Monday, December 03, 2012

Allowing Bush Tax Cuts to Expire Now Makes no Eonomic Sense

 As we approach the December 31st Fiscal Cliff one of the major points of debate is taxes.  Specifically increasing taxes on the rich.

President Obama and other left-leaning Democrats are targeting three types of income the taxes on which were reduced during the administration of former President Bush and which are slated to automatically increase at the start of 2013.

The first is the tax on dividend and capital gains income.  Capital gains refer to the difference between what a person paid for and asset (with stock being the most common asset affected) and what that person received when the asset was sold.  If the sales price is higher than the purchase price the difference or profit is referred to as a capital gain.

Dividends,of course, refer to the periodic dividends or portion of a company's profit that corporations pay to their stockholders.  Profits are already taxed once in the form of the  tax that the Federal Government levies on a corporation's  profit (i.e., revenue minus expenses).  Any dividends paid come out of the corporation's after tax profits.  Stockholders then have to turn around and pay additional tax on the dividends they receive.

The Bush Tax Cuts eliminated the tax on capital gains and dividends for those in the two lowest income tax brackets which are currently the 10% and 15% brackets and set the maximum tax on these for people in the brackets above these two bottom brackets at 15%.

These two taxes will go up unless the current rates are extended by Congress

The second area of income affected will be income from sources other than capital gains and dividends.  This is basically wages, salaries, bonuses and other income earned as compensation for work performed.  

Here the President is claiming to want to keep current rates for those with this type of income below $250,000 and raise the rates on those earning more than $250,000.

Since our income tax system is progressive this means that the government will accomplish this increase by increasing the tax rate on upper brackets of income as well as creating some new brackets at the top end of the bracket scale.

The problem with increasing the tax rates on the top income brackets is that many wealthy people have the ability to reduce their income by working less.

It makes sense to work less when the tax rate on the higher income resulting from working longer and harder is such that most of this extra income is taxed away. 

When high income earners do this the government not only loses the projected tax revenue that the high top rate would be applied to but also stand to lose taxes from other workers in lower brackets.

Take a small business owner planning to expand by adding an additional production plant, restaurant, store etc.  The expanded business will result in more income for the owner.  However, the expansion will also require the small business owner to hire more people. 

With almost 8% of the workforce currently out of work and looking for work and an additional 6% to 8% or more of the workforce wanting to work but has given up looking for work (thereby no longer considered by the Department of Labor as being in the workforce and unemployed) the government could collect considerably more taxes if large numbers of these unemployed people were earning wages and paying taxes on those wages.

The only things that President Obama will accomplish by raising taxes in the current economic climate will be to continue the present recession and continue running large deficits.

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