By Richard J. Shinder
During the Supreme Court’s flurry of end-of-term activity, another seismically consequential decision largely escaped notice.
Its ruling in Moore et ux. v. United States, which upheld a tax on undistributed foreign income, was carefully crafted to retain the provision of the 2017 tax law at issue while leaving the door open to the type of wealth taxes proposed by Sens. Elizabeth Warren (D-Mass.) and Ron Wyden (D-Ore.).
Such taxes have become increasingly popular on the American left, as significant wealth has been created without ever being “realized” — the moment at which tax obligations are incurred. Wyden’s Billionaires Income Tax Act, proposed in late 2023, draws specific attention (as has The Economist) to a legal tax avoidance strategy termed “buy, borrow and die,” which allows the super-rich to enjoy the fruits of their wealth without incurring taxes.
This strategy entails individuals borrowing against highly appreciated, untaxed assets to meet current financial obligations. When the individual dies, assets are passed along to heirs on a stepped-up tax basis (estate tax applies to the decedent’s estate, but other tax strategies can blunt its financial impact). In this scenario, no capital gains or income tax will ever apply to this asset appreciation.
Many court observers, along with the justices in dissent (Gorsuch and Thomas) agreed the majority’s narrow ruling did not foreclose a future Congress from passing a wealth tax, leaving its constitutionality to another day.
Apart from whether it passes jurisprudential muster, is a wealth tax good public policy?
Let us first consider how the state funds itself.
The primary means by which the federal government raises revenue is through individual and corporate income taxes, including capital gains tax collections, representing approximately 61 percent of total revenue for fiscal 2024 to date.
Income and capital gains tax revenues are event-derived, with taxable obligations incurred only when income or a gain is realized. This event-based approach is a widely applied, elegant taxation construct that recognizes the distinction between “flow” and “stock” figures in economic calculations.
“Flows” are measured over a discrete time interval, such as annual income or a gain following an asset’s purchase realized at its subsequent sale. It is an easily calculated figure, relying on financial reporting and other readily observable or recorded data.
While imperfect, it largely ties tax events to the cash generated and available to meet the related tax obligation (although not so with “phantom income” and undistributed earnings, which were at the heart of Moore). Nevertheless, while the income or gain generated may not accrue directly to the taxpayer, someone somewhere has received it.
The appeal of a wealth tax is twofold. First, there’s a considerable “stock” of wealth available for taxation, which need not rely on realization events and which can be deferred. Consider the difference between one’s annual income and net worth; the aggregate “stock” accumulation of one’s prior years’ income (even net of tax) is typically significantly greater than any given year’s “flow” income.
More dubiously, the optics of levying a wealth tax — underpinned by a goodly amount of class envy — can be a political winner during uncertain economic times, particularly in an era of highly visible wealth stratification. As a significant number of the uber-wealthy have accumulated fortunes by founding and maintaining large stakes in thriving private enterprises, increases in wealth have not correlated with reported taxable income.
A wealth tax would allow for the application of a “low” (2 percent under Warren’s Ultra-Millionaire Tax Act) rate as a percentage of wealth, yielding significant tax revenue while assuring the American public the rich are paying their “fair share.”
Leave aside that billionaires’ seemingly low comparative tax rates (as with Warren Buffett’s famous observation that many of his office staff pay a higher tax rate than he does) typically do not ensue from some nefarious tax “loophole,” but rather from a dearth of taxable events as compared to a typical wage earner’s income.
Notwithstanding the superficial appeal of a wealth tax given deceptively low tax rates and citizens’ basic sense of fairness, as a matter of policy it’s a terrible idea, for myriad reasons:
1. Wealth can be difficult to measure. Unlike flow figures, stock values are often estimates. While companies with publicly traded shares report a closing price every business day, significant wealth exists in the form of illiquid assets of uncertain value: privately held companies, real estate, fine art, collectibles, jewelry, etc. The infrastructure required to administer a wealth tax, including estimating and adjudicating the value of such assets, combined with the inherent conflict associated with IRS officials structurally incentivized to err to the higher side, present significant opportunities for abuse.
2. The taxable obligation is wholly detached from a liquidity event. Unlike income and capital gains taxes, a wealth tax is entirely untethered from a liquidity event. “Asset-rich, cash-poor” taxpayers may be forced to sell assets to meet their tax obligations, risking destabilizing asset and capital markets.
3. What happens when assets go down in value? The existing U.S. tax code incorporates a measure of symmetry, in that taxable losses can be used to offset income or gains (even if their use is capped and/or deferred); large swings in asset prices — not difficult to imagine when considering the stock market’s oscillations — could create significant volatility and unpredictability in tax collections. There is also the risk of “procyclicality”: a tax regime in which wealth-related losses in a given year can yield tax credits, refunds or simply lower receipts would risk reducing federal tax revenue just as asset prices are collapsing, straining both the real economy and the public fisc.
4. Double-dipping (or worse). Many Americans loathe the federal estate tax precisely because it taxes at death the stock of one’s accumulated income (or wealth), which had previously been subjected to annual income taxation. Introducing a wealth tax could triple-tax the same dollar earned first as income, then as wealth and ultimately as a taxable estate upon death. These tax structures would either coexist as a potential “triple whammy” to taxpayers or necessitate a dog’s breakfast of credits and offsets among the various tax regimes, further complicating an already Byzantine tax code.
5. A vast piggy bank, broken wide open. The massive amount of wealth created by the U.S. economy over the last four decades would offer big spenders in Washington a golden opportunity to further increase the size and scope of the federal government. It requires little imagination to envision Senator Warren’s 2 percent levy on wealth above $50 million gradually increasing, or seeing the threshold reduced, once the infrastructure for such a tax is in place.
For these and other reasons, a wealth tax is a bad idea likely made far worse in its execution should it ever materialize. It would have been far better had the court simply slammed the door shut and made explicit that Democratic fantasies of a wealth-based tax are plainly unconstitutional.
That said, if a policy debate needs to be had, opponents of a wealth tax hold the far stronger hand.
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Richard J. Shinder is the founder and managing partner of Theatine Partners, a financial consultancy.
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