NCPA - National Center for Policy Analysis

Raising Taxes on the Wealthy Would Hurt the Economy

January 23, 2015

The president is planning to increase taxes on the wealthy to fund tax credits for the middle class. One way he intends to do this, explain Scott Hodge and Michael Schuyler of the Tax Foundation, is by increasing the top tax rate on capital gains and dividends for higher-income Americans.

The capital gains tax is a tax on the sale of an investment. What happens when this tax gets raised? People retain, rather than sell, their assets -- meaning less government revenue.

Presently, the current top capital gains and income tax rate is 20 percent for couples who earn more than $450,000 and for singles who earn over $400,000. On top of that, investment income is subject to an additional 3.8 percent tax imposed by the Affordable Care Act, resulting in a combined tax rate of 23.8 percent.

Obama wants to increase the rate on capital gains and dividends to 28 percent, the idea being that it would only impact high earners. But that's not the case -- changes in tax policy affect economic behavior, something that "dynamic scoring" (as opposed to "static scoring") recognizes. Using dynamic analysis, Hodge and Schuyler assess the effect of a 28 percent capital gains tax rate. According to their model:

  • All income groups, not just the wealthy, would see lower after-tax incomes.
  • The amount of tax revenue the government would receive would fall. While static scoring estimates the tax would add $20 billion annually in new revenue, dynamic scoring concludes it would lose $12 billion in revenue.  
  • The United States would have $142 billion less GDP each year.
  • Wages would fall, resulting in $461 less annually for families earning between $50,000 and $75,000.

The president wants to help the middle class by redistributing wealth from top income earners, but in practice, this policy would hurt the people he intends to help, creating a smaller economy and lowering wages. These effects are not evident when analysts use static scoring models, but they become clear with dynamic scoring.

Instead of tacking on more taxes, lawmakers could eliminate the capital gains tax. This way, savings and investment would rise, top income earners wouldn't be taxed twice and all Americans could benefit from a growing economy.

Source: Scott A. Hodge, Michael Schuyler, "What Dynamic Analysis Tells Us About the President's Tax Hike on Capital Gains and Dividends," Tax Foundation, January 21, 2015.

 

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