By Richard Rubin
A coalition of business groups and companies including Altria Group Inc. and Xcel Energy Inc. is warning Congress that failing to extend tax breaks on investment income would make U.S. tax rates on capital gains and dividends among the highest in the industrialized world.
The group, the Alliance for Savings & Investment, will release a study today showing that the U.S. has the world's fourth-highest integrated tax rate on dividends and capital gains -- 50.8 percent including the effect of the corporate income tax and state taxes. Only France and Denmark have higher tax rates than the U.S. on both capital gains and dividends, according to the study.
"The international comparisons are very helpful because they frame the entire debate," Representative Peter Roskam, an Illinois Republican who has introduced legislation to make the current rates permanent, said in an interview. "It's a zero-sum game. Capital is fungible and capital is going to go where it's treated best."
The campaign by the companies and business groups including the U.S. Chamber of Commerce to keep tax rates on capital gains and dividends from rising runs counter to President Barack Obama's efforts. The Obama administration has proposed raising those rates and making other tax-code changes that would limit the benefits that wealthy individuals could receive from the preferential tax rates on investment.
The report "glosses over" the fact that some capital gains are earned outside corporations and that many gains aren't taxed because heirs receive a step-up in the cost basis of unrealized assets, said Chuck Marr, director of federal tax policy at the Center on Budget and Policy Priorities. The Washington group advocates for policies that help low-income Americans.
Marr said the report also ignores the total tax burden around the world. In 2009, U.S. tax revenue of 24.1 percent of gross domestic product was 9.7 percentage points below the unweighted average of countries in the Organization for Economic Cooperation and Development.
"If you line them up, the United States is actually a very low-tax country compared to all these other countries," he said.
Currently, individual income in the U.S. is taxed at a top rate of 35 percent while capital gains and dividends are taxed at a maximum rate of 15 percent. If Congress doesn't act by the end of 2012, ordinary income and dividends will face a top tax rate of 39.6 percent and the capital gains rate would rise to 20 percent. Obama wants to set the top rate for capital gains and dividends at 20 percent and the top rate for ordinary income at 39.6 percent.
3.8 Percent Tax
An additional 3.8 percent tax on the unearned income of top earners is scheduled to take effect in 2013. That was included in the 2010 health care law.
The study was written by Robert Carroll and Gerald Prante of Ernst & Young LLP. Carroll was a Treasury Department tax policy official under President George W. Bush.
Carroll and Prante calculated that if Congress doesn't act, the integrated tax rate on dividends would rise to 68.6 percent and the rate on capital gains would become 56.7 percent. The dividend rate would top the chart of major economies and the capital gains rate would be second. They criticized the "double taxation" of corporate profits.
"It discourages capital investment, particularly in the corporate sector, reducing capital formation and, ultimately, living standards," Carroll and Prante wrote.
Daniel Shaviro, a tax law professor at New York University, said those calculations assume that U.S. corporate income faces the full 35 percent statutory tax rate, when the effective tax rate on corporate income is lower because of cross-border tax planning, deductions and credits.
The study, he said, also ignores any effects on the federal budget deficit and the fact that the benefits of the lower rates accrue to high-income taxpayers. About two-thirds of the benefit of the preferential rates on capital gains and dividends go to people making more than $1 million a year, according to the Tax Policy Center, a nonpartisan Washington research group.
"I have some sympathy with their general policy objectives," Shaviro said. "You do have to think about overall revenue and distribution."
Democrats have been focused on the distributional effects of preferential tax rates on investment income, and the issue has emerged as central in this year's campaign. Republican presidential candidate Mitt Romney paid a 13.9 percent tax rate in 2010 on $21.6 million in adjusted gross income, in part because most of his income was from capital gains or dividends.
Obama's proposed "Buffett rule" to require a minimum 30 percent tax rate for people who make more than $1 million a year would counteract the ability of investors, including billionaire Warren Buffett, to receive the full benefit of the capital gains and dividends rates.
Additionally, Shaviro said, unlike the corporate income tax, tax rates on capital gains and dividends don't have a significant effect on the location of investment. That's because the U.S. imposes taxes based on its citizens' worldwide income.
"Unless we think the rich American's going to move to Iceland, it doesn't have the same force," Shaviro said.
Roskam said he and other Republicans will continue using international comparisons as they seek to shape a broader overhaul of the tax code.
"The world isn't waiting," he said. "We're wise to be measured by the fact that other tax jurisdictions have gotten the joke."