Taxes

The story gets a bit more complicated when one considers that a significant portion of Romney’s income isn’t derived from his own personal investments, but comes from his share of profits generated by Bain Capital, the private equity firm he used to run, from managing other people’s money. In 2010, Romney earned $7.4 million from his legacy involvement in Bain. But thanks to an extremely-favorable-to-the-1-percent tax accounting quirk, Romney’s share of those profits fall under the category “carried interest” — and under current tax law, carried interest income is treated as capital gains.

There are other odds and ends. For example, Romney was probably able to avoid paying taxes on his speaking fees and book royalties ($528,871 in 2010) by offsetting it with contributions to charity and the Mormon church. But the unassailable point is that Romney was absolutely correct when he said in Monday night’s debate in Florida that he paid exactly what he legally owed in taxes. By a strictly legal definition, Romney is not a tax cheat. In the United States, if your income is generated passively from investments, you pay a lower tax rate than if you work for a living.

The question of how that scenario came about is where the story gets a little bit more interesting.

Historically, the capital gains tax rate has bounced around quite a bit over the past 100 years. Just prior to the Great Depression, the maximum rate was only 12.5 percent. A post-Depression backlash against stock speculators hiked the rate up to around 25 percent. There it remained right up into the late 1960s, when it started rising sharply again, reaching a peak of 39 percent during the Carter administration.

Carter lowered the capital gains tax rate to 28 percent, and then in 1981, Reagan pushed it all the way down to 20 percent (at the time, the lowest mark since the Hoover administration). But as part of the landmark 1986 tax deal between Reagan and a Democratic Congress, the rate was raised back up to 28 percent.

And there it stayed put until the unholy alliance of Alan Greenspan, Bill Clinton and Newt Gingrich engineered another cut — down to 20 percent — as part of the 1997 budget deal that resulted in Bill Clinton’s first balanced budget.

Alan Greenspan notoriously believed that the capital gains tax rate should be set to zero — a policy that Newt Gingrich still supports. Interestingly, press reports at the time noted that most of Clinton’s staff, including his then secretary of the treasury, Robert Rubin, and his chief of staff, Leon Panetta, opposed lowering the capital gains tax rate.

So if we’re looking for someone to blame as a key driver of income inequality in the last 15 years, the Big Dog himself, Bill Clinton, should be our prime target. But George W. Bush also helped; he lowered the capital gains tax rate down to its current 15 percent as part of his 2003 round of tax cuts.

Barack Obama has, in the past, indicated muted support for raising the capital gains tax rate. If the Bush tax cuts expire, the rate will jump back up to 20 percent. A more sticky question is whether Congress will ever change the provision that treats “carried interest” as capital gains. The fact that carried interest is not treated as normal income is a result of court decisions and IRS rule-making rather than any specific law passed by Congress. But in recent years, as critics have argued that letting hedge fund and private equity managers treat the bulk of the profits they generate from managing other people’s money as capital gains allows some of the very richest Americans to scoot out from under our supposedly progressive tax system, there have been some efforts to close the loophole. In 2009, the Democratically controlled House passed several bills that would have treated carried interest as normal income, but in the face of intense lobbying from private equity and hedge fund interests — including Bain Capital — the measures never made it through the House.

The release of Romney’s tax returns, if nothing else, should reignite the political heat over carried interest, and our historically low capital gains tax rate. In an election year when income inequality is sure to be a major part of the narrative, Romney’s tax returns are a windfall. Blame who you want — Alan Greenspan, Bill Clinton, the courts, or a Congress supine before financial industry lobbyists — but we owe a thank you to Mitt Romney. We’ve never gotten a clearer picture of the privileged position of the 1 percent than we do from the former governor’s returns. No wonder he didn’t want to release them.

But on one topic they are as alike as genetically modified peas in a pod. In an era in which Americans are paying historically low taxes and the government faces huge budget deficits, they are all fervently determined to give the richest Americans another huge tax break.

The Citizens for Tax Justice have crunched the numbers, and they are remarkable.

The cost of the tax plans proposed by Republican presidential candidates would range from $6.6 trillion to $18 trillion over a decade. The share of tax cuts going to the richest one percent of Americans under these plans would range from over a third to almost half. The average tax cuts received by the richest one percent would be up to 270 times as large as the average tax cut received by middle-income Americans.

The figures  are staggering. Here’s a quick breakdown of how the richest one percent of Americans would stand to benefit under the different plans.

• Newt Gingrich: An average tax cut of $391,330

• Rick Perry: An average tax cut of $272,730

• Mitt Romney: An average tax cut of $126,450

• Rick Santorum: An average tax cut of $217,500

Ron Paul’s tax plan isn’t detailed enough to make the same analysis, but he has proposed repealing the federal income tax altogether, which, ideologically speaking, makes him a clear fellow traveler with the rest of his colleagues.

The CTJ report makes a little bit too much of the relative size of the tax cuts enjoyed by the richest Americans compared to the rest of us (for example, under Gingrich’s plan the middle fifth of Americans would get a $1,990 tax cut, a mere pittance compared to the $391,300 delivered to the rich.) In a proportional system, the numbers are always going to be much bigger for the richest Americans, whether we’re measuring hikes or cuts. But the report is right on the money when it points out who ends up really paying for the cuts. Affording the huge tax cuts plans proposed by the leading Republican presidential contenders will require massive cuts to government programs that primarily benefit the lower and middle classes.

Even the meager tax cuts that would go to low-income and middle-income taxpayers under these plans would almost surely be offset by the huge cuts in public services that would become necessary as a result.

GOP lawmakers in Washington are already calling for ending Medicare as guaranteed health insurance for seniors and reducing Social Security benefits, and these tax plans would make necessary even more draconian reductions in the types of public services that middle-income Americans depend on.

Rich Santorum told debate watchers Saturday night that he’d prefer it we just abolished the term “middle class” from the popular lexicon. Dividing up Americans according to their income levels just serves Obama’s “class warfare” agenda, claimed Santorum.

But it’s impossible to look at the tax plans proposed by Gingrich, Romney, et al. and not understand how class warfare really works in the United States today. The rich get a huge windfall — and the rest of us are supposed to pay for it.

Bottom line: The average statutory corporate tax rate is 6.2 percent. But between 2008 and 2010, the 265 companies analyzed in the report “paid state income taxes equal to only 3.1 percent.” If they had paid the full rate, states would have collected another $82.6 billion in revenues, money sorely needed to pay Medicaid bills and keep parks open and employ teachers and firefighters.

We can’t repeat this enough: When you hear someone say that American corporations suffer from high taxes, take a moment to point out that, as far as taxes are concerned, it’s never been better than right now to be an American corporation.

As recently as 1986, state corporate income taxes equaled 0.5 percent of nationwide Gross State Product (a measure of nationwide economic activity). But in fiscal year2010, state and local corporate income taxes were just 0.28 percent of nationwide GSP, equaling the low-water mark set in 2002. For the three years between fiscal 2009 and 2011, in fact, state corporate income taxes were at their lowest sustained level, as a share of the U.S. economy, since World War Two.

The report cites three major reasons to explain the ongoing decline in state corporate income tax revenue — “the trickledown impact of federal corporate tax cuts, ill-advised tax ‘incentives’ intentionally enacted by state lawmakers, and unintended tax shelters created by companies armed with creative accounting staffs.” The report also proposes a sheaf of well-meaning, sensible policy responses and strategies for reversing the trend. But ultimately, the proposed fixes all run head on into exactly the same political reality that any attempt to rationalize the federal income tax debacle faces: at the congressional level, politicians are still attempting to reduce corporate tax liabilities.

Earlier this year, the House Judiciary Committee approved H.R. 1439, the so-called “Business Activity Tax Simplification Act” (BATSA), which would make it substantially more difficult for states to effectively tax the income earned by corporations from activities within their borders.

The bill’s sponsors — and the corporate lobbyists pushing this plan — say that the goal of the bill is to limit state and local governments to taxing only those businesses with a “physical presence” in a state.

Of course, as the authors point out, the “physical presence” standard makes no sense in the Internet age. Even worse, any corporation with accountants who know what they are doing can easily structure subsidiaries to carry out physical operations in such a fashion as to escape local taxes.

Which leads us to one final inescapable conclusion. Today, a not insignificant amount of corporate creativity and innovation is channeled directly into the task of avoiding taxes. Our patchwork system of federal and state incentives and tax breaks creates fertile ground for game-playing. In a simpler world, you would have to think that energy could be directed to more productive uses.