend is a way that companies share their profits with their shareholders. So if you own a stock of, say, share of stock in McDonald's or Wal-Mart or something like that, at some point during the year or several points during the year, they may say, well, for every share you own, we're going to give you a buck fifty, or whatever it is. For instance if you owned Wal-Mart stock this year, you would get $1.59 for every share you own, and that's your dividend.

MARTIN: OK, so we're going to get into some of the specifics of the proposals on the table in a minute, but I did want to ask whether the tax treatment of capital gains and dividends has been considered untouchable in the same way as, you know, we've talked about things like Social Security, we talked about things like the mortgage interest tax deduction and the tax treatment of those has gone back for decades.

And so people kind of consider it a settled issue. The tax treatment of capital gains and dividends isn't quite like that, is it?

KEITH: It's been changing throughout history, basically. Often capital gains have had sort of a preferred status in the tax code because it rewards investment is the idea. But dividends have long been taxed, until very recently, just like ordinary income, just like the money you'd get from your wages.

MARTIN: So what are some of the proposals on the table?

KEITH: Let's go through the three sort of scenarios here. One would be if we go off the cliff. If we go off the cliff, then taxes would rise on both capital gains and dividends. For capital gains it would go up to either 10 percent or 20 percent, depending on your income level. And for dividends it would go from being taxed at this 15 percent rate, where it currently is, to being taxed as ordinary income.

So if you are a very high-income person, suddenly it could go from being taxed at 15 percent to being taxed at 39.6 percent.

MARTIN: So Professor Brown, let's turn to you. As you can hear from what Tamara just told us, the rates that capital gains and dividends are currently taxed is a lot lower than ordinary income. So why not let these tax rates expire? Why not raise these rates? What are the arguments?

BROWN: Well, when we talk about millionaires paying more, capital gains are found disproportionately in millionaire households. That said, we can talk about why you might have a different rate. One is we want to encourage risk-taking. And when you invest in the stock market, it is a risk. You could actually lose all of your money.

You could also make a lot of money, see, e.g., Warren Buffett and others. So one reason for the rate differential is the risk. We want to reward that. Another one is that part of the gain when you sell stock isn't just because the company has done better. It's done better - well, it's not necessarily done better, but there could be a part allocable to inflation, and it isn't fair to tax you at a higher rate because inflation is the reason for the additional income that's earned. So...

MARTIN: So tell us why you think it's OK to let these rates rise and why you think in fact in your opinion you think it's absolutely the right thing to do.

BROWN: OK, well, it's the reason or the primary reason why Warren Buffett pays less in taxes than his secretary. It is because the lion's share of his income and the lion's share of millionaires' income comes from dividends and capital gains that are taxed at a 15-percent rate, whereas wage earners are taxed at 35 percent currently, and it could be as high as 39.6 percent beginning January 1 of next year.

So I say right now there's discrimination against labor, against wage earners in the code because there's this preferential low rate given to capital gains.

MARTIN: If you're just joining us, you're listening to TELL ME MORE from NPR News. I'm Michel Martin. And we're looking at how taxes on capital gains and dividends could change with Emory law professor Dorothy Brown, that's who was speaking just now, and NPR congressional reporter Tamara Keith.

Now Tamara, you might think that the politics of this would be easy because you're talking about, as Professor Brown said, a relatively small group of people relative to the total population. But it has not been that way. Why is that?

KEITH: Now that's a good question. You know, one idea, and this is just spit-balling here, is that actually members of Congress own a lot of stock, have a lot of investments. And so it's part of this Washington bubble phenomena, where people in Congress don't have a sense of what mainstream America is going through or where they get their money from.

Another thing is that there is a very vocal constituency arguing that these rates should stay where they are. Included in that is the business community, which has a very loud voice.

MARTIN: I'd like to ask you, Professor Brown, you wanted to answer this question of why do you think the debate over this is so difficult. Is it that - do most people feel that they have some investment in capital gains and dividends, and it would affect them, even if it wouldn't affect them directly in the near term? What do you think?

BROWN: Great question. I think - half of Americans own stock, but they own it in their retirement accounts, which are not eligible for the 15-percent rate. So when people hear oh, we're going to increase the gain on - the tax treatment on stocks, they think oh no, this is going to hurt me. It really isn't because you're not benefitting from the low rate if you have it in your pension accounts.

I wanted to go back to something Tamara said. Members of Congress are not required to release their tax returns. I made the argument in a Bloomberg View op-ed that they should be, that in fact when I did a back-of-the-envelope calculation, about nine in 10 senators own stock in a way making them eligible for the 15-percent rate. Compare that with less than one in five Americans.

So I think the first step to tax reform, whether it's taxing wages at the same rate as capital gains, is letting us look at members of Congress' tax returns because I think we'd see that they really are not like the typical Americans' tax returns.

MARTIN: Tamara?

KEITH: And we get sort of a window to that by look at their annual financial disclosures, where they have to report their assets, but it's in a big range, and you just don't really get as complete a sense.

MARTIN: Where is this debate going? Do you find that there seems to be more interest in addressing this issue given the big package of discussions that's going on? I know it's hard to see from the outside just because these discussions are taking place behind closed doors.

KEITH: Well, and this is one of those things that is not as high-profile as many of the other issues that are being discussed. I mean, top tax rates, that's the big, sexy item that everybody is paying attention to, the income tax rate. This is something that doesn't get as much attention.

I will say that given that both Republicans in Congress and the president want to extend these preferential rates for virtually everyone, most of our listeners will most likely be just fine after the new year if either the president or Republicans in Congress get their way.

If the president gets his way, people at the very high level, people earning more than $250,000 a year, could see these rates rise. But generally speaking, unless we go over the cliff, most people are not going to see any change.

MARTIN: Tamara Keith covers Congress for NPR. She was here with me in our Washington, D.C., studios. Emory law professor Dorothy Brown was with us from Martha's Vineyard, Massachusetts. Thank you both so much for speaking with us.

KEITH: Thank you.

BROWN: Thank you. Transcript provided by NPR, Copyright NPR.