Inequality is Weakening Social Security. Here’s How We Fix That.
When Congress set the cap on Social Security contributions in 1983, they didn’t anticipate forty years of rising inequality. And it’s cost us — a lot.
Today’s super rich can’t turn tin into gold. But they can get Uncle Sam to loan them free money. At the expense, of course, of America’s bottom 99 percent.
How much money is pouring into the pockets of America’s richest 1 percent? How much of this income are America’s richest paying in taxes?
Major media outlets have been asking questions like these ever since the Occupy Wall Street movement first started gaining traction earlier this fall. But the numbers in their answers, suggests a groundbreaking new analysis from Bloomberg reporter Jesse Drucker, aren’t telling the full story.[pullquote]Lawyers and money managers for today’s mega rich can make money off unrealized capital gains.[/pullquote]
America’s mega rich are actually taking in much more in income, Drucker shows, than their tax returns indicate. Hundreds of millions more. And this hidden income has reduced their effective tax rate — a figure already lower than the rate average Americans pay — even lower.
We’re not talking patently illegal tax evasion here. We’re talking complex financial transactions that would do medieval alchemists proud.
Those alchemists long ago struggled mightily to turn common metals into gold. Lawyers and money managers for today’s mega rich can routinely pull off a trick almost as lucrative: They can make money off unrealized capital gains.
This trick carries various arcane labels like “variable prepaid forward contracts.” But the goal always remains simple and straightforward: to grab as much tax-free cash as possible out of assets that have increased in value.
How does the trick work? Imagine yourself a major corporate CEO. You hold a huge stash of stock in your company. That stock has appreciated. If you sold your shares, you could clear a quarter billion dollars in personal profit. But you would also immediately face a capital gains tax on that quarter billion.
Now that prospect shouldn’t leave you particularly upset. The capital gains tax you face, after all, only runs 15 percent. That’s less than half the 35 percent you would be paying if capital gains were taxed at the same rate as ordinary income.[pullquote]The rich ‘can use complex transactions not available to most Americans to get cash from their appreciated stock without paying any taxes at all.’[/pullquote]
Some super rich in this situation do indeed just take their capital gain, pay Uncle Sam his 15 percent, and buy a bigger yacht. Others get creative. They don’t pay Uncle Sam. They get Uncle Sam to pay them.
These super rich go ahead and sell their shares — for colossal sums — but don’t deliver them to the buyer until a few years after they cut the deal.
At delivery time, these mega rich do report the income from the sale on their tax returns and pay the capital gains tax upon it. But in the meantime they’ve enjoyed what amounts to an interest-free loan from Uncle Sam.
Setting these deals up can cost the super rich millions in dollars in fees. But the returns make that outlay to accountants and tax lawyers well worth the expense. The rich, observes former New York State Bar Association tax section chair David Miller, “can use complex transactions not available to most Americans to get cash from their appreciated stock without paying any taxes at all.”
Dole Food chairman David Murdock, notes Bloomberg’s Jesse Drucker, played this game in 2009 when he pocketed $228.6 million for his Dole shares. He won’t “deliver” them until next November. Hank Greenberg, the former CEO at insurance giant AIG, parlayed a “prepaid forward agreement” into $278.2 million. Clear Channel Communications founder Red McCombs grabbed $259 million.
“Prepaid forward” deals first became all the rage for the wealthy about a decade ago, the New York Times reports. The IRS is still playing catch-up. An IRS crackdown of sorts did start in 2008. But the super rich haven’t flinched much.
One reason: The odds of getting audited remain low. Another: Even if wealthy taxpayers do get challenged on prepaid forwards, notes New York tax analyst Robert Willens, they can count on a tax court settlement that lets them keep a hefty chunk of whatever the prepaid forward helped them make.
“Who wouldn’t want that?” asks Willens.
Maybe the 99 percent. And what could protect the 99 percent from the continuing super-rich drive to exploit appreciated assets? David Miller, the New York State Bar Association tax expert, wants the super rich to have to pay a tax on the annual increase in the value of their immense stock holdings.
Such a tax, even if only levied on America’s richest 0.1 percent, could raise as much as three-quarters of a trillion dollars over a decade’s time. At that prospect, even the super rich might have to flinch.
Sam Pizzigati, the co-editor of Inequality.Org, also edits Too Much, the online weekly on excess and inequality published by the Washington, D.C.-based Institute for Policy Studies. Read the current issue or sign up here to receive Too Much in your email inbox.