The tax rate controversy

Date posted: October 25, 2011

Investor Warren Buffet stirred up a debate when he said he a billionaire paid a lower federal income tax rate than his secretary. How could this happen, and is it common? N.C. State University economist Mike Walden responds.

“Well, what Mr. Buffett was … referring to is the fact that tax rates do differ. The tax rates that you pay does differ, based on the income that you earn and how it is earned. In Mr. Buffett’s case, most of his income is earned from gains on his investments. We call those capital gains. And the tax law says that in order to encourage people to make, for example, investments in the stock market, we’re going to tax those capital gains at a lower rate — about 15 percent.

“In contrast, if you earn money from working a job like Mr. Buffett is arguing his secretary does, you can be taxed at a higher rate. So … Mr. Buffett was right. In his situation he could actually be paying a lower tax rate on his earnings — investment earnings — than his secretary from her labor earnings.

“Now I would argue that Mr. Buffett’s situation is not common. In fact, it’s not just me saying that, if you look at the data. This is not … common to have a situation like his. Most people are going to earn income from a job and then maybe a little bit from their investment earnings. And so most people are going to have most of their income — even the very wealthy people– subject to the tax rates that apply to … work income. …

“But we still have, I think, a debate about, well, What should be the appropriate rate? Should we have a different rate, a lower rate for capital gains? And when we earn income from our work, should we have various rates there, or should we all pay one flat rate?”

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