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EDITORIAL
'Carried interest'
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Raising the tax rate on a financial practice known as "carried interest" -- a tax hike that Congress hopes will raise $1.7 billion per year in new revenues -- may be an interesting study in just the kind of thinking that has the economy largely frozen in its tracks.
This "little" tax hike has already been enacted by the House as part of HR 4213 and is up for a Senate vote soon.
Let's say a group of investors hopes to acquire a run-down shopping center and fix it up for $10 million. If the plan works out, the goal is to sell the gleaming "new" retail center for $12 million, five years down the road.
These investors need a general contractor to ramrod the project. In a fairly traditional arrangement, to give that contractor some incentive to bring the project to fruition, they offer said contractor a 20 percent share of their profit.
A contractor agreeing to such an arrangement is working for "carried interest." If any of a hundred things go wrong and the deal is never completed, he'll get nothing. But if it all does work out, and the contractor finally gets $400,000 for his five years' work, how should that be taxed?
Up till now, it's been taxed as capital gains, at a current rate of 15 percent -- though congressional Democrats are eyeing a rate hike to 20 percent.
But HR 4213 specifies such income would instead be taxed at the prevailing personal income tax rate -- for which the top rate could soon jump from 35 to 39.6 percent.
"Supposedly this is going to get those bad guys on Wall Street. But who it really affects is small entrepreneurs," explains Ralph Murphy of Las Vegas' Circle M Development.
"It's going to hit projects that are right on the margin. A lot of those projects just won't get done. What they should be proposing if they want to get some of these projects moving is to go in just the opposite direction, to cut the capital gains tax rate in half."
The tax rate on proceeds from such "carried interest" arrangements in India today is zero. In Red China, it's 10 percent. Even in grossly overtaxed England, it's 18 percent. And those with capital are perfectly free to invest it in such locales. Yet the Congress now proposes to push the tax rate on such at-risk enterprises in this country to something approaching 40 percent -- a 157 percent effective tax hike?
It would be a mistake to enact HR 4213 in its present form.
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If your intent on having less of this type of activity the surest way to reduce it is to raise the tax rate. It is also not likely to raise $1.7 billion in new revenue by raising the tax rate because the diminished activity won't support that amount if you are expecting activity to remain the same under the new rate.
Jon H.: Absolutely. If corporations are to be treated as individuals under the law when it comes to things like making campaign contributions and buying advertisements for their favored candidates they should be taxed like individuals, too. Let's get the powerful out of the business of rigging the tax system to their benefit by not allowing any deductions for any reason. That means no more deductions for investments of certain types (otherwise known as tax shelters), depreciation, etc. It also means no more deductions for child care, mortgage interest, and other such middle class tax breaks. We could eliminate a lot of corruption in this fashion, and we would also create a tax system that's equitable.
What is "income"? According to the Supreme Court, income is a "capital gain." How do you earn a capital gain by exchanging your labor for compensation? The boss won't pay you more than you're worth...so where's the "income"?
John F wrote:
“It's time to cut out this charade and tax all income equally, no matter what its source.”
Agreed!
A Corporation is also considered a singular legal, let’s say “person”.
I would also support the idea that the corporation be taxed exactly as the individual would be.
I also think this progressive form of taxation should be the only type of revenue for the City, State or Feds. I think all fees, and sales taxes should be eliminated and that all functions of government should come only from income taxes.
This would tend to help level the playing field, across the board.
It's time to cut out this charade and tax all income equally, no matter what its source.
Why are incomes taxed at a higher rate than capital gains to begin with? I've said it before, I'll say it again: exempt the first $25,000 of everyone's income from taxation and then tax everything else at the same flat rate. Dividends, capital gains, regular income, whatever, and with no deductions for anything. We could do away with the IRS tomorrow.
Let's face it investment in new businesses and expansion will be very slow and small until this administration's tactics have been reined in, either in November 2010 or November 2012.
What more would you expect from Harry Reid and top gal Nancy. Maybe with this we will have more slums and then they can spend more tax payers money to "clean" them up.