It doesn't per se. The reason I took real estate out of the equation is:BearGoggles said:How does inflation affect real estate assets differently than stock or other capital assets? If I buy IBM shares and hold them for 20 years how is that different than doing so with a real estate asset (ignoring depreciation, which potentially is responsible for much of the gain)?wifeisafurd said:This is a really good, well though out commentdajo9 said:
I should have added my rule of thumb for who is rich applies to working age people only, not senior citizen retirees.
Otherwise what I here from you is that other things are unequal so it doesn't make any sense to call for ordinary income and capital gain income to be treated equally. That argument is weak, imo.
Ordinary income earners and capital gains recipients can be allowed to make use of the same set of deductions, whatever people decide those deductions are. Honestly, I'm ok with getting rid of all deductions except child and student loan deductions if the middle class is given equivalent rate reductions.
I have a tax background and therefore often get lost in the details. But capital gains really adds an enormous complexity and is a bad way to try and compensate for the prejudice in our tax code against equity in favor of debt. See the Joint Committee on Taxation Report dated May 20, 2016. Instead of making up for bad policy in the tax code, the capital gains rate should be eliminated.
I'm going to take two things off the table.
(1)Real Estate is Different. If you hold real estate you want don't want to be taxed on inflation as when you sell you are being paid in today's dollars, which have less value, and then you are paying a tax on the lost value. Fair enough, but most people in real estate avoid taxes through deferral mechanisms or in the case of non-business property, there is tax exclusion on sale of residences.
(2)Treat Retirees differently. Reasons are enunciated in other posts and taxes on retiree investment earnings effectively double-tax that income. Labor income is taxed when it is earned, and investments are generally made out of after-tax earningsso capital-gains levies represent another bite out of an investor's money. In effect, the system punishes those who put their money to work. But why not simplify things and give seniors a credit for stock and bond income to avoid the complexity of capital gains, and you can limit the size of the credit for those that live for wealth redistribution? (There is a whole discussion regarding retirement accounts which I am admittedly avoiding, due to complication).
If you take out real estate and retirees, most capital gains deal with equity investments. Capital gains supposedly differ from regular income because they can be much harder hit by inflation, so they need a lower tax rate to reflect that fact since they don't have the current tax beaks for real estate. This is less of a factor the several years, but I'm willing to concede it is a legit argument. The simple fix is to index capital (if not all) income to inflation, just as we index Social Security and all sorts of other benefits via "cost-of-living" adjustments that account for inflation. We even inflation adjust our Social Security taxes. This would actually insure a more just result, than picking some arbitrary reduced tax rate to benefit everyone.
One major argument for capital gains rates, those who have them will keep more of their money and save it, which will inevitably find its way into investments in the US that, on the margin, will spur domestic economic growth. Since those with capital gains are more wealthy, they save more of any extra income and spur the economy. But what if the tax break went to simply reduce all income? Is domestic spending by the less wealthy of a tax break (since they don't save as much they spend rather than save) any worse an investment than the capital investment made by wealthy? I have not seen one study that proves this. In theory the tax break misdirects scarce resources into less productive activities that produce income that is taxed as capital gains instead of ordinary income. It also ignores there is some question of correlation between savings from capital gains and business investment. The major source of domestic capital for much investment in the U.S. is not affected by the taxation of capital gains. This capital comes from foreign investors, institutional investors such as pensions, life insurance and 401(k)-type retirement accounts and IRAs, and nonprofits. Nor has there been shown a correlation between overall capital investment and changes in capital gain rates. Again, I have seen no study that proves that capital gains is a net positive for the economy versus a simple drop in ordinary tax rates for everyone.
Complexity and Consequences:
Lower rates provide perverse incentives, spurring people to go into certain jobs that are driven by capital gains. Further, some economists argue a low capital-gains rate, defeats the idea of progressive taxation, since mostly wealthy individuals take advantage of the lower rate. I appreciate that there are counter arguments, but let us assume this is at least a concern.
All that said, I know of no other item that adds more complexity to tax returns and planning. Capital gains are the cause for tax shelters or other strategies to re-characterize income so it is taxed at the lower capital-gains rate, rather than as regular income. Most tax planning is aimed at capital gains treatment in big accounting shops. This is an amazing distortion and I would propose is behind a substantial portion of Treasury Regulations (which are amazing complex and long) and many court cases, all which go away if you eliminate the dual tax rate system.
The problem is that the arguments for lower tax rates on capital gains is they are necessary to fix other defects in the income tax. Corporate income, for instance, is double-taxed because it's subject to both corporate and individual income tax. Instead, it provides a deduction for debt capital and one level of income to debt investor who can structure its debt instrument to have many of the same rights as equity holders (e.g., voting rights). Allowing this structure probably is bad policy because it results in businesses taking on too much debt, rather than financing spending by selling shares in the business and diversifying ownership. Deducting interest expenses is a tax benefit, conferring the preference to debt and avoids double taxation. Moreover, debt held by consumers is an itemized deduction with similar distortions.
These may be good arguments for tax reform such as for inflation adjustments, but they are not reasons to favor capital gains. A better approach to the overall question of capital gains would be to tax them and dividends as ordinary income, eliminate or reduce other tax breaks, and use the revenue gained to cut ordinary income-tax rates. This approach would reduce distortions that arise from attempts to convert ordinary income to capital gains and the lower ordinary income-tax rate would reduce the incentives for tax avoidance and complexity generally.
1) it has tax breaks/rules that don't apply to stocks (e.g., 1031 exchanges) or business and so real estate is different topic.
2) people in real estate tend not recognize capital gains due to tax deferrals or exclusions, and the arguments related to capital gains really are very different than the arguments for and against the tax breaks given to different types of real estate. .
BTW, deprecation recapture can make some of the gain ordinary, but really doesn't impact the inflation issue. Moreover land is not depreciable, only improvements.
