Guest Post: Have Tax Revenues Topped Out?

Tyler Durden's picture

Submitted by Charles Hugh Smith from Of Two Minds

Have Tax Revenues Topped Out?

Efforts to collect more taxes fail because people adjust their behavior accordingly.

Amidst all the "fiscal cliff" talk of raising tax rates, few dare to ask: have tax revenues topped out?

How could tax revenues decline as rates go up? Easy: people modify their behavior in response to whatever incentives and disincentives are present.

Make mortgage interest deductible and people will rack up huge mortgages. Reduce the yield on savings to near-zero (thank you, Federal Reserve) and people will save less.

Raise tax rates and people will lower their income or move to low-tax locales. As the saying has it, "Money goes where it is treated well."

Supporters of higher rates tout studies that find upper-income taxpayers shrug off higher rates, staying put in high-tax states: Do High Taxes Chase Out The Rich? and Superrich stay put in high-tax states like California.

On the other side of the ledger is this study from Britain: Two-thirds of millionaires left Britain to avoid 50% tax rate.

Which view is correct? Both, as a result of different dynamics. There are at least four separate dynamics in play.

1. The professional class is often "captured" and cannot move. For tax purposes, households with incomes of $500,000 and up are considered wealthy, i.e. above middle class incomes. Many of these people are self-employed or professional such as doctors and attorneys.

In theory, they could move to lower-tax states or nations, but their practice or enterprise is often local--pulling up stakes would mean sacrificing their high income which is the result of years or decades of networking and building local social capital.

Many of these high-earners are also trapped by their demographics: their kids are relying on their high incomes to pay their college costs, and aging parents may rely on their proximity and income.

Moving away is simply not an option for these high earners. So it's not that these professionals approve of higher taxes, they just don't have any practical alternative.

2. What self-employed high earners can do is lower their earnings. If the threshold is $250,000 each, then they will lower their taxable income to $245,000. Those with S corporations, limited liability corporations, etc. have legal ways to lower their taxable income while retaining the benefits of their entity's income.

For example, maybe the corporation will buy a live/work loft as an office, eliminating the owner's personal mortgage. The corporation effectively pays the mortgage, meaning their earned income can drop significantly.

Others will choose to work less. Why work so hard just to pay more taxes? Refuse work, cut your hours, enjoy life more.

3. The super-wealthy have the means to transfer income and wealth to lower-tax nations and pursue legal loopholes in the U.S. tax code. Those households making a mere $500,000 rarely have the financial wealth or firepower to justify the costs of hiring big-bucks tax attorneys and moving their assets and operations overseas.

This is the primary difference between high earners and the truly wealthy: the merely well-paid have fewer incentives to establish a legal enterprise overseas and deal with the complexities of the U.S. tax code, which considers all income from all sources to be taxable U.S. income.

For example, a wealthy U.S. citizen may earn $10 million a year, but by buying a villa and establishing a corporation in a low-tax nation, they can legally lower their tax rate on income earned or declared in the low-tax nation. By expensing all sorts of things against their U.S. income, they can effectively pay the U.S. rate on a small portion of their earnings while sheltering 90% overseas in perfectly legitimate ways.

Shifting assets and income streams to shelter income is de rigeur. The wealthy have more opportunities to do so, and so it is unsurprising that they would take those opportunities.

The wealthy and corporations are used to juggling tax code complexities and international assets/declared income; they have to do this to maximize shareholder value. Jacking up rates basically impacts the "captured" professionals and small business owners who have large earned incomes.

At some point many of these people will decide to sell out, retire, or drastically trim their enterprise to avoid working hard just to pay more taxes.

4. These basic avoidance strategies--earning less money and moving income and assets to lower-tax nations--are already common and relatively easy for those with control of their incomes and assets. Tax avoidance is universal, which is why tax increases always raise less money than linear projections anticipate.

If the sales tax or VAT goes up, people buy less retail and buy more on the cash-black market. The wealthy are simply doing the same thing on a larger scale.

Those with an interest in technical analysis may discern a topping pattern in this chart of tax receipts. It looks like the resurgent tax receipts of the QE/stimulus era will top out and roll over as the global recession deepens in 2013, forming a lower high.

We can anticipate a stairstep down pattern as tax receipts decline, new tax increases bump up revenues for a brief time and then people respond with more tax avoidance and tax revenues will resume their decline.

Various studies have found that Federal tax revenues top out just above 20% of total household income, regardless of the era or nominal tax rates. Recall that in many high-tax economies, up to 50% of the economic activity occurs in the informal/black market.

When tax rates are high, people move their consumption and enterprise into the cash informal economy and only pay taxes on half their total income. This is one way that people limit the amount of taxes they pay to around 20%, regardless of the nominal tax rate.

Efforts to collect more taxes fail because people adjust their behavior accordingly. Linear projections of rising tax revenues always fail to account for this easily predictable behavioral response.

I have addressed these issues many times:

Will "Tax the Rich" Solve Our Deficit/Spending Crisis? (December 28, 2011)

The Future of America Is Japan: Runaway Deficits, Runaway Debts (October 15, 2012)

About Raising Taxes as the "Solution" to the Fiscal Cliff.... (October 26, 2012)

The Fiscal Cliff and the Grand Bargain (November 28, 2012)

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knukles's picture

What income to tax?

Oh, you mean my residual already been taxed unreal non-disposable income before being taxed again.
Gotcha....

DoChenRollingBearing's picture

Retiring looks better all the time...

icanhasbailout's picture

on ZIRP, or even NIRP? Hope you don't plan to live too long.

NotApplicable's picture

Or maybe "retiring" from the phony economy to participate in the black one.

Looking poor is going to be a booming business.

seek's picture

I just said the same on an earlier story.

I think the key to "retirement" is moving towards maximum self-sufficiency -- growing your own food, solar electric, owning older used vehicles you repair yourself, bartering or buying direct from other with case, and living on property in low-tax jurisdictions or simply becoming the next-generation of "Okie" in RVs.

The bright side is that not only does this preserve one's retirement savings, it helps starve the beast as well.

CH1's picture

Once you drop out of the game, the wonderful surprise is that your time becomes your own again. No more endless forms to fill out, worrying that they weren't filled out correctly, and all the other non-monetary BS that is shoved down your throat in the system.

odatruf's picture

PC load letter? What the fuck does that mean?

CH1's picture

No idea WTF you're talking about.

knukles's picture

Which, the moment you or I declare retirement, they'll cut SS to zero for anybody who passes a means test comprised of having a pulse and breathing, will "Nationalize" all 401(k)s, IRAs and pension funds to "Liberate" citizenry monies thereby Freeing it for "Social Investing" it in "Productive Assets" (like EBT cards and shit) for the "Benefit of the People" in Treasury backed (re-hypothecation, much) "Government Annuities."

But never fear, they'll be in segregated, allocated accounts.
Right next to Ft. Knox's gold.

kaiserhoff's picture

As long as there's one raggedy assed poor person in Africa, you are way too filthy rich, Knuckles.  -

                                                                            Rufus, the Redistributor

knukles's picture

Ah, as a matter of fact, some of my uber-liberal Kalifornia People's Republik golf buds were talking about the "threshold" for higher taxes. 
They told me the rich should pay more.
Even suggested 90% marginal rate over the "threshold"
They also fervently believe that Everything should be approached and implemented on a Global Basis

I pointed out to them that the top 1% on a global basis was a cutoff of approximately $US 25,000 and thus....

<crickets chirping>

Then I told 'em to pay up on the skins I won...

 

Ah, Math, the New Inconvenient Truthtm

BraveSirRobin's picture

Why do you hang-out with morons?

kaiserhoff's picture

Because he lives in California?

NotApplicable's picture

With Corzine being the nation's Retirement Czar.

August's picture

"...they'll ..."Nationalize" all 401(k)s, IRAs and pension funds to "Liberate" citizenry monies thereby Freeing it for "Social Investing" it in "Productive Assets....

Just for the record, I strongly suggest that 401(k)s, IRAs etc. be closed out.  I've been disributing plan assets for three years now, and the last of my once-hefty retirement plan gets zeroed out in January. FWIW all proceeds have been (legimately) moved and invested overseas, but that's a whole 'nother kettle of fish.

I'll never make USD200,000 again, and am glad of it.  Starve the beast.

Beam Me Up Scotty's picture

Yes DoChen, and thats the problem.  Yesterday on CNBS they were talking about how there are 5.1 millionaires in the US.  Thats almost 2% of the population right there.  So, I am thinking to myself, how is a couple making $250k in the top 2%?  Its because older people have already made their fortune, under a more beneficial tax structure, and when inflation was lower.  They can afford to lower their "income" below the highest limits and still retain their wealth.  Meanwhile, they are consuming more and more healthcare and social security and they want the young to pay for it.  And they got to do it all when the retirement age was 65.

Couples making $250K/year will be lucky to be millionaires unless they live in modest homes and live modest lives.  Higher taxes and inflation will consume their earning power.  So basically, Obama wants to tax the young to fund the old.  Now they want to raise taxes on Social Security and Medicare and younger people have to work longer just to start taking less income out of the system.  People in their 40's and younger will have to work a full 5 years more just to collect, and the retirement age could easily be raised again between now and then. 

Work till you die will be the motto of the future.  All the dupes voting for Hope and Change will someday find out the hard way that the joke is on them.

knukles's picture

FUCKING BAIT AND SWITCH

All this fairness horseshit promulgated without any principles.
I can understand saying the 2% should pay more (or some other proposition, debatable, whatever) but then dropping the cutoff to $200K is HORSESHIT

First, how the fuck does one automatically get from a "millionaire" net worth to income threshold of $200K?  Hmmmm?

Second, while $200K might be a Big Fucking Deal in the Ozarks, it's not very much in NYC, LA, SF...etc.

HORSESHIT
HORSESHIT
HORSESHIT
HORSESHIT
HORSESHIT

 

Fucking Evil

 

(I greened ya' Scotty)

 

 

Beam Me Up Scotty's picture

Thanks Knuckles.  Taxing income is a load of shit you are right.  The people who have most of the wealth already are paying way less, even in the face of ZIRP or NIRP.  Dividend income is only 15%.  Thats why people like Romney pay alot less in terms of % of their income than the people making $250K/year.  And when the Bush tax cuts were enacted on people making $250K/year, you would now have to earn $325k/year just to keep the same purchasing power after inflation as those people who were making that amount in 2000.

chubbar's picture
Are any of you fellows ever going to get around to talking about spending? Do you fucking think we are in this mess because we all paid too little in taxes, even the 250K folks? Christ, they've suckered you right into the envy mode and away from the sanity of understanding the game they are playing on you. It's the SPENDING! PERIOD! You can tax 100% of every dollar over 250K and it won't fix the fucking problem. Wake up!
Beam Me Up Scotty's picture

We all know that.  Thats why I oppose any tax increase at all.  It won't be used to reduce the deficit, just to increase spending.  Spending never EVER goes down.  The best you might get is a reduction in the rate of spending increase but thats about it.

Im so sick of people talking about compromise too.  We have compromised our way to over 16 trillion in debt and climbing fast.  Its like compromising with your spouse who has a gambling addiction.  Honey, I'll sign up for another credit card with you if you only blow $1000 a day instead of $1100 a day.  Thats the kind of compromise that leads to being stone cold broke.

overmedicatedundersexed's picture

the truth is we need much smaller gov, much less intrusive, any incr in money to the fed gov for any so called use I am against..shrink the fucking monster in DC..and The EU.

Winston Churchill's picture

UK is raising retirement age for both sexes to 70( from 60 & 65).

Still doesn't bend the cost  curve enough, so expect a further raise after the frogs get

used to the heating  water.

Retirement will return to being a phantasy for most,a temporary aberration in history.

BraveSirRobin's picture

And this, despite the British food and national health care system. Those Brits are one hardy race.

lasvegaspersona's picture

The Beast connot be starve when the Fed feeds it whatever it needs. Until the Fed and the dollar go bye bye the Beast will be fine.

Urban Redneck's picture

Starving the beast increases the borrowing as a percentage of public spending.  They can screw with the statistics easily, but it is harder to manipulate a ratio that is based off two absolute numbers.

azzhatter's picture

I did it. I went from paying $97,000 in income tax in 2010 to paying zero last year. I went from $317,000 income to $27,000. I have substantial savings and buy a lot of metals and do as I please. I will not be a slave to government, they can suck on me. I refuse to feed the beast. I have no desire to fund the socialist dreams of the elites. They can all suck on me. And Fuck You Bernanke

BraveSirRobin's picture

You have lots of metals and subtantial saving to live off of, eh? Hmmmm. They will get you one way or another. Like a truffle, the pig will sniff you out.

JLee2027's picture

God bless you and your courage.

tooriskytoinvest's picture

Trader Alert: The Market Could Now Be Entering A “Euphoria Stage”. Major Investment “KABOOM” Coming.

http://investmentwatchblog.com/trader-alert-the-market-could-now-be-entering-a-euphoria-stage-major-investment-kaboom-coming/

Mike in GA's picture

Obama is the "Majick Negro", remember.  Regular laws don't apply to him or 'Dem progressives'.

When the One speaks, revenues flow from the 'Rich'. 

knukles's picture

"laws don't apply to him or 'Dem progressives"

Truth, that be the truth, my brother
(if there's any truth left...)

azzhatter's picture

They wish to pretend they are enlightened

Waterfallsparkles's picture

Maryland initiated a Millionaire tax and all of the Millionaire's left.

LawsofPhysics's picture

The entire fucking planet is printing. We will all be millionaires soon.  The taxes in other countries may be less, but the bribes and personal security is a bit more expensive.  Hey, at least these folks have the freedom to leave (for now), so let them.

Kreditanstalt's picture

W-E-I-R-D stuff.

Why is gold (the "gold price" at least...) falling, even with the dollar sliding, terrible data, re-revolutions in the middle east, bearish news and so on?

 

Long-John-Silver's picture

When Paper Gold is valued the same as Physical Gold it's easy to create the current situation. One day soon people will realize that Paper does not equal Physical value and the run on the Bullion Banks will start in earnest. Rumblings have started already with several Sovereigns demanding repatration of their Physical Gold.

Bastiat's picture

I thought "soon" was a couple years ago . . .but I'm still in.

Missiondweller's picture

Sure is hard to tax gold if they (the IRS) doesn't know you have it. An enduring gift from Ronald Reagan (who legalized owning gold).

akak's picture

Actually, it was Gerald Ford who signed the bill relegalizing gold (bullion) ownership in the USA, in December of 1974.

insanelysane's picture

Because the market is broken; manipulated; rigged; 

The Alarmist's picture

Reminds me of the old joke that the Germans laugh at the Italians for having such high tax rates and Italians laugh at the Germans for actually paying such high taxes.

Poetic injustice's picture

And Greeks borrow from both of them and next day declare bankruptcy.

Missiondweller's picture

Bankruptcy? No, no, they just threaten bankruptcy when they need more money.

Long-John-Silver's picture

In Obama land "fairness" is more important than revenue. 

knukles's picture

I've not come up with any homilies off of that, but sure is promising...

 

I ObamaLand "fairness" is more important that { insert your choice here }

Urban Redneck's picture

Fairness is fleecing the sheeple for their stupidity.  There is an odd karmic balance there.

(unfortunately the retribution won't extend to greedy and envious kleptocrats who have already succeeded in fleecing the sheeple)

Waterfallsparkles's picture

Many are talking about moving to Mexico.  Using their health care for $250. a month.  Lower cost of living.  Property Taxes are something like $26. a year.  Plus, you can afford Maids, Gardners, etc.

Funny.  Everyone in Mexico is comming here and so many here are going to Mexico.

Kreditanstalt's picture

No kidding.  We keep paying our Taiwan medical insurance even as I am forced to live here in Canada.  The Taiwan system is cheaper, they have more modern equipment, more doctors (all walk-in), tests can be done in days instead of weeks (or months), covers DENTAL CARE, and no waiting!  

And Canada's system?  I managed to get classified as "low inome" so pay peanuts: MILK IT DRY!  But why use this system?  Doctors here "aren't accepting any more patients": the official line is "go to an emergency room if you need to see one"...LOL

So Mexico may in fact be BETTER and CHEAPER.