Phil Scott Makes Tax Cut Plan Somewhat Less Awful

It hasn’t been that long since Phil Scott unveiled his glossy 39-page economic plan, but he’s already acknowledging one major mistake.

As the Vermont Press Bureau’s Neal Goswami reported over the weekend, Scott’s plan to cut capital gains taxes was based on Vermont’s old tax formula. As a result, the Scott campaign has watered down its cap-gains proposal.

Details in a moment. But first, let’s just put this out there:

[Cutting the capital gains tax] would spur tax shelters, generate little new saving, give a windfall to the wealthy, and make long-term budget problems even worse.

That’s from the commie-pinkos at the Brookings Institution. There’s plenty where that came from; the consensus among experts (not employed by the Cato Institute and other right-wing policy shops) is that capital gains tax cuts are, at best, a grossly inefficient way to spur economic growth. At worst, they’re a pointless squandering of resources.

But let’s return to Phil Scott’s plan, before and after. This will get into the weeds of tax policy, so my apologies in advance. I’ll try to keep things simple.

Vermont used to allow taxpayers to exclude 40 percent of their capital gains. That was killed in 2009, in favor of an exclusion for the first $2,500 in capital gains. The change was designed to concentrate the tax benefits at lower income levels; whether you got $2,500 in capital gains or $2,500,000, you got the same tax break.

Scott’s original plan would have restored the 40 percent exclusion.

What his team didn’t realize until now is that the exclusion was increased to $5,000 in 2011. (There were some additional aspects to the 2009 and 2012 laws, but let’s move ahead.)

The Scott camp is now saying that its original “restore the 40” plan was based on its belief that the $2,500 exclusion was still in place. Scott’s revised proposal is for “incrementally restoring additional exclusions for capital gains, over time.” The goal, says Scott apparatchik Ethan Latour, is to lower the tax slowly “so that as tax revenue is foregone, then the economic benefits will have time to reverberate and bring in more offsetting revenue.”

I guess this is the revised Supply Side theory, taking into account the idea’s spectacular failure in places like Kansas.

Two thoughts.

1. How in the world did the Scott camp make an elementary mistake about state tax law? He was in the Senate in 2009, and he presided over the Senate in 2011; was he not paying attention?

1a. Any other mistakes waiting to be uncovered?

2. Why, exactly, does the discrepancy between $2,500 and $5,000 require Scott to make his plan substantially more vague, and extend its fulfillment into the indefinite future?

Dunno, seems like an overreaction. Like maybe someone ran the numbers and realized just how expensive the tax cut would be?

In any case, call it a win for common sense. Because capital gains tax cuts are, in addition to largely ineffective, also highly regressive. Points:

— Capital gains are taxed at a lower rate than earned income. The burden is shifted from those who invest to those who actually work. The investor class is, sing it with me, pretty much the top one percent. They don’t need another tax break, thank you very much.

— It’s argued that we must reward investment via preferential tax-law treatment. As Bruce Lisman once said, “capital at risk is the most precious thing in the galaxy.” Spoken like a member of the investor class. There are at least a couple problems with this:

First, “capital at risk” is not very risky at all. Indeed, it’s almost impossible to go broke investing in the stock market, if you have enough money to start with.

Second, as we are seeing in the case of Donald Trump, investment losses get very favorable tax treatment. Investors who manage to bumble their way into losses can spread those losses out over a period of years, and recoup anything they actually lost.

As opposed to paper losses generated for tax purposes.

— Most importantly, capital gains tax cuts simply don’t work. Brookings Institution:

Capital gains taxes are a small part of all taxes on saving and investment, and the effective rate on gains is already low. Much investment would be unaffected because it is financed with debt or supplied by pension funds, non-profit institutions, and foreigners who do not pay capital gains taxes in the first place.

It notes that conventional estimates suggest that cutting capital gains taxes would have an extremely tiny effect on investment.

This is especially true for state tax policy, as opposed to federal. That’s because the impact of state capital gains tax is minuscule compared to that of the federal tax.

According to the Institute for Taxation and Economic Policy, The primary, and blindingly obvious, reason is that the state tax covers investment income from anywhere in the nation or the world. If you encourage investment by Vermonters, but the investment dollars go anywhere else, Vermont sees little or no economic benefit. It merely foregoes tax revenue.

But wait, there’s more.

Because state income taxes can be written off on federal tax forms by those taxpayers who itemize their federal income tax deductions, and because the ability to do so is most valuable for the wealthy Americans who realize the bulk of capital gains income, any reduction in state capital gains taxes will be partially offset by an increase in federal income tax liability.

In the case of New Mexico, which cut its capital gains tax rates, 18 percent of the lost revenue went on to the federal government. (66 percent went to the very top earners.)

I would make one final point from a non-academic point of view. Investors need a stable social order. They need police and fire protection, courts and corrections, a robust infrastructure, a well-educated workforce, sound fiscal policy, and a government strong enough to negotiate international trade deals. Among other things.

Just imagine the perils of investing in the more troubled precincts of the developing world. Crime, corruption, poor infrastructure and communications, governmental instability, war, disease, and much more. American investors are insulated from all of that. Shouldn’t they pay their share to maintain the public-sector buffers and protections that help them cash in? Shouldn’t they pay as much as, or more than, the rest of us who work for a living?

Yes, they should.

Cutting capital gains taxes is never a good idea, unless the benefits are carefully targeted. (If you wanted to exclude seed money for Vermont-based startups, or investments in Vermont companies that do most of their business in Vermont, I’d be okay with that.)

I’m glad that Phil Scott has watered down his capital gains plan. It’s a step in the right direction. Now, let’s kill it the rest of the way.

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9 thoughts on “Phil Scott Makes Tax Cut Plan Somewhat Less Awful

  1. Dave G.

    Freaking amateur hour at Scott campaign headquarters. His panic about young people fleeing Vermont is unwarranted too. Just as many coming in Phil.

    Get something right this election puppet boy.

    Reply
  2. NanuqFC

    Capital gains are taxed at a lower rate than earned income. The burden is shifted from those who invest to those who actually work. The investor class is, sing it with me, pretty much the top one percent. They don’t need another tax break, thank you very much.

    News flash, JV, not everyone potentially subject to capital gains taxes is solely living off “unearned” income from investments (as if they never worked in their lives). Not to mention, the money that bought some of those investments, for some solidly middle class folks, came from money that was earned working, and hence already taxed at least once. There are likely a lot of retirees in that class.

    That said, we’ve never been subject to state-imposed capital gains taxes (because of the exclusions). Yet, my spouse and I think eliminating the exclusion of any portion of capital gains from normal taxation is worth us paying a bit more if necessary. And maybe that’s one of the things that separates us from the “investor class.”

    Reply
  3. Cairn Cross

    Section 1202 of the IRS code allows for a zero % capital gains rate for the sale of “original issue stock” purchased as investment into a qualified small business as long as the stock is held for at least five years before being sold. This is a sane and rational federal tax law that encourages investment in young companies and the five year holding period means that the investment holding period is reasonably long term in today’s investment world. In your second to last paragraph you leave room for something similar for investment in Vermont start-up companies. It would be fairly easy to adapt 1202 to Vermont’s circumstances.

    Reply
  4. Bud Haas

    Doesn’t it seem to you that the R’s from “away” are providing him with the ongoing wrong or wrong-headed ideas about what to propose as candidate?

    Reply
  5. johngreenberg

    A few points:

    1) “As Bruce Lisman once said, “capital at risk is the most precious thing in the galaxy.” To me, all this suggests is that Bruce Lisman inhabits a different galaxy from the rest of us.

    Since 2008, central banks around the world have reduced interest rates to nearly zero, with the result that the planet the rest of us inhabit is actually awash in capital. In the words of a Wall Street dictum: “cash is trash.”

    2) “… it’s almost impossible to go broke investing in the stock market, if you have enough money to start with.” I can’t resist another Wall Street dictum: “How do you make a million in the stock market? Start with 2.”

    3) “Second, as we are seeing in the case of Donald Trump, investment losses get very favorable tax treatment. Investors who manage to bumble their way into losses can spread those losses out over a period of years, and recoup anything they actually lost.”

    This is only partially correct. Donald Trump’s losses were NOT capital losses, which are treated differently from ordinary losses (just as the gains are treated differently). Capital losses can be used to offset capital gains, but once all gains have been offset, taxpayers can use up to $3,000 to offset other income. Had Trump’s losses been capital losses, it would take him many lifetimes (or a lot of capital gains) to use up his carryovers (@ no more than $3,000 per year).

    All that said, I completely agree with your basic point: favorable treatment of capital gains provides far greater benefits to high-income taxpayers than to everyone else, and Vermont’s tax system is already skewed to their benefit.

    I would add one final point. Whatever the benefits of promoting capital investment at the federal level, it’s hard to see how capital gains provide any favorable impact (meriting special treatment) at the state level, unless the special treatment is limited to investments made within the state. Why would Vermont give special treatment to a taxpayer whose investment gains resulted from investments in other states or abroad?

    Phil Scott’s “plan” is backwards: it benefits precisely the people who already do best in Vermont’s tax system.

    Reply

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