The Wealth Tax Debate

Jason Furman, a professor at Harvard University and former chair of the Council of Economic Advisers, discusses the arguments used to back a wealth tax and suggests alternatives to reduce the wealth inequality gap in the U.S. with Tax Notes contributing editor Joseph J. Thorndike.

In the latest installment of Willis Weighs In, Benjamin Willis continues his vote-to-value disparity discussion by explaining how the value of vote can affect the value of other stock rights and classes of stock and the importance of appraisals .

For additional coverage, read these articles in Tax Notes:

• U.S. Wealth Tax Would Require More IRS Resources, Study Says
• Researchers Debate Need for Taxes That Wealthy Can’t Avoid
• Making a Wealth Tax Work May Require ‘Rough Justice’
• U.S. Well Positioned for Wealth Tax, Economist Says
• A Look Ahead: Democrats to Stand Behind Wealth Taxes in 2020
• Warren Takes on Economists Over the Effect of Tax Hikes
• Biden and Sanders Tax Plans Found to Overstate Revenue Gains

Transcript

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David Stewart 0:01

Welcome to the podcast. I'm David Stewart, editor in chief of Tax Notes Today International. This week: a wealth of tax knowledge. Wealth taxes are getting renewed interest in this presidential primary season. So, we thought it would be a good time to take a deeper dive into the subject. Joining me now in the studio is Tax Notes columnist, Joseph Thorndike. Joe, welcome back to the podcast.

Joe Thorndike 0:26

Hey, it's great to be here.

David Stewart 0:27

You recently spoke with someone about wealth taxes. Who was it?

Joe Thorndike 0:30

It was Jason Furman who is a professor at the Kennedy School of Government at Harvard.

David Stewart 0:35

What sort of issues did you get into?

Joe Thorndike 0:36

Well, you know , not surprisingly, we talked about wealth taxes. But we also talked a lot about what some alternatives to wealth taxes might be. If what we're trying to do is address the rising inequality that we see around the world.

David Stewart 0:48

Alright, let's go to that interview.

Joe Thorndike 0:50

So, welcome to the podcast, Professor Furman. I had the good fortune to hear your recent talk at the Urban Institute about wealth taxes. And one thing that I really enjoyed was your willingness to sort of venture out of the economist safe zone into some of the broader political and philosophical questions that surround the wealth tax . And since no good deed goes unpunished, you have the misfortune now of being interviewed about the wealth tax by someone who lives full-time outside that safe zone. You know, I'm a historian with a longstanding interest in how Americans over the centuries have tried to tax the rich. So, I'm going to try to lead you further astray, right now, at least for part of the time. If that's all right with you.

Jason Furman 1:22

Great. Can't wait.

Joe Thorndike 1:23

Alright. Wealth taxes are a solution, but the problem they're trying to solve is inequality. Can you give us some sense of the scale of that problem, and whether you think it's really a problem at all?

Jason Furman 1:32

I think inequality is a problem. Inequality in the United States has risen a lot over the last several decades. You see that in income. You see that in wealth. You see that in life expectancy. You see that in just about everything. There's all sorts of debates as to whether it's risen by this much or by that much, but pretty much all the data shows it's risen. That means both we haven't raised income, life expectancy, or whatever it is in the middle and the bottom as much as we could and should have. And it also to some degree undermines some of the confidence that people have in the economy as a whole.

Joe Thorndike 2:05

If wealth taxes then are one possible solution to that rising inequality, and they're getting a lot of airtime these days. Let me try, probably against your will, but to orient our listeners a little bit, to put you in a box. How would you describe your overall position on wealth tax proposals, and insert any there that you want. But let's say the ones put forward by Elizabeth Warren, for instance. Are you friend or foe or something else?

Jason Furman 2:26

As a pragmatic political matter, I certainly wouldn't advise a president to do a wealth tax. Because I worry a lot of effort would go into something that at the end of the day would be struck down by the Supreme Court. Absent those constitutional considerations, I am a skeptic of wealth taxes but not a virulent opponent of them, taken purely on the economics.

Joe Thorndike 2:49

Okay. And we can come back a little bit later, and you can tell us more about where your skepticism comes from. You do a great job in that Urban talk about laying out some of the key issues and why they're confusing. And I remember there same sort of thing. You said you were generally skeptical. Is there anything that we need to know about wealth taxes that we don't know yet? Is there some kind of piece of research that would clarify your thinking or solidify your thinking about it?

Jason Furman 3:12

Yeah, I think there's a lot of research that I would love to see. And supporters of the wealth tax have two types of arguments. Some are the types that are standard tax policy. This is a good way to raise money. The people it's raising from won't miss the money. They have a lower marginal utility. Maybe even it improves the efficiency of the tax system in some respect cause it gets at some ways that income currently gets untaxed. On all of that, more research on the way economic behavior would change in response to wealth taxes would be really quite useful. I think the even bigger area, though, is a lot of the advocacy for the wealth tax is something quite different than your normal arguments around taxes. It's more political. The argument that wealth taxes will end oligarchic drift or deal with the negative externality that billionaires impose on our society. I think on that there's a whole lot of political science, sociological, and other research that needs to be done. Because a lot of the statements that people make of that type, at this point, really are just assertions not grounded in a whole lot of evidence.

Joe Thorndike 4:15

Which is distinguishing it how from other tax policy arguments? Not to be snarky. You do a really great job, I've seen it in that Urban [Institute] talk, laying out a sort of four part taxonomy of the arguments people use to defend a wealth tax. You use some particularly catchy phrases to describe a few of them. So, I want to just bring a few to the listeners' attention here. You described one set of arguments, and you've alluded to them already, as "power to the people." What does that argument look like?

Jason Furman 4:39

That argument says that billionaires have a disproportionate amount of political power in the United States, and that a wealth tax would reduce the amount of power that they have. I think the first half of that proposition is indisputably the case. There's an awful lot of evidence that the higher your income, the more impact you have on the outcomes of the political system. I think what's really open to research and debate, and not at all obvious, is whether a wealth tax would help that problem, hurt that problem, or have no impact. That might sound a bit paradoxical, but one of the effects of a wealth tax might be that people would end up donating more to politics [and] more to advocacy because the after-tax price of those donations would go down. As a result, that might end up magnifying the political power of billionaires, not reducing it.

Joe Thorndike 5:30

You know, there is research out there that would suggest pretty strongly, that really rich people have a lot of influence on policy, especially in the legislative creation of policy. It also raised my historian's antenna here where it made me think "really?" It sounds like a story of decline at work here that I'm a little dubious about because I think it's plausible to argue that money is less powerful in politics now than it used to be. That as inequality has increased, the democratization of politics has also been going on at the same time. My case in point here would be the 2016 election, where you had a lot of rich people lined up on the other side of Donald Trump's presidency, and he just blew it away anyway. So, I think maybe like primaries versus smoke filled rooms may , you know, that contrast makes me think that solving the money problem in politics might not be solved by removing money from the politics. Does that make sense to you?

Jason Furman 6:20

Yeah, I think you'd see something quite interesting. Which is there's more concentration in wealth at the top. There's also much more concentration of political donations. The top one one-thousandth of 1 percent of Americans are responsible for a much higher fraction of political donations now than 30 years ago. But they don't seem to be getting a very high return on those political donations. As you said, they didn't want Donald Trump elected. They do want immigration reform. In 2008, they wanted TARP passed. Took a huge scare of the public to get it passed. In many ways across the board, elites are less trusted, and as a result, the rich are like one other type of elite who have to spend more and more money. It's not obvious that they're getting any more for it. They might actually be getting less for it today than in the past.

Joe Thorndike 7:05

Well, so that brings us nicely into one of your other points in this four point taxonomy. You say, one argument for a wealth tax might be that you enjoy watching billionaires cry. Can you explain that a little bit?

Jason Furman 7:17

Yes, an economist would call it a positional externality. That just the fact that somebody has $50 billion makes somebody else feel worse off, and that you could make the second person better off just by reducing the amount of money from the first person, even if the second person doesn't get a dime of that money. Maybe even it hurts the economy and the second person loses a little bit of money, but they don't lose as much as the billionaire, and they're made better off. I'm not endorsing that view. That's one of the rationales for a wealth tax. It's one that I think is, in part, an empirical question. Would people rather watch the lifestyles of the rich and famous and they love having all these exciting billionaires around? Or does it really distress them that there are these billionaires, and they can't live like them and that makes them upset? Regardless of the empirical evidence, that's an important moral question as to what type of society you want to live in, and how you want to structure that society.

Joe Thorndike 8:07

It strikes me that a lot of people would listen to that and say, and again, you're not defending it, how is this really any different from envy? A sort of legislated schadenfreude or something? I mean, is it defensible?

Jason Furman 8:17

Well, when you use the word positional externality, instead of using the word envy, it sounds super scientific and rigorous and careful. I agree. Frankly, that is an argument that I don't relate to very well. I would not support a tax policy just to hurt somebody else. I support raising taxes insofar as they raise revenue that can be used for a really useful purpose, not in and of their own sake. Except if you're taxing something like carbon. Carbon is a negative externality. We want to support that just for the sake of having less carbon. I don't think about billionaires like carbon emissions, but certainly some people seem to do so.

Joe Thorndike 8:52

Yeah. There's a congressional staffer named Dan Riffle, who is currently working on the Hill, and he goes by an interesting name on Twitter: Every Billionaire Is A Policy Failure. So, is that a way of recasting it to think of a wealth tax as a kind of sin tax of some kind? You know, cigarettes are dangerous, so we tax them. Alcohol is dangerous, so we tax it. Large fortunes are dangerous, so we should tax those, too . Is that what's going on here?

Jason Furman 9:12

Yeah, that's the argument. Just think about carbon. If you proved that a carbon tax would raise no revenue, that would not be an argument against the carbon tax. In fact, that might be an argument for it. It would lead to so many emissions reductions that it wouldn't raise any revenue. Terrific. If you proved that a billionaire tax raised no revenue, if you hated billionaires, you might still like that tax because that tax would eliminate billionaires. If on the other hand, your focus in the tax code was on raising money, which is where most people's focus is, then you wouldn't want to do a tax if, at the end of the day, it raised no money. So, that's the question. What are you trying to do? Are you trying to curb what you view as a harmful activity? Or, are you trying to raise money? Those are two very different motivations with very different implications for policy.

Joe Thorndike 9:54

Historically speaking, just to drop back into that for a moment, it's certainly been true that this argument about making rich people less rich cause it feels good, that has definitely carried the day at certain points. More typically though, that hasn't been an especially effective argument in U.S. politics. More typically, efforts to raise taxes on the rich have been framed in fairness terms that look at whether someone's carrying their fair share of the total tax burden. So, this concept of a fair share pushes back against the [idea that] "some people are just too damn rich." All of this comes back to the question of fairness. Twenty years ago, Gene Sperling told me he thought that fairness is what most tax debates ultimately hinge on despite the best efforts of economists to make them about something more rigorous. I want to know what you think economists might have to add to fairness debate. Where's your comparative advantage on the subject of fairness?

Jason Furman 10:43

I think economists can think very rigorously about it, and I agree they can't settle the issue but I think they can help frame the issue. One very simple one is, let's say there's two ways to collect $100 from millionaires. You can just compare those two in terms of which is more efficient, which is less efficient, and then you've actually taken fairness out of the equation. So there's a technical design question. There's lots of different ways to raise taxes. For a couple different ones with the same distribution, how do they rank in terms of efficiency? Then I think you can also help frame what's the total cost of raising $100. Not just that somebody wrote a check for $100, but in terms of the way in which it changes their economic activity and the like. And what is the total benefit if you use it for some other purpose? That cost benefit analysis has to have values included in it, but economists actually, when they're good, can be explicit and clear about what values they're assuming rather than making them unstated but no less potent.

Joe Thorndike 11:43

Alright. I'm going to jump to the last of your four part taxonomy, which was "improve the tax system," which is your phrasing, and it's nicely wonky and certain to win friends among Tax Noxes readers and listeners. You suggest, in broad terms, that something's broken in our tax system. Especially around the way that we tax capital income. Can you elaborate on that?

Jason Furman 12:01

Sure. I think one thing that any tax economist would agree, some of them think tax rates should be high, some of them think they should be low. There's all sorts of debates like that. The one thing that you have broad agreement on is that similar types of activities should be taxed at similar rates. You shouldn't just be able to relabel your income in cosmetic ways and dramatically change your tax rates. Right now, we have a situation where the labels , capital and common labor income, are quite malleable. They're quite subject to manipulation. So depending on, you know, whether you're in a pass-through or not, whether you're in a C corp or an S corp, whether you label the income you get profits or wages, you can end up paying very, very different tax rates. There's something inefficient about that. A lot of that inefficiency comes from the way in which things that are labeled and called capital income, in many cases, not that different from labor income, get taxed at such different rates than things that have the labor income labels .

Joe Thorndike 13:02

Alright, so then let me ask you, if you were king tomorrow, if somebody appointed you czar of American fiscal and tax policy, what changes would you make? More specifically, at this point, feel free to include not just things concerning the taxation of rich individuals, but some of your proposals that you outlined in a recent paper for the Hamilton project, "How to Increase Growth While Raising Revenue: Reforming the Corporate Tax Code." So, just give us a soup to nuts on everything you would change if you could. No small requests.

Jason Furman 13:31

My answer depends a little bit on whether I was a czar, and I had to make my changes tomorrow, or I could convene a working group to study an even better system, spend two years on the topic, and then come out with it. In terms of what I do tomorrow, these are a little bit more incremental changes within the system itself. On the corporate side, I recently came out with a proposal for the Hamilton project, which proposed permanent expensing, disallowance of interest deductions, raise the corporate rate to 28 percent, expanded the RNE credit, and did macro economic analysis that showed that would increase economic growth at the same time that it would raise additional revenue. So, I think there is space for corporate tax reform that increases efficiency, increases equity. On the individual side, I think there's more room to broaden the base. I liked that the Republicans limited the mortgage interest deduction. I think we could do that even more. I think we could do that for health care would be great. Congress obviously recently moved in the opposite direction with their repeal of the Cadillac tax. We could raise tax rates. Then the big question is, what do you do on capital income? My nerdy heart loves the idea of mark-to-market. That you would have to pay capital gains every year as the value of your assets went up. I would not feel confident enough to legislate that tomorrow. I'd really want to kick the tires and understand administratively how that could be implemented. So in the meantime I would eliminate step-up basis at death, make death a realization event, expand the estate tax, and raise the capital gains rate to something like 28 percent. It gets it higher.

Joe Thorndike 15:04

Right. Especially the ones you just ended with. I mean it's plausible to see those as an alternative to the wealth tax that tries to get at some of the same goals. Is that fair to say?

Jason Furman 15:12

That's fair to say. Part of why I prefer using the existing capital gains structure is that it's focused on income instead of wealth. That has some advantages. It makes it easier to have a neutral system across different types of income. A wealth tax actually has a very low tax rate on people with really high return, and a really high tax rate on people with low return. That probably gets the economics roughly backwards. I think capital gains, whether you're doing it mark-to-market or even not, as long as you're getting rid of this step-up basis at death is in a more fair and efficient way taxing capital income.

Joe Thorndike 15:46

Just to return to the corporate part of your czar's agenda here, you're kind of upending the traditional formula, aren't you, for tax reform? I feel like Tax Notes readers and listeners are going to hear you say this and say, "Wait a minute. What happened to broaden the base and lower the rates? Isn't this exactly the opposite?" I mean where do you come out on that?

Jason Furman 16:02

I don't think broaden the base, lower the rate is a good general principle for taxes anymore. You can argue about whether it ever was for two reasons. One is the broader base isn't always the appropriate base. I think it would be good to take business investment out of the tax base . So, I think you want to get the right base, and sometimes that means broader, but not always. Second, I don't think even with a broader base that we can raise the revenue that we want and need that's consistent with what even Republicans do in terms of spending in Congress at the current rate structure. So, I think if you improve the tax base, you actually have more space to raise tax rates, and that, is the right formula for a more efficient tax system, and one that comes closer to meeting our revenue needs. That mantra made a lot of sense maybe when the top tax rate was 90 percent or 70 percent or maybe even 50 percent. With rates where they are now, I just don't think broaden the base, lower the rate is a good rallying cry anymore.

Joe Thorndike 16:57

Well, I think that is a great way for us to end since it's so counterintuitive and surprising for all of us. Thanks very much for joining us today.

Jason Furman 17:05

Thanks for having me. This is the most exciting tax conversation I've had all day.

Joe Thorndike 17:09

A low bar.

David Stewart 17:10

Now, for another edition of Willis Weighs In, where Tax Notes contributing editor Ben Willis discusses tax planning issues.

17:16

Thanks Dave. Today we'll be continuing our vote-to-value disparity talk from last month, when we discussed issues from my November 11 article on the topic. Now, I got back from a fantastic ABA midyear tax conference where I got the following question about our last podcast. When talking about the importance of appraisals, why didn't you explain how the value of vote can affect the value of other stock rights and classes of stock? This is a great question. So, with a focus on answering the questions of our followers, let's jump into the larger impact an increase in valuable voting rights can have.

Ben Willis 17:52

I'll start by answering the question. Without other adjustments, a change in valuable voting rights will cause the need to change the number of shares issued. Since some are now worth more and some are now worth less. Let's build on that. If you increase the voting rights of stock, that is going to alter the value of that stock as well as other classes of stock. Let's walk through an example to explain this. Assume Lee Shepherd and Marty Sullivan own half of a corporation. They each own 50 identical shares with one vote per share and collectively can elect 10 members of the board of directors. Lee decides she wants to vote for eight members of the board of directors so she can make tax-free contributions to the corporation without asking Marty to be an accommodating transferor. Now Marty might be focused on the long-term growth of his initial investment and merely want to retain the value of his shares, and perhaps increase the right to earnings given he's optimistic about the corporation's growth. So they recapitalize. Lee gets back high-vote shares to give her 80 percent control needed to engage in tax-free section 351 contributions. Now remember. Since they both own voting stock, and the section 368 voting threshold focuses on 80 percent vote and 80 percent of nonvoting stock, they don't have to worry about the nonvoting stock prong of this threshold. In the recapitalization, when Lee gets high-vote stock, should the number of share she receives be different? Marty , an economist says yes. I agree. So, in order to have an arm's-length exchange to avoid someone getting hit with an additional tax on an unintended deemed gift, payment, or other transfer, the stock surrendered should have the same value as the stock received to be fully tax-free in a section 368 recapitalization. Why? Because transfers under the code generally must be arm's length. Section 1001 on sales and section 61 on income are good starting points for this proposition. Along with section 482 of course. Otherwise you're worried about a bifurcated transaction such as a part exchange and a part sale.

19:55

Now, Lee's stock was clearly worth 50 percent of that value before the recapitalization, but owning 80 percent of the voting power in half the number of shares with otherwise identical rights would cause her to receive stock far more valuable than the 51 vote shares she contributed in the recapitalization. And she's looking to maximize tax-free treatment. Marty , with invaluable skills in economics, may be able to help figure out how to make the exchange arm's length by balancing the economics through the stock classes and various rights. So let's assume Lee's higher voting power constitutes 10 percent more of the value of each share. Marty gets to work and designs an earnings preference on yearly dividends for the low vote shares he'll receive, which are taxed at capital gain rates as qualified dividends. This ensures the 10 percent increase in Lee's high-vote shares is offset by the dividend preference and Marty's new shares. Such that each can exchange 50 shares for 50 shares of equal value. Instead of modifying the rights to earnings, Marty could have just taken more shares which could lead to a similar result economically. Lee, of course, would have to take less shares and valuations of the stock rights could equalize the results in both cases. Of course, appraisals and valuations will be needed in all these scenarios to ensure the arm's-length treatment of the transfers and the number of shares exchanged are correct. With that, I would like to thank you for reaching out with your questions and comments, and ask that you please keep them coming. You can reach out to me @WillisWeighsIn on Twitter or through email at ben.willis@taxanalysts .org. Thank you.

David Stewart 21:40

And now, coming attractions. Each week we preview commentary that'll be appearing in the Tax Notes magazines. I'm joined by Executive Editor for Commentary, Jasper Smith. Jasper, what will you have for us?

Jasper Smith 21:50

In Tax Notes Federal, Ara Stepanyan and Steven Felgran discuss their approach to allocation of global profit. Michael Bolotin discusses why private investment funds use REITs when investing in real estate. In Tax Notes State, Jennifer Weidler Karpchuk and Ilya Lipin look at some of the most significant developments of the TCJA. Darien Shanske and David Gamage clarify a point of possible confusion about tax cannibalization issues. And in Tax Notes International, Tina Scicluna examines the sixth EU directive on administrative cooperation.

David Stewart 22:23

You can read all that and a lot more in the February 17 editions of Tax Notes Federal, State, and International. That's it for this week. You can follow me online @TaxStew, that's S-T-E-W. If you have any comments, questions, or suggestions for a future episode, you can email us at podcast@taxanalyst .org. And as always, if you like what we're doing here, please leave a rating or review wherever you download this podcast. We'll be back next week with another episode of Tax Notes Talk.