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Romney's 15-Percent Problem

Would it be possible for Mitt Romney to handle the problem of his tax returns any worse than he has? By withholding them as he has, he has built up anticipation among political reporters who could generally care less about such matters. Romney's equivocating answer in the debate last night about whether he would release the returns sent Fox News' audience-response "hedge-ometer" machine literally off the charts. Then this morning he went ahead and confirmed the most salient fact in the returns: that he pays a rate of only about 15 percent. And in the process, he managed to suggest that the money he makes in speaking fees -- more than $370,000 last year alone -- is "not very much." *

I'll leave for another day the question of how Romney's violation of the "Buffett rule" will play with the electorate. For now, let me focus on what could come of all this in terms of the country's discussion of tax policy. In general, it seems immensely useful that the country will be confronted with a concrete reminder that many of the very wealthiest pay a federal income tax rate that is equal to or below what many middle-income Americans pay. I just hope that that discussion takes in the whole picture and does not get focused on one slice of it: the "carried interest loophole" that Romney benefits from. I've done my best the past couple years to draw attention to this egregious section of the tax code, which allows private equity managers to declare as capital gains their compensation for managing others' investments -- typically, a 20-percent cut of profits -- and thereby have it taxed at the 15-percent capital gains rate rather than the top-bracket 35-percent rate for ordinary income. Among other things, I wrote this past summer about Eric Cantor's successful attempts to shield the loophole during the debt-ceiling debate, after years of his having received more campaign cash from the affected financial and real estate sectors than just about anyone else in Congress. And so it's been gratifying to see good reporting laying out the fact that Romney is in all likelihood still benefiting from the loophole -- because he still gets a cut of Bain's profits -- and even some admissions in unusual places, such as today's Wall Street Journal, that the loophole needs to go.

But it's also important that the discussion doesn't stop with that loophole. The main reason that Romney and Warren Buffett and many others in the 1 percent (and one-hundredth of 1 percent) are taxed at such a low rate is the favorable treatment of investment income. It's worth recalling that this discrepancy has bipartisan roots -- after Ronald Reagan's 1986 tax reform equalized the rates for ordinary income and capital gains, Bill Clinton widened the gap again in 1997, trading a lower capital gains rate in exchange for college tax credits. George W. Bush's tax cuts then lowered the capital gains rate further to 15 percent. Make no mistake: the lower capital gains rate is a HUGE driver in growing inequality between the very rich and the rest of us. Half of all capital gains in the past 30 years have been claimed by the top tenth of a percent of taxpayers. (No, that's not a typo.) And that income is taxed at a far lower rate than what these upper-echelon taxpayers pay on their regular income. As the Washington Post editorial board -- not exactly a pinko bunch these days -- noted in today's paper:

A report by the nonpartisan Congressional Research Service shows that, between 1996 and 2006, the share of total after-tax income attributable to dividends and capital gains grew by 40 percent, faster than any other category. Earned mostly by the well-to-do, investment income was the largest contributor to the increase in income inequality between 1996 and 2006, according to CRS.
The tax cuts enacted at the urging of President George W. Bush magnified what CRS calls the “disequalizing” impact of this shift. The 1986 tax reform eliminated the gap between the ordinary and capital gains rates. The gap began to widen again during President Bill Clinton’s second term, but the Bush tax cuts of 2003 blew it wide open by slicing the top rate on dividends and long-term capital gains from 28 percent to 15 percent. The tax code as of 2006 was still progressive, in that top earners paid a greater share of their income to Washington than everyone else. But thanks largely to the more favorable treatment of investment income, the code was significantly less progressive in 2006 than it was in 1996, CRS found.

What to do about this? Well, the past year's much-lauded efforts at getting our fiscal house in order -- Simpson-Bowles, etc -- have all to some degree nodded in the direction of equalizing the rates for investment and ordinary income, presumably by bringing down the rates for ordinary income while bringing up the rates for capital gains. (This would, among other things, make the carried-interest loophole instantly moot, since all income would be treated the same way.) Many Republican candidates, on the other hand, want to make matters even worse by zeroing out the capital gains tax altogether. Romney won't go that far -- he only wants to eliminate the capital gains for people making less than $200,000, noting that zeroing it out entirely will leave the likes of Buffett and Bill Gates (and himself!) paying next no tax at all. But this will have little real impact -- people making less than $200,000 get precious little in the way of capital gains, and the proposal has only opened him up to charges from the right that he is pandering to Democrat-lite class-based politics. Instead, he has focused most of his supply-side goodies on cutting rates for ordinary income, bringing the top rate down from 35 percent to 25 percent, which also would disproportionately benefit the wealthiest.

The bottom line, though, is clear. The country is going to spend much of the next year talking taxes. And leading one side of the debate is going to be a silver-templed exemplar of how inequitable the system has become. Again: is this really the man Republicans want for this moment?

*I removed from this paragraph a reference to a Slate piece that was perhaps not as apropos as I thought on first reading.

follow me on Twitter @AlecMacGillis