Capital Pains: Democrats’ Proposed Tax Hike Harms Young and Middle-Class Investors

From startup companies to Congressional Democrats, there’s a surprising amount of hedging going on with regard to President Biden’s much-ballyhooed capital gains tax policy redux. (Note: I’ve always wanted to have the gall to use the phrase “much-ballyhooed” in an opinion piece; and now I finally have. I feel so stunning and brave.)



Ostensibly for purposes of funding part of Biden’s $1.8 trillion American Families Plan, the proposed modifications would obtain only toward millionaires for now, taxing their capital gains—profits realized from investments—at the same rate as their ordinary income. That means millionaires would see their capital gains tax payments nearly double under Biden’s plan, surging from 20 percent to 39.6 percent.


As Forbes’ Taylor Tepper notes, however, “When you include the 3.8% net investment income tax (NIIT), [that 39.6] jumps to 43.4%. If you include state income taxes, the tax rate could rise to as much as 48%.”


Although the President is touting the changes as a win for American families and the middle class, the proposal is likelier to harm the very people it’s intended to help.


While we’re at it: it isn’t a “win” for one person just because another person loses more money than they do. This way of thinking about value is antiquated, deceptive, and unfortunately quite common on the antiliberal left as well as the populist right. When an insidious and incorrect narrative like this rears its ugly head, it needs to be called out.


Plugging his proposal, President Biden said: “we’re going to get rid of the loopholes that allow Americans who make more than $1 million a year [to] pay a lower rate on their capital gains than working Americans pay on their work”—insinuating that no one who makes $1 million a year works (more on that below); and neglecting to mention that all working Americans pay a lower rate on their capital gains than they pay on their work (more on that below, too).


Again, the rhetoric around millionaires not working has no basis in fact. Adjusted proportionally, there is no evidence that individuals who are below retirement age and possess more than $1 million in taxable income are less likely to hold a job than those in the lower income brackets. In fact, millionaires are among the most likely to hold jobs. According to 2019 Census Bureau data (below), a mean of 2.1 persons per household within the top income quintile work; and only 1.4 percent of individuals in that bracket do not work.


Source (clipped): U.S. Census, “HINC-05. Percent Distribution of Households, by Selected Characteristics Within Income Quintile and Top 5 Percent” (2019). census.gov. Data accessible via hyperlink above.

Source (clipped): U.S. Census, “HINC-05. Percent Distribution of Households, by Selected Characteristics Within Income Quintile and Top 5 Percent” (2019). census.gov. Data accessible via hyperlink above.


Nor are the wealthy disproportionately more likely to have inherited their wealth. If anything, they are disproportionately less likely to have inherited wealth, meaning that higher inheritance taxes would do more harm to those who earn less. As Kevin D. Williamson reported in 2014, using the most recent data available to him:


For the top income quintile, gifts and inheritances amount to 13 percent of household wealth, according to research published by the Bureau of Labor Statistics. For the top wealth quintile, they amount to 16 percent. For the hated “1 percent,” inherited wealth accounts for about 15 percent of holdings. … [T]hose numbers have gone down over recent decades—by almost half for the wealthiest Americans. … Meanwhile, inherited money makes up 43 percent of the wealth of the lowest income group and 31 percent for the second-lowest.

Williamson concluded: “inherited money on net reduces wealth inequality in the United States (measured as a ratio) rather than exacerbating it.” As a result, “eliminating inherited wealth would have approximately twice as much of a negative effect on modest households as on wealthy ones.”


Why make such a big deal about inherited wealth when the subject is capital gains? Because a significant portion of inherited wealth comes from unrealized capital gains. If Biden hopes to tap into The Wealthy’s massive reservoir of capital gains inheritances—this ain’t it.


That matters, especially for those not currently slated to see their capital gains burden soar under Biden’s proposal, since there’s no reason to believe that eventually all capital gains couldn’t be—or, given the price tag on the current administration’s policy agenda, wouldn’t ultimately need to be—taxed as ordinary income.


In that case, Americans about halfway to seven figures would also see their capital gains rates surge from 20 to 39.6 percent (while the current income tax burden for this bracket is 35 percent, the American Families Plan would cordon individuals earning $452,700 and married couples netting $500,000 into the “millionaire” bracket). Those earning anywhere between $40,126 and $441,450—all of whom currently pay an even 15 percent on capital gains—would see their burden rise to either 22, 24, or 32 percent. Anyone earning fewer than $40,000 per year and therefore paying 0 percent on capital gains would instead fork over either 10 or 12 percent. The minute share of Americans whose capital gains rates would actually decline in this scenario are those earning between $40,001 and $40,126: their now-15 percent capital gains burden would drop to 12 percent.


It’s worth reviewing those numbers, first, since it shows that millionaires aren’t the only group of people who are taxed substantially higher on income than they are on capital gains. Most Americans—including those in the lowest income brackets—fall into that category.


In fact, the only reason the income-to-capital-gains tax ratio isn’t more equal between income groups is that millionaires’ income tax rates are so much higher to begin with.


Enough hypothetical hand-waving, though. The second reason it’s important to consider how such a tax adjustment would affect all income groups is because is because it will affect all income groups—and ultimately, it will most harm those at the very bottom of the pool.


As we’re told time and again, the majority of high-dollar investors are those who possess a high degree of net worth to begin with. They’re likely either corporations (which pay a 21 percent corporate tax on all profits, rather than being taxed for capital gains separately) or the very wealthy individuals targeted under President Biden’s plan. While many Democrats, including the President, have recently proposed raising the corporate tax rate as well, such petitions are (comparatively) modest, calling for the current corporate tax rate to increase from 21 to 28 percent.


In other words, if both proposals succeed, the corporate tax burden would increase by 33 percent of its present level, whereas the individual tax burden would increase by 98 percent.


In other words, the left will be skimming fewer dollars, on net, from their much-maligned corporate bogeyman—which will consequently become an even more powerful player in our supposedly free market—than they will from individual seven-figure earners.


When major investors’ capital gains tax rates go up, people are deterred from investing. By “people,” I don’t necessarily mean the big spenders. Inhibiting anyone from any amount of access to the market puts a dent in market signals; and even a slight amount of draw-down from high-dollar investors sends a major signal that deters small-dollar investors—who have less to lose—significantly more than it does the “whales”.


This is why, when it comes to regulation, the goal should never be to keep people out of the market, but to allow more ease of access in. No one loses when corporations and millionaires invest high amounts as long as everyone is able to participate. The more money that major players put in, the more lucrative the market looks—and the more others want to participate, contributing to greater equity—yes, equity—in exchange.


When major players draw down their assets, on the other hand (as they will do, and have already begun to do, since Biden began advertising his tax agenda), moderate and minor players are deterred from investing. When moderate and minor players are deterred from investing, the markets dry up, become less diverse, and are increasingly whetted by (and for the benefit of) titan incumbents. When the markets dry up and become less diverse, businesses—especially smaller, newer competitors—lose money. When businesses lose money, innovation plummets and workers are laid off. When workers are laid off, greater numbers turn to government welfare and social services programs for support. When greater numbers require greater support from government social services programs…


…Tax rates go up.


We should not expect President Biden’s tax agenda to excise higher sums from the top income-earners alone. Sooner rather than later, we can expect his agenda to increase indebtedness for all Americans.