President Biden’s new budget proposal is an exercise in political spin. The president has reaffirmed his support for his $2.4 trillion Build Back Better extravaganza, but simply left its massive cost out of his proposed tax and spending totals. Even more baffling, he’s scoring the cost of his other tax proposals against a tax code that assumed Build Back Better was already law, which inflated the claimed savings from his new plan.
Between Build Back Better and the new budget, Biden is proposing a staggering $3.5 trillion in new taxes over the decade—the vast majority of which would finance huge new spending.
The timing of these proposals may suggest that Washington is suffering from plummeting tax revenues. In fact, federal tax revenues last year soared to 18.1 percent of the economy—the highest share in 20 years. Furthermore, the Congressional Budget Office projects that tax revenues over the next 30 years will remain well above the typical share of the economy.
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Long-term deficits are instead driven by federal spending projected to leap from 21 to 32 percent of the economy over that period.
Biden is targeting corporate taxes, even though these tax revenues have already jumped by 61 percent over the 2019 pre-pandemic level. If we combine Biden’s proposals in his budget and Build Back Better (and incorporate the income taxes paid by pass-through businesses), then business taxes at the federal and state level would reach 4 percent of GDP by 2025. That would exceed the business taxes of France, Germany, Britain, Sweden, Finland, and Denmark. Among the many new business taxes, Biden would raise the corporate tax rate to 28 percent, which at 32.3 percent when including state taxes would restore America’s status as the highest corporate tax rate in the OECD.
We should be able to ensure corporations pay their fair share without once again making the U.S. a global outlier that incentivizes its companies to move abroad.
Moving to individual taxes, Biden’s proposals targeting wealthier families helpfully close an existing loophole, but are also excessive and unworkable. Currently, the 23.8 percent capital gains tax rate on investments (including a related surtax) can be deferred until the asset is sold and the income is realized. However, an investment held until death can ultimately be passed down to heirs without any tax on its prior gains. President Biden’s proposal to finally tax those capital gains at death ensures that they do not permanently escape taxation.
Yet Biden would also raise the capital gains rate as high as 43.4 percent (including the surtax) for upper-income families. This is especially excessive considering that capital gains taxes are assessed both on the inflationary growth of an asset, and the “real” growth. An investment that grows from $100 to $200 due to $50 in inflation and $50 in true appreciation would still face a $43 tax, wiping out nearly all inflation-adjusted gains. Taxing inflation is one reason the typical capital gains tax rate in Europe is 19.5 percent.
Relatedly, the president would impose a 20 percent minimum tax for the superrich that—for the first time—would count the annual appreciation of capital gains as income to tax in the current year. However, taxing capital gains that have not been sold is extraordinarily complicated and unnecessary.
The most obvious problem is that Washington would be taxing theoretical income that has not been realized. How does one pay a tax out of their investment income before they have actually collected the income? This is especially problematic because the proposal would be retroactive. So someone who started a $1 billion private business 30 years ago could conceivably get a $200 million tax bill in the first year. The business owner would have to either sell the business, or be assessed additional fees to defer the taxes until whenever they wish to sell the business.
There are other issues. Some assets such as private businesses or art are not easy to value annually, and there would be incentives for gaming and tax avoidance that would ultimately distort markets.
The White House claims this minimum tax would raise $360 billion over the decade (less than 1 percent of federal revenues), but much of that would be from the one-time retroactive taxes. Future revenues may be less. Furthermore, if the White House gets its wish of taxing capital gains at death, then taxing the unrealized gains in the meantime becomes superfluous. In that instance, investors would be merely pre-paying taxes that Washington was already going to collect at the time of asset sale or investor death. It sounds like a lot of complication and pain for investors and business owners for minor long-term tax revenue gains.
Perhaps that is why even tax-loving Europe countries very rarely tax unrealized capital gains. And why a recent study by Yale University and the University of Michigan found that 75 percent of adults (including 69 percent of Democrats) oppose taxing assets before they are sold. The same survey found 64 percent support taxing capital gains at death. Americans want to close loopholes for the rich, but not tax theoretical income.
There are straightforward ways to tax the rich. Taxing capital gains at death, modestly raising income tax rates, and eliminating more tax preferences and deductions would avoid most of the pitfalls described above. Increasing funding for the IRS would also likely collect more tax revenues.
That said, Washington faces a baseline budget deficit of $112 trillion over the next 30 years that even a 100 percent tax rate on corporations and upper-income families could not close. Any new taxes should pay for our current commitments before recklessly making expensive additional promises.
