The inextricable link of tax policy to our country’s political and social policies has come into sharp focus in recent national elections. In the run-up to the 2020 presidential election, prominent Democratic candidates included a wealth tax in their economic proposals as a means of addressing the widening gap between rich and poor in the United States.
- The Pew Research Center reports that between 2007 and 2016, the richest 5% of US families saw their income increase by an average of 13%, while the average income of the poorest 20% of families in the country declined by at least 20%.
- Between 1968 and 2018, the percentage of US aggregate income earned by the top 20% increased from 43% to 52%, while the percentage earned by the top 5% of US households rose from 16% to 23%.
- The US has the highest income inequality rate of the G7 nations, according to the Organization for Economic Cooperation and Development.
US tax policy has long been based on an income tax, which applies to the money earned annually by people and businesses. By contrast, a shift to a wealth tax policy would levy a tax on the value of the assets owned by individuals, including cash, bank deposits, stock, fixed assets, real and personal property, pensions, trusts, and owner-occupied housing.
A tax policy that includes a wealth tax would fundamentally alter how the US government raises revenue, but the implications of such a change extend to all aspects of economic, social and political policy. Tax professionals can prepare their clients for the many large and small shifts in US tax policy via programs such as Master of Laws in Taxation and Master of Taxation degrees. Both feature curricula that dive deep into these and other tax policies and taxation concepts.
What Is a Wealth Tax And How Would It Work?
A wealth tax policy would apply a tax on the annual net worth (total assets minus liabilities) of individuals and households who are above the exemption threshold. Net worth includes bank accounts, stocks, bonds, mutual funds and other financial assets, as well as nonfinancial assets such as real estate and luxury goods.
The proposals for wealth taxes from prominent Democrats differ from the tax policy proposed by the administration of President Joseph R. Biden. The economic policies promoted by Senators Elizabeth Warren and Bernie Sanders would apply the tax on households that are worth more than $50 million and $32 million, respectively. Senator Sanders proposed tax rates from 1% to 8%, while Senator Warren’s proposal called for a tax rate of 2% to 3%.
The Biden tax proposal does not include a wealth tax, but it does apply ordinary income tax rates to capital gains and dividends for the highest income earners. These and other changes will raise the effective tax rate for the highest earning US residents. By contrast, a wealth tax would have a profound effect on current federal income tax assessment by creating an entirely new type and category of taxpayer. These are some of the ways in which a wealth tax would fundamentally change the federal tax system.
- The federal income tax system uses the Haig-Simons definition of income based on labor and capital: current consumption and net worth during the tax year (excluding IRAs and other exempted forms of income). Labor income includes salaries, wages and benefits, while capital income is in the form of dividends, interest and capital gains.
- Under this system, the tax on capital gains is levied when an asset is sold for a profit. This allows owners of capital assets to defer receiving capital gains. A wealth tax would apply to capital assets that are held by the taxpayer on an accrual basis (e., the value of the assets would be “marked to market”), before the gain is realized.
- A wealth tax would reduce the revenue now generated by the income tax. It would also affect the tax policies of state and local governments, which rely heavily on property taxes and also apply their own tax on the income earned by their residents.
Arguments in Favor of a Tax on Wealth
Many leading economists favor a tax on wealth as the most effective way to stop the exponential growth in the wealth of the world’s richest people at the expense of low-income and middle-income earners. Wealth tax proponents include Joseph E. Stiglitz, who won a Nobel Prize in Economics, and Thomas Piketty, author of the best-selling Capital in the Twenty-First Century.
Proponents of a wealth tax believe such a tax is necessary to counteract the transfer of wealth in recent decades from the lowest-earning 90% of the population to the highest-earning 10% of the population, and especially the top 1% and .01%.
- Figures compiled by the US Congressional Budget Office show that between 1979 and 2016, the top 1% of US households increased their income by 226% after transfers and taxes.
- Over the same period, the middle 60% of households saw their income increase by 47%, and the bottom 20% of households increased their income by 85%.
- The 2017 Tax Cuts and Jobs Act reduced the maximum income tax rate on capital gains and dividends from 37% to 20%. The Joint Committee on Taxation estimates that 61% of the benefit from this change will go to the top 1% of households. (The law also reduced the corporate tax rate from 35% to 21%, which some view to primarily benefit wealthy shareholders.)
Advocates of a wealth tax argue that it is the most effective way to equalize the tax burden that in recent decades has fallen increasingly on poor and middle-class people and less on wealthy people.
- A wealth tax would make the tax code fairer to all taxpayers by enhancing its progressivity, according to proponents. Research published by the Brookings Institution reports that if a wealth tax were applied to households worth $50 million or more, it would affect only 75,000 households, or 0.06% of all households in the US.
- While estimates vary on the amount of revenue the federal government could raise by levying a wealth tax, researchers estimate that if a wealth tax of 1% had been imposed in 2019 on households worth $50 million or more, it would have raised between $47 billion and $94 billion. This represents 3% of that year’s total federal revenues.
- Proponents see a wealth tax as a way to minimize the influence the wealthy have on tax policy and other political matters. However, advocates admit that such a tax would likely increase campaign contributions by the wealthy, rather than reducing them, in an effort to repeal the wealth tax.
Arguments Against Wealth Tax
One argument against a wealth tax is the burden and cost of administration. The difficulties in enforcing a wealth tax are shown in the experiences of countries that currently impose a wealth tax or have done so in the past. Three European countries now have a wealth tax in place: Norway, Spain and Switzerland. France and Italy impose a limited form of wealth tax on select assets rather than on a person’s total wealth. However, nine European countries that once had wealth taxes eliminated them due to the high cost of administering the taxes and the cost of the tax to people who own many assets but have little cash, as National Public Radio reports.
Wealth taxes would also be a challenge to implement in the US because the IRS lacks the auditing capacity to ensure enforcement. In addition, estimates of wealth tax revenue have historically been higher than actual amounts collected. For example, after implementing a wealth tax, France saw an estimated 42,000 millionaires exit the country between 2000 and 2012, reducing expected revenues. The tax was abolished by French President Emmanuel Macron in 2018.
One reason revenue generated by wealth taxes falls short of expectations is the availability of tax strategies that take advantage of legal techniques to avoid being subject to the tax.
- Assets can be transferred to parents or children.
- Assets can be placed in spousal lifetime access trusts.
- Assets can be donated to charities.
- Trusts can be relocated to jurisdictions with more favorable tax laws.
Finally, opponents of a wealth tax argue that it is a direct tax on property that is prohibited by the constitution. This argument, if availing, would require a constitutional amendment before a wealth tax could be enacted.
Preparing Tax Professionals for Tax Policy Changes
The one constant in tax policy is change. No matter their tax bracket, people need experienced tax professionals to help them avoid the pitfalls and take advantage of the opportunities presented by adjustments to the tax code. Programs such as Villanova University’s online Master of Laws in Taxation and online Master of Taxation degrees encompass the range of tax topics that accounting professionals require to serve their clients. Key courses include those on Wealth Tax, Taxation of Trusts and Estates, and Fundamentals of Lifetime Estate Planning.
Learn more about how Villanova’s online programs prepare tax professionals to pursue their professional goals.