The voices of Tax Policy Center's researchers and staff
Senate Finance Committee Chairman Ron Wyden (D-OR) likes to say: “There are two tax codes in the United States: one for workers who pay taxes out of every paycheck and the other for high-fliers who use games and tricks to avoid their taxes.” He’s now proposing to add a third tax code, one for billionaires.
But instead of creating an entirely new tax code for a few hundred people, it would be easier to address the games of high-fliers directly, such as retaining assets until death, which allows any appreciation to escape income taxation forever. A straight-forward way to end that game: Tax the unrealized capital gains at death at the same rate wage earners pay.
Wyden’s billionaire income tax is the latest idea circulating among Democrats to help pay for President Biden’s Build Back Better plan. The tax would apply only to those with more than $1 billion in assets, or $100 million in income, for three consecutive years. These taxpayers would be required to pay tax annually on any increase in the value of their assets.
They’d calculate their tax using mark-to-market accounting, effectively treating their publicly traded assets as if they sold them at the end of each year. For example, suppose Mark Zuckerberg owns $100 billion of Facebook stock, for which he paid nothing when he founded the company. In the first year, he would be required to pay capital gains tax on $100 billion of income even if he didn’t sell any Facebook shares. The next year, he’d pay tax on any additional increase in the value of his stock beyond $100 billion.
Congress generally is wary of taxing such deemed transactions because of the complexities of valuing unsold assets and the challenges some taxpayers have finding the cash to pay the tax.
But it has made exceptions. Most recently, Congress required securities dealers to mark to market their inventories. But these dealers already valued their securities separately for financial accounting purposes and their inventory was liquid, so dealers could find the cash to pay the tax readily.
When I worked on Capitol Hill, I helped draft that law. But we struggled for more than two years even though we had a roadmap from the financial accountants. The staff met dozens of times with industry representatives and the IRS to work out glitches. Congress passed the mark-to-market regime three times before President Clinton finally signed it in 1993.
Mark-to-market for billionaires is even harder. While only a few taxpayers would pay the new tax, many more would need to value all their assets annually, including their privately-held businesses. Taxpayers close to the line might move in and out of the new tax regime frequently. How would the IRS determine whether all billionaires filed properly?
Publicly-traded stock may seem easy to value, but what about large blocks, which might be impractical to sell? How would the IRS settle disputes over valuations?
And what if the billionaire is stock rich but has little cash to pay the tax. Or is unable to borrow large sums to pay the tax?
How will the law treat losses? If billionaires only are allowed to carry losses forward to reduce future taxes, capital gains may be recognized early, and losses later—or not at all. Maybe we don’t care about the billionaires, but do we care about the economic disruptions from taxing them punitively?
Wyden proposed special rules for assets that are not publicly traded, such as homes, art collections or, most important, privately-held businesses. For these assets, taxpayers would delay paying tax until they actually sell or otherwise dispose of them, including at death, and then pay the tax plus retrospective interest.
But what would happen to that interest obligation if the billionaire income tax is later repealed? Or what would happen to the mark-to-market tax payments if the entire regime eventually is found to be unconstitutional, which is possible?
President Biden proposed a much easier way to tax billionaires. He’d tax unrealized gains only at death, when assets are valued for estate tax purposes. Forcing the rich to recognize gains once at death, rather than annually, is simpler and more firmly constitutional (the tax would occur at transfer of the assets, like the estate tax).
Congress still must set a politically-acceptable exemption amount. Biden set his floor at $1 million of unrealized gains ($2 million for a married couple), which was too low. It raised hackles among advocates for small business owners and farmers, even though Biden granted these businesses special relief. President Trump proposed taxing unrealized gains above $10 million at death.
But Congress could raise that floor to, say, $50 million. That would exclude “small” business owners and farmers.
These unrealized gains should be taxed at ordinary rates. That would induce the rich to sell more assets during their lifetimes, rather than holding them to death. It would be an efficient, fair, and revenue-raising proposal.
Posts and comments are solely the opinion of the author and not that of the Tax Policy Center, Urban Institute, or Brookings Institution.
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