by Rod D. Martin
March 4, 2004
In my ongoing series on making real tax reform a reality, I have noted that there are five key reforms which must take place before a completely new system can be enacted. Successful navigation of this “road map to reform” will improve fairness while preparing the system for an entirely new tax code; it will also teach average Americans — and their legislators — the lessons needed to guide them toward the best possible change.
Item one on the agenda: elimination of the double tax on capital gains.
Unfair to everyone, the capital gains tax hits poor and middle class Americans hardest: any time you sell an investment — whether it’s your home, your small business, or something you set aside for a rainy day, Uncle Sam takes a bite, which can range as high as the very top tax rate.
Double taxation is wrong, and this is surely it. You’ve already been taxed on your income: now, when you save or invest it, Washington picks your pocket again. How can anyone not already wealthy ever expect to achieve the American Dream?
But the foolishness of this tax is worse than its unfairness. By penalizing successful investing, the capital gains tax reduces the amount of capital available to start and expand businesses, particularly the small businesses which employ 80% of all Americans. And for existing companies, the tax lowers productivity and raises prices for every consumer, two additional “hidden” taxes on us all.
It’s no surprise that over the past quarter century, whenever we cut capital gains taxes, economic growth increased.
But what is surprising is just how badly this tax devours wealth. Recent studies show that, for every dollar in capital gains tax collected, ten dollars of GDP is lost. That means, for example, that in 2000 — while stocks were crashing and we were entering a needless recession — when government extracted its $110 billion worth of capital gains taxes from us, it destroyed over $1 trillion of our GDP: businesses, retirement savings, jobs.
Clearly, the status quo is intolerable.
While it may take years to deflect this dagger from the heart of our economy, President Bush and the Republican Congress have already made great progress, significantly reducing the capital gains tax just last year. What’s more, supply-side conservatives were joined by moderates and conservative Democrats, many of whom had been skeptics in the past.
But there is still much more to be done.
While the tax still exists, for instance, one important goal we must achieve is inflation indexing. As Ronald Reagan taught us, the lack of indexing subjects long-term investors — particularly small savers and “Mom & Pop” business owners – to serious inflation risk.
An example: if you had invested $1000 in 1980 and had sold that investment for $2000 in 1996, your after-inflation gain would have been just $241. Of the $1000 in nominal profit earned, a whopping $759 would have been lost to inflation.
Yet you would have been taxed on the entire $1000.
Clearly, the failure to index encourages speculation and discourages long-term investment. It also helps make America a country of spenders instead of savers: with savings accounts and similar investments returning the rate of inflation or less, the capital gains tax can easily wipe out the little guy: no matter how much he saves, he can never get ahead. So on average, he doesn’t save, thanks to the “wisdom” of Uncle Sam.
Unfair? You bet. And as unnecessary as it is unfair.
It’s well past time to introduce indexing by law. Nevertheless, there are other remedies. In 1992, a National Chamber Foundation study concluded that the U.S. Treasury has the legal power to index capital gains for inflation by regulation. Every American should tell the President: it’s time to get this done.
In the coming months and years, as more Americans own homes, investments, and small businesses than ever before, the arguments for capital gains tax abolition will resonate across the nation. It’s up to us all to make these arguments clearly and persuasively, and to elect men and women of conviction who will help make abolition a reality. No matter what the Left may say, this is not a matter of “taking care of the rich”: the rich always find a way to take care of themselves. Our interest is in including every American in our country’s birthright: the hope, growth and opportunity freedom provides.
Our representative government should not be an obstacle to that success: it should enable it.
Read the Whole Flat Tax Series, by Rod Martin