|CAPITALIZING ON GAINS?|
August 10, 1999
A Republican tax-cut bill includes reducing capital gains taxes. Margaret Warner talks with Mark Bloomfield, president of the American Council for Capital Formation and Iris Lav, deputy director of the Center on Budget and Policy Priorities.
ELIZABETH FARNSWORTH: Congressional Republicans are back in their districts this week, publicly pressing the case for the $800 billion tax cut bill they passed last week. The President has vowed to veto the legislation but says he's willing to consider something more modest. Tonight, we begin a look at some of the key points of contention. Margaret Warner focuses on the capital gains tax.
MARGARET WARNER: Capital gains are the profits earned from the sale of assets like stocks and real estate. The Republican bill would reduce the taxes individuals pay on such gains by 2 percentage points. For most taxpayers the current 20 percent capital gains tax would drop to 18 percent. For those in the lowest income tax bracket the capital gains rate would drop from 10 percent to 8 percent. The bill also would index capital gains for inflation. The cost to the government: An estimated $32 billion over 10 years. President Clinton signed a capital gains tax cut in 1997, but he opposes this one. For more on the issue, we're joined by Mark Bloomfield, president of the American Council for Capital Formation, a private group that lobbies for policies to promote savings and investment; and Iris Lav, deputy director of the Center on Budget and Policy Priorities, a nonprofit research and policy institute in Washington. Welcome to you both.
|A further drop?|
MARGARET WARNER: Mark Bloomfield, capital gains are already taxed at a lower rate than income taxes. Why drop them further?
MARK BLOOMFIELD: Well, I think we ought to drop them further for three reasons: One, it's not fair to tax people's savings -- and that's what capital gains are about -- secondly it makes economic sense to not tax capital gains at all. We did a survey of 24 countries around the world, and we're probably the tax capital gains harsher than any of our competitors. And third, which is very, very important - it's fiscally responsible to lower capital gains taxes.
MARGARET WARNER: And you oppose it.
IRIS LAV: Right. A capital gains tax cut would give a very large benefit to very, very high income investors. You know, some people try to make the case that a lot of middle and moderate income people have capital gains, but they have a little bit of capital gains. If you look at the amount of capital gains, two- thirds of all capital gains income is received by investors in the top -- who are the highest income, one percent of people in this country, people with incomes over $260,000 a year. And they would be the beneficiaries of this tax cut, and that is not the priority expenditure for our government at this time.
MARGARET WARNER: How wide would the impact be and how would it be distributed if you had this kind of a rate cut?
MARK BLOOMFIELD: I think Iris is right, that a lot well-to do people have a capital gains. But the mutual fund industry said two years ago that 60 percent of people with income of $50,000 or less had money in a mutual fund - 50 percent of all people who have incomes of $50,000 have capital gains. It may not be a lot of capital gains, but they have capital gains. Right now we have an investor class. There are, quite frankly, almost as many people who are invested in stocks as there are employed people in the United States. So, it's very, very broad -based. And it's important for the retirement security, and as I will stress later on, for the economic growth of this country.
MARGARET WARNER: It does also include people who own their own homes, doesn't it?
IRIS LAV: Right. But the 1997 tax bill exempted $500,000 of this profit on the sale of a home from capital gains tax. So very few people are effected by capital gains tax when they sell their home now, unless they make more than a $500,000 profit, which isn't too many homeowners. I'd like to it stress that with what - sort of in response to what Mark said. If somebody -- a lot of people have $100 in capital gains, but most capital gains, a third of all capital gains go to people in any year they have capital gains in excess of $1 million. So it's rely the Bill Gates's of the world who benefit , and it's not quite honest or fair to hide behind the people with $100 of capital gains when you're giving most of the benefits to people who have a million dollars a year in capital gains.
MARK BLOOMFIELD: Let me ask a very simple question. Why is it fair to tax savings at all? Savings is important for retirement; savings is important for the economy. I agree with you that upper income people have capital gains, but why tax saving at all?
IRIS LAV: Income is income. You know, you cut the capital gains rate, and then you have people who are earning -- the result of this bill would be to reduce the effective rate in capital gains between the rate cut and the indexing to sort of 12 or 13 percent, and then you have people who are earning their wages and paying at 15 percent. You know, people are getting incomes.
MARK BLOOMFIELD: But it's been taxed before. We're taxing it again; we're penalizing somebody who saves as opposed to somebody who spends money on -
IRIS LAV: The gain has never been taxed.
MARGARET WARNER: Well, what about that point about taxing savings -- what is the justification, what's the rational for taxing savings?
IRIS LAV: We tax all forms of income, or we try to tax most forms of income. I mean, most people think a fair tax system would be a tax system that taxed all forms of income and didn't have a lot of loopholes and didn't have a lot of special provisions and that taxed it at the lower rate that would be possible, rates that would be possible, if you included all income. When you have some income taxed at one rate and some at other rate and some income not taxed at all, what you do is give a lot of fuel to the tax shelter industry. In this case you'd have people working very hard to get their salary income and particularly their interest and dividend income looking like capital gains, and that's really inefficient.
MARK BLOOMFIELD: That's really not true because Iris just said that we shouldn't -- she was talking about taxing income. I'm for taxing income, I'm not for taxing savings. I was an advisor to the CBO Congressional Budget study on capital gains, and there was on thing that we agreed that we would not have any more tax sheltering. Tax sheltering went away with the changes in the '96 Act, which dealt with all sorts of complicated real estate.
|The impact on the economy|
MARGARET WARNER: Let me ask you both to address -- we just had a big capital gains tax cut in '97 from 28 to 20 percent. What was the evidence of the impact of that -- first of all on the economic -- the private economy of the U.S.?
MARK BLOOMFIELD: Well, that's something that I'm very pleased to talk about. There is a well-known economist by the name of David Wyss, who's the chief economist for DRI. DRI is a mainstream economic consulting firm. It's used by the Federal Reserve, the Congressional Budget, all the government agencies. And he looked at what happened to the 1997 capital gains tax cut, did it work? And he found the following: He found, number one, it reduced the cost of capital, so businesses were more able to invest. As they were more able to invest the US capital stock grew and as the US capital stock grew, the economy grew, there was greater productivity and income went up for the average American household. So here you've got a mainstream economist; no one's rebutted this analysis, which came out a month ago that said very simply people who say that the capital gains tax cut would do something for the economy were right.
MARGARET WARNER: Were they right?
IRIS LAV: Well, I think you should say your organization was the lead sponsor of that study, right?
MARK BLOOMFIELD: Well, our -
MARGARET WARNER: But what about the substance?
IRIS LAV: Well, I think the substance is because when you have that kind of study the assumptions what go into it affect to some extent the assumptions, you know, the results that come out of that. And it contradicts the study that the CBO released.
MARGARET WARNER: The Congressional Budget Office.
IRIS LAV: The Congressional Budget Office - I'm sorry - which basically showed that there is very little effect from - on savings and very little effect on the economy from this kind of a tax cut and which showed that basically after ten years of - after 5 percentage point cut in the capital gains tax, you'd have a Gross Domestic Product increase of about 2 or 3 billion dollars, and an 8 trillion dollar economy.
MARGARET WARNER: Let me just go back to actually what has happened from '97 to now. And what would you say was the effect in those two years? Did people, as the advocates had argued, go ahead and sell stocks now that the rates were lower and invest in other companies? Was there more capital formed or not?
IRIS LAV: Well, I think the big real boom in capital gains realizations began in '96, before the tax cut was put into effect and before it was even really seriously discussed. And so I think that it predated it, and so I think that, you know, the DRI -
MARK BLOOMFIELD: Well, let's talk about some facts. Number one is I was an adviser to the CBO study, and we - the CBO study did not specifically look at the impact of the 1997 study. Number two, if you look at the outside advisers, the best mainstream economists, both Democrats and Republicans, they were very critical about some of the assumptions that came out of that CBO study. As Martin Feldstein and others argued, the study ignored any impact in innovation and economic growth; you took the most conservative assumptions. So you cannot say that that study was determinative. David Wyss's DRI study was, and if you're saying that because we worked with David Wyss in the study, this is a consulting firm that's referred to by the Federal Reserve, the CBO and others, if you're attacking the credibility of that study, I would suggest you attack the substance of the study, as opposed to the comment you made.
MARGARET WARNER: Let me ask you about another point of contention both in '97 and now, which is what impact it would have on the government revenues. The projections are this would cost $32 billion over 10 years. There was a much larger cut two years ago. What was the revenue impact for the government?
IRIS LAV: I think it's hard to say. I mean, it's hard to know what the revenue impact is on a capital gains cut - you know - just a year and a half or two years after the capital gains tax cut took - a few years after it takes effect, because everybody agrees that you do in the first year or two after you have a capital gains tax cut, you have an increase in realization. But there's no question -
MARGARET WARNER: You mean -
IRIS LAV: More people sell stocks to take advantage of the lower rates, and so that's going to happen. You have a lower rate and some people are going to sell stock they've been holding onto for a while, but the - what the long-term impact is, is really what's under dispute here. What will the result be after 10 years, and that's what I was referring to the results in the CBO study. I should also say that the $32 billion is not the real cost of this tax cut over the next 10 years; there are two tricks in there that make the tax cut look a lot cheaper than it is, and one of them is because there is indexing and because the bill - the proposal would allow people to qualify stocks they already own or assets they already own for indexing by paying tax, there's a $15 billion revenue increase. It shows it raises $15 ½ billion in 2001. And there are also the sunset effects of -
MARK BLOOMFIELD: Iris is so right. I mean, these things are difficult to estimate. What the government does when it estimates the revenue impact, they look at the static losses if you tax something at a lower rate, you get less of it. You gain more revenue because people will sell stock at a lower rate. What the government does not take into account, whether it be the OMB, or the Congressional Joint Committee on Taxation, they do not take into account the impact on the economy. They also do not take into account the impact on the value of assets. One of the things that David Wyss found in his study - that 25 percent of the increase in stock prices could be attributed to a lower capital gains tax. Why? Because an investor, you're looking at the after-tax return to your investment. Obviously, if there's no tax, that stock is worth a lot more increases in value. So where I would disagree with Iris is the numbers that she talks about - 32 - don't take into account two important factors: the impact on the economy and the impact on stock prices.
MARGARET WARNER: All right. Before we go, let me ask you both briefly for your predictions. Given the President's veto threat, what chance do you think there is that there will be any capital gains tax cut this year?
MARK BLOOMFIELD: Well, this is obviously much more of a political one. I would suggest that if a bill is signed into law, there are certain things that -
MARGARET WARNER: You mean, a compromise?
MARK BLOOMFIELD: Yes. There are a certain things that the Congress is going to insist upon. Tomorrow you are going to talk about death taxes, I think that will be at the top. I think capital gains will be. In response, I think the President will get certain things that he wants, things that Iris and I might also agree with, perhaps an increase in the Earned Income credit. So I think it's a serious candidate for inclusion if he signs the piece of legislation.
MARGARET WARNER: Do you think it's a serious conclusion if there's a compromise bill?
IRIS LAV: I think we're a long way from being able to look at a compromise given the budget situation. I think the President has said he won't do a bill that overwhelmingly benefits high income people, he doesn't want to do a bill that has a large long-term cost. I think that's the problem with including a capital gains cut in there, and I would certainly hope he would not include that in a compromise.
MARGARET WARNER: All right. Well, thank you both very much.