We Want Ours
Wesbury, Brian S.
T he big mystery of this winter is how the new, improved Bush tax cut—ending the inefficient and unfair double taxation of dividends, cutting marginal tax rates for all taxpayers, and reducing the...
...A final complaint comes from those who hold tax-deferred investment accounts—IRAs, 401Ks, and the like...
...It's not the outrage of the left that surprises me—I expect true liberals to complain about anything short of pure socialism...
...Such "dynamic" scoring—factoring in the economic effects of changes in the tax code (see "Untaxed Dollars Don't Die," p. 5)—shows the Bush cuts adding somewhere between $8 billion and $16 billion in state and local revenue annually, meaning a net gain by the states of between $4 billion to $12 billion...
...On a radio talk show the other day, a woman caller suggested that if corporate shareholders are going to get a tax break, shouldn't she on the interest from her CDs...
...A similar argument is coming from municipal bond investors...
...If the Bush proposal becomes law, REITs could decide to reincorporate and distribute tax-free dividends after paying corporate tax...
...Then again, maybe I shouldn't be so surprised...
...Many of those who are arguing reflexively against it are either not affected at all or will actually benefit from secondary effects—higher equity prices and stronger economic growth...
...For zero-sum politicians it is a field day...
...In this case the stream of income is certain, with its value determined by inflation and by the comparative return of other fixed-income products, taxable and otherwise...
...Another sees "the S&P rising 10 percent, while REITs just sit there...
...And it's not the bellyaching from some on the right who say the Bush cuts don't go far enough...
...They're required by law to pass at least 90 percent of their income through to shareholders, who are then taxed on those payments at the individual level...
...The other pays his 35 percent federal tax and puts the remaining $650 into a taxable brokerage account...
...And the governors have plenty of company...
...But IBM's share price would not be affected—it would still be tax-free, and its share price would still be determined by its development of new technologies and its ability to create profits...
...As a result, it is complicated, unfair,inefficient, and nearly impervious to change, because there's never a shortage of vested interests ready to fight any attempt to level the playing field...
...Here's the problem: Ending the double taxation of corporate dividends means that REITs will suddenly have competition from other corporate entities that will now also be taxed only once...
...The end of double taxation will reduce the incentive for putting money into an IRA...
...Because their interest payments are tax-free at the federal level, they complain that tax-free corporate dividends will drive down demand for tax-free bonds and drive up interest rates...
...Over the next twenty years, both receive 120 percent of their initial investment in tax-free dividends...
...In this sense, the proposal is genius at work: the more the debate continues, the more people will realize how double taxation is merely one loony part of our twisted tax code...
...Markets set prices based on the expectation of after-tax returns, so MSFT would rise...
...The real problem with state and local budgets is spending—and even $12 billion won't cover the gap...
...Bill Owens says, "States do not have a revenue problem...
...Would this hurt IBM...
...they have an overspending problem:' While this has nothing to do with the Bush tax cut, it is a political issue...
...After all, she paid taxes on the principal before she invested it...
...With the new Bush plan we may be very close indeed...
...In 2001, that total had climbed to 15.4 million workers, or 546.6 workers per 10,000 residents...
...For municipal bonds the analysis is slightly different...
...But the governors don't want you to know that...
...One analyst told the Wall Street Journal that the REIT Index could fall by as much as 9 percent...
...In fact, higher economic growth and more jobs will boost state tax revenue and reduce the credit risk for municipal bonds...
...Let's imagine that in 1942, because of wartime exigencies, the president decided to exempt IBM and its investors from all federal taxes, forever...
...The people who run real estate investment trusts (REITs) are also complaining...
...Assuming equal credit risk, a municipal bond should have a yield roughly 35 percent—the top marginal tax rate—less than its corporate counterpart...
...Real estate values will also rise, increasing returns for REIT shareholders...
...The Bush plan therefore changes nothing for municipal bonds or for REITs...
...What the Bush plan does is level the playing field...
...All things being equal, excluding dividends from taxable income would cost the states an estimated $4 billion...
...Our tax code is a morass of subtle and not-so-subtle attempts at manipulating individual behavior—encouraging some forms of activity, penalizing others...
...And in politics, if you can shift the blame in any way, you do...
...Let's say that there are only two companies in the world: Microsoft (MSFT) and IBM...
...As a result, IBM has a lower cost of capital than Microsoft, which boosts IBM's stock price...
...T he big mystery of this winter is how the new, improved Bush tax cut—ending the inefficient and unfair double taxation of dividends, cutting marginal tax rates for all taxpayers, and reducing the cost of capital for businesses—can attract so many complaints...
...But because they earned "carve-outs" in previous rounds of tax negotiations that are now being offered to everyone, they complain...
...Between 1992 and 2000, state and local government spending shot up by 5.6 percent a year, while federal government spending rose just 3.3 percent ayear...
...In 1993, state and local governments employed 13.4 million workers, 521 per 10,000 residents...
...But it does not punish anyone who has already done so...
...The investor in the taxable account would receive $780 in dividends and the account would be worth $1,430, which could be withdrawn tax-free...
...For example, two workers decide to each invest $1,000 of income into the same stock...
...The important thing is that income is taxed just once...
...As Colorado Republican Gov...
...Absolutely not...
...Things may never be the same again...
...One puts the entire sum in a tax-deferred IRA...
...Blaming far-away Washington is best of all...
...To keep things simple, we'll assume no capital gains...
...Time to start moaning...
...One analyst even went on national TV and suggested investors sell all their municipal bonds immediately...
...But taxed 35 percent at the back end, its true value on withdrawal would be the same—$1,430...
...The White House plan for cutting taxes is a lightning rod for every interest group in America...
...More importantly, the market is efficient...
...Let's start with the governors—they're crying because most states tie their taxes to federal tax law...
...But all things are never equal in economics...
...But do the mathand this logic breaks down...
...The IRA investor, with more money at work, would have a total of $2,200...
...Reducing the tax burden on individuals and small business will add 0.5 percent to 1 percent each year in real GDP growth...
...But all this zero-sum analysis—if someone gains, someone else must lose—is missing the point...
...If IBM stock fell as some sold it to move into MSFT, others would buy in, and push it back to fair value...
...If they pay out 100 percent of income, they pay no corporate tax at all...
...Sixty years later, a new president declares Microsoft a "national resource" and exempts it, too, from federal taxes...
...It's the moaning from seemingly neutral parties that really stands out...
...What appears to be common sense logic says that if tax-free dividends are paid into, an IRA, then taxed at withdrawal, those investors are treated unfairly...
...That's exactly the kind of thinking that can lead us to a flat tax revolution...
...If not, arbitrage will speedily make it so...
...But as long as corporate and individual tax rates are equivalent—which they will be, at 35 percent under the Bush plan—the big question is not who pays the taxes...
Vol. 36 • January 2003 • No. 1
