The K Street office of Mark Bloomfield, president of the American Council for Capital Formation, is full of knickknacks collected in three decades of lobbying for cutting the capital gains tax.
The coffee table has campaign buttons that read “Capital Gains (equals) Better Jobs.” One wall displays a blown-up cartoon retracing the steps that led President Jimmy Carter to reluctantly sign a cut in the capital gains tax rate. On a shelf sits a framed, handwritten note from President George W. Bush in December 2003 that says: “Dear Mark, I got your treatise on taxes – many thanks. I will look it over with keen interest. Merry Christmas.”
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As a result of a pair of rate cuts, first under President Bill Clinton and then under Bush, most of the richest Americans pay lower overall tax rates than middle-class Americans do.
The rates on capital gains – which include profits from the sale of stocks, bonds and real estate – should be a key point in negotiations over how to shrink the budget deficit, some lawmakers say.
“This is something that should be on the table,” said Rep. Chris Van Hollen, D-Md., one of 12 members on the congressional “supercommittee” tasked with reducing the deficit.
“There’s no strong economic rationale for the huge gap that exists now between the rate for wages and the rate for capital gains.”
Advocates for a low capital gains rate say it spurs more investment in the economy, benefiting all Americans. But some experts say the evidence for that theory is murky at best. What is clear is that the capital gains tax rate benefits the ultra-wealthy.
Most Americans depend on wages and salaries for their income, which is subject to a graduated tax so the big earners pay higher percentages. The capital gains tax turns that idea on its head, capping the rate at 15 percent for long-term investments. As a result, anyone making more than $34,500 a year in wages and salary is taxed at a higher rate than a billionaire is taxed on untold millions in capital gains.
While it’s true that many middle-class Americans own stocks or bonds, they tend to stash them in tax-sheltered retirement accounts, where the capital gains rate does not apply. By contrast, the richest Americans reap huge benefits. Over the past 20 years, more than 80 percent of the capital gains income realized in the United States has gone to 5 percent of the people; about half of all the capital gains have gone to the wealthiest 0.1 percent.
“The way you get rich in this world is not by working hard,” said Marty Sullivan, an economist and a contributing editor to Tax Analysts. “It’s by owning large amounts of assets and having those things appreciate in value.”
Republicans have led the way in pressing for low capital gains tax rates, but they have been able to rely on a significant bloc of Democratic allies to prevent an increase and to protect the preferential treatment of money earned through investments over money earned through labor.
President Obama and leading Democrats want to allow the tax cuts passed under Bush to expire.
That would raise the capital gains tax rate from 15 percent to 20 percent. But it would still be lower than the rate under President Ronald Reagan, who raised it in 1986.
“Capital gains … veers onto theology for Republicans, but it has always been a bipartisan issue,” Bloomfield said.
A poll by the nonprofit Public Religion Research Institute showed that Americans, by a 2-to-1 margin, think the wealthy should pay more taxes than the middle class and the poor.
How the wealthiest Americans managed to get Congress to treat money made from investments differently from salaries or wages involved a variety of lobbyists, economists and lawmakers.
The theory justifying low capital gains taxes has many philosophical fathers but none as influential as Alan Greenspan, the former Federal Reserve chairman who was treated as an economic seer for decades.
Greenspan said capital gains taxes made people reluctant to move out of one investment and into other, more-promising ones.
In 1997 congressional testimony, Greenspan said the “major impact” of the capital gains tax, “as best I can judge, is to impede entrepreneurial activity and capital formation.”
“The appropriate capital gains tax rate was zero,” he added.Greenspan’s thinking had been around for decades. The same approach was adopted in 1921, just before a stock market boom, when the U.S. government lowered the capital gains rate for the first time. Over the decades, the rate fluctuated but remained lower than the rate on wage income.
Then in 1986, under a far-reaching tax bill, Democrats cut a deal with Reagan to raise the tax on investments and lower the one for salaries. For the first time in 65 years, both forms of income would be taxed at the same rate: 28 percent.
But that moment was brief.
In 1990 and 1993, the top tax rates on other forms of income rose, while the tax on capital gains stayed put.
After the Republicans took control of Congress in 1994, they again pressed for capital gains rate cuts.
Greenspan was then near his peak of credibility. In 1993, he promised Clinton he would lower interest rates if Clinton backed a deal to narrow the budget deficit. Both delivered, building trust.
By 1997, the GOP leaders were turning to Greenspan for economic cover and inspiration.
Greenspan would not comment for this story. But while he and others argue that the wealthy would save and reinvest their gains, thus spurring economic growth, other analysts say that result is not clear.
And while Democrats have decried the GOP for protecting the wealthy from tax hikes, they have been champions of keeping taxes on investors relatively low.
Last year, Obama proposed allowing Bush’s tax cuts to expire, which would have raised the capital gains rate from 15 percent to 20 percent for individuals making more than $200,000 a year and couples making $250,000 or more.
Yet as Congress debated the fate of the Bush tax cuts, a group of 47 Democrats wrote a letter to then-House Speaker Nancy Pelosi, D-Calif., opposing any hike in the tax on capital gains or dividends.
“Raising taxes on capital gains and dividends could discourage individuals and businesses from saving and investing,” the letter said, adding that the economy was too “fragile.”
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