President Obama is insistent that taxes must go up to close the deficit. He says it’s just common sense that taxes must go up, because the math says so. But if he gets his way, the numbers won’t add up the way he says they will.
President Obama wants to raise taxes on “the rich.” But the Treasury will never collect the revenue he says will come from such hikes, because the rich will change their behavior to escape the punitive levies.
Case in point from Britain, where Parliament recently implemented a 50 percent tax rate on the rich:
The Treasury received £10.35 billion in income tax payments from those paying by self-assessment last month, a drop of £509 million compared with January 2011. Most other taxes produced higher revenues over the same period. Senior sources said that the first official figures indicated that there had been “manoeuvring” by well-off Britons to avoid the new higher rate. The figures will add to pressure on the Coalition to drop the levy amid fears it is forcing entrepreneurs to relocate abroad.
This should be no surprise. When governments raise taxes on the rich, the rich change their behavior to avoid the higher taxes. Liberals understand this phenomenon when they raise taxes on cigarettes to discourage smoking, but they never seem to apply the same principle to income. If you tax income more heavily, you’ll end up with less income to tax, just like if you raise taxes on cigarettes, smokers purchase fewer packs.
When tax rates on the rich go up, the rich can respond in a number of ways:
- Work less. They can work less, thereby earning less income to tax. This makes sense for high earners when their rate hits or exceeds 50 percent. Who wants to work when you take home half or less of the additional money you earn?
- Earn differently. They can also change the composition of their income. In the U.S., capital gains and dividends are properly taxed at a lower rate than wage and salary income (ideally, they wouldn’t be taxed at all). Since the rich are often business owners, they can shift their compensation from wages and salaries to these less-taxed forms. They can also take compensation in forms that are excluded from taxation, like more comprehensive health insurance plans.
- Seek shelter. Lastly, when the IRS comes calling for more, the rich can pay high-priced lawyers and accountants to scrounge the tax code for every last deduction, credit, and exemption to minimize their tax liability. This diverts resources that could’ve gone into creating jobs in other areas of the economy.
Taxing the rich more heavily distracts from the real cause of our debt and deficit woes: entitlements like Social Security and Medicare driving overspending. Washington has an overspending problem, not an under-taxing one. It would be better for Congress and the President to focus on the true cause of the problem than to waste time on counterproductive tax hikes that would never raise the expected revenue and would slow the already stagnant economy to boot.
