U.S. President Joe Biden has shown he is no ditherer.
As he approaches his 100th day in office, Mr. Biden can already claim one major legislative achievement with his US$1.9-trillion recovery package having passed a divided Congress. And the White House has rolled out one eye-popping proposal after another to spend trillions on infrastructure, raise corporate taxes and set more ambitious targets to cut greenhouse gases.
As President, Mr. Biden, a moderate throughout his nearly 50-year political career, has outlined a far more progressive agenda than almost anyone expected. His tax and spending measures would radically transform the way American businesses operate and greatly expand the role of the government, reversing four decades of reforms in the opposite direction.
No proposal signals this shift more than the plan Mr. Biden is expected to officially unveil on Wednesday to nearly double the federal tax rate on capital gains for Americans with income of more than US$1-million. The additional tax revenue would help pay for the “human infrastructure” initiative the President is set to unveil in a speech to a joint session of the House of Representatives and Senate. The US$1.5-trillion American Family Plan would boost public spending on child care, paid leave and community colleges.
The Biden plan would hike the top capital gains tax rate from the current 20 per cent to 39.6 per cent. The new rate would aim to bring taxes on capital gains in line with the top federal marginal tax rate on wages, reducing the ability of billionaires to pay lower effective tax rates than their employees.
Combined with a 3.8-per-cent surtax on investment income, adopted in 2010 to help fund Barack Obama’s health care law, the Biden reforms would raise the top tax rate on capital gains to 43.4 per cent. State taxes would apply on top of that, pushing the top capital gains tax rate in “high-tax” states such as California and New York above the 50-per-cent threshold.
The prospect of Silicon Valley tech millionaires and Wall Street hedge fund gurus soon taking up pitchforks cannot be ruled out. Mr. Biden’s proposals would break with policy making of the past three decades by treating capital gains and income earned from wages in the same way.
Most developed countries, including Canada, apply lower tax rates on capital gains than on income from salaries. There are several reasons for this. Since part of the increase in asset values over time is the result of inflation, a lower tax rate helps compensate investors for the difference between real and nominal gains on their investments. A lower capital gains tax rate also makes it easier for entrepreneurs to raise funds and for businesses to make productivity-enhancing improvements.
On Monday, the head of Mr. Biden’s National Economic Council pushed back against suggestions the President’s proposed tax reforms would reduce investment incentives and lower economic and productivity growth.
“Across a wide body of academic and empirical evidence, there is no evidence of a significant impact of capital gains rates on the level of long-term investment in the economy,” Brian Deese told White House reporters. “There’s lots of reasons for that, including that if you look at where a lot of venture capital and early-stage investment comes from, it actually comes from pension funds, sovereign wealth funds, entities that actually are not tax-sensitive.”
In truth, there is widespread debate in economic circles about whether higher capital gains taxes would result in higher government tax revenues. Moves to lower the capital gains tax rate since the 1990s were based on the firm belief that, by cutting taxes, governments could raise more money.
“So why raise a tax rate that would reduce investment, reduce wage growth and reduce revenue for the government?” The Wall Street Journal asked in a Monday editorial. “Temporary economic insanity is one possible explanation.”
Mr. Biden may be seeking to keep the progressive wing of the Democratic Party onside for now by proposing ambitious reforms, even though they would face tough odds in Congress. Moderate Democrats from swing suburban districts and states would seek to water down the proposals.
Regardless of where it ends up, Mr. Biden’s plan will influence economic policy debates in Canada, where investors are taxed on only half of their capital gains income.
In a recent article, University of Toronto economics professor Michael Smart estimated the total fiscal cost to the federal and provincial governments of the 50-per-cent inclusion rate for capital gains at $15.7-billion in 2017. Of the $72-billion in taxable capital gains realized by Canadians that year, almost 55 per cent was declared by taxpayers earning more than $250,000.
“It is entirely unclear what economic benefits are derived from this tax expenditure of about $16-billion annually,” Mr. Smart wrote on the Finances of the Nation website, estimating that raising the inclusion rate on capital gains to 75 per cent would raise $7.8-billion a year.
Deputy finance ministers across the country are no doubt already thinking of this as Ottawa and the provinces seek to climb out of the hole they have dug during the COVID-19 pandemic.
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