It’s no longer enough to be rich in Donald Trump’s America. Now, it’s only the super-wealthy who matter. That’s the message of the tax plan released by the Trump administration last week.
If you are a garden-variety rich person earning a six-figure salary, like a corporate vice president, President Trump doesn’t actually have much to offer you. The top marginal tax rate will fall from 39.6 per cent to 35 per cent, but today the higher rate only kicks in well above $400,000 per year, which puts you comfortably in the top 1 per cent. At the same time, the Trump plan eliminates personal exemptions and, more importantly, the deduction for state and local taxes, which mainly benefits high-income people with big houses in high-tax states. According to the nonpartisan Tax Policy Center, Trump could even be raising your taxes; by the time the law is fully phased in, the average family between the 80th and 95th percentiles of the income distribution (that is, the top 20 per cent, excluding the top 5 per cent) will pay slightly more in taxes than it would otherwise.
Many rich people would be willing to pay higher taxes in order to help solve our nation’s problems. In this case, however, they are paying more so the truly wealthy can pay less. The big tax cuts in the Trump plan are: first, the reduction in the corporate tax rate from 35 per cent to 20 per cent; and, second, the new 25 per cent cap on the tax paid on “pass-through income” from certain business entities such as partnerships, S corporations, and limited liability companies (LLCs). What do these two somewhat arcane tax cuts have in common? Although they are technically imposed on income, at the end of the day they are really about wealth.
Let’s start with corporate taxes. They are levied on the profits earned by corporations but, as Mitt Romney famously meant to say, corporations are ultimately owned by people. Though there is some debate, most economists—including those at the Congressional Budget Office, the Joint Committee on Taxation, and the Treasury Department—think that the vast majority of the corporate tax falls on shareholders in the form of lower profits. (A small amount falls on employees in the form of lower wages.) In other words, the corporate income tax is really a tax on stock ownership.
“To be a major beneficiary of Trump’s tax cut, what matters is how much stuff you own, not what you do”A cut in the tax rate means that corporations will earn higher profits in the future, which will make shares in those companies worth more today. The real beneficiaries of lower corporate taxes are people who own stock. And while lots of people own small amounts of stock, either directly or through their pension funds, super-wealthy people own much, much more—that’s part of what makes them wealthy.
The story of “pass-through income” is a bit more complicated. Profits earned by a corporation are taxed both at the company level (that’s the corporate income tax) and when it pays dividends to shareholders. Because of this “double taxation,” small business owners used to prefer setting up their companies as partnerships, S corporations, or LLCs. These entities pay no tax, but their profits are “passed through” and appear as income on their owners’ individual tax returns, so they are only taxed once. To solve the supposed problem of double taxation, in 2003 the George W Bush administration slashed the tax rate on dividends. If the corporate tax rate is also cut to 20 per cent, pass-through entities will now be the high-tax option.
For President Trump and the Republicans, of course, the right tax is always the lower one. And so Trump’s plan limits to 25 per cent the tax that a business owner has to pay on income from a pass-through entity. This is a tax on income, but it’s not income that you earn by working; it’s income that passes through to you because you happen to own a company. Many of the “merely rich” happen to be owners of pass-through entities—think of doctors, lawyers, or accountants, who historically organised themselves into partnerships. But the biggest of these entities, such as real estate developments worth hundreds of millions of dollars, are owned by the super-wealthy—again, that’s what makes them wealthy.
In short, Trump’s tax plan does not favor people who earn a lot of money because they work hard or because they have valuable skills. Instead, it favors people who own a lot of business wealth, in proportion to the amount of wealth that they own. These two groups of people overlap. But to be a major beneficiary of Trump’s tax cut, what matters is how much stuff you own, not what you do.
Although it transfers wealth from the modestly affluent to the extravagantly wealthy, this tax cut has a good chance of being passed by Congress. Today's generation of Republicans have never seen a tax cut they didn't like. At the end of the day, the Trump tax plan shows whom the Republican Party now represents, at least on economic issues. It is no longer the party of the hardworking, successful professional with a $250,000 salary, a $1 million house, and annual vacations in the Caribbean or Europe. It is now the party of the scion of a business empire who inherits an already enormous fortune. Does that surprise anyone?
James Kwak’s new book is Economism: Bad Economics and the Rise of Inequality
