Buffett Tax Lie

This is my attempt to illustrate why capital gains taxes are “lower” than income taxes.  There are plenty of philosophical reasons, such as income from capital gains involves an element of risk, meaning you could lose the money you invest, therefore make nothing.  However, this writing is concerning the simple math of the foundation of it.

To be sure everyone understands capital gains as other than just a tax rich people pay, here is the Reader’s Digest version of what it is.  If you buy 10 shares of the new Facebook stock at $20, you will spend $200 on the stock.  You may decide to sell the stock the next day at $30, giving you a profit of $100.  That $100 is your capital gains.  Using a 15% capital gains tax, you will give the government $15, leaving you with $85.  Capital gains are also from the interest in your savings account, selling your house for a profit, even if you sold an antique car that increased in value from when you purchased it.  Basically, anything you sell for a higher price than what you paid results in capital gains and is subject to the capital gains tax, regardless if the sale is reported to the government or not.

Sticking with the numbers above, I have shown the $100 in income resulted in you paying $15 in taxes.  However, if you had “earned” income, income from a paycheck for $100, your tax rate might be in the 25% bracket, meaning you would pay $25 in taxes. (For this writing, I am ignoring all deductions and other credits, which are available in both instances. All income being shown is the income after the expenses and deductions that might be taken) The difference illustrated here is what is being debated by “The Buffett” rule.  Warren Buffett, like most all investors, makes most of his money from the gains in their investments.

Why is it “fair” we tax capital gains at a lower rate than “earned income.”  First, I would suggest it is not; I think both should be lower.  But, politicians, from the left, do not like that idea, they would rather raise the taxes on capital gains.

One must remember, to invest money, one must first HAVE money.  There are really only two legal ways to get money, work for it, or inherit it.  For the most part, unless it is a large estate, inheriting money is not going to allow someone to make enough in capital gains to survive.  I will show that first.

If papa Buffett dies, his estate is taxed as much as 35%.  So, if there is one million dollars in the taxable estate, the recipient will get about $650,000.  In other words, the money he was going to get, the one million dollars, already has a tax of 35% on it.  (not to mention the fact the one million is what was left after papa Buffett paid taxes already) Instead of investing with one million, he is only investing with $650,000.

When you clock in at KFC, the only direct tax (income) you pay is your particular tax rate (25% in our example).  This means, you get 75% of your money to invest, while the person who inherited his money only gets 65%.  If you earned $500 that week, you have about $375 to invest.

From this money, let’s assume you both double your money in the stock market.  You make $375, the guy who inherited his money makes $650,000.  You will both pay the same capital gains rate, 15%.  This means you now give the government $56.25 and he gives them $97,500.  Let’s add the taxes, all combined from the beginning, shall we.  You have now paid $181.25 in taxes while he has paid $447,500.  Let’s now compare rates.  Your total income, from the investment and the job, was $875, his was $1,650,000.  That makes your total tax rate 20.7%, his, the rich guy, is 27.1%.  Nearly 30% more!!!

“Well,” you might say, “that is from inheriting money, it must be different if they had earned income!” Maybe so, let’s check.  The rich owner of the KFC is given a salary resulting in a taxable income of $200,000.  He will pay about 35% in taxes on that or $70,000, leaving him $130,000.  As the employee of KFC, you are left with $10,000 taxable income in the same period.  Assuming about a 20% tax rate, you will pay $2,000 in taxes, leaving you with $8,000 to invest.  Both you and the owner invest all of your money in a stock and sell it the next day doubling your money.  You have made $8,000, he made $130,000.  Again, you both will pay the same capital gains tax rate of 15%.  You will pay $1,200, he will pay $19,500.  Using our same methodology as before, adding all the income and taxes, we will get our effective tax rate between the two.  You will have had $18,000 in total taxable income, him $330,000. You paid a grand total of $3,200, he paid a grand total of $89,500.  Your rate is then 17.7%, his is 27.1%!!  Wait!! According to Warren Buffett, Barak Obama, and other ignorant or lying people, the worker is paying a much higher rate even double that of the rich person, how can this be?  It is because everyone ignores THE INITIAL rate the rich people had to pay before they were even able to have the money to invest.  You can continue the cycle and formula; it will be years before the total tax rate of the rich person eventually gets to the point that it approaches the rate being touted by the left and other advocates of gouging the rich.  That assumes the investor never has earned income, however, as principals in their companies, they usually take a salary, at the 30%+ tax rate.

So next time you are told how the rich only pay 15% and their secretaries are paying double that, remember, there is more to the story.  The rich people are paying tax on their money more than once.  That double taxation must be considered when calculating the full rate.  However, it is easy to take a simple snapshot of a tax return, divide two numbers into each other, and claim that to be the tax rate.


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