Thursday, January 3, 2013

Fiscal cliff video

I did a "Chicago tonight" segment on the fiscal cliff,

The other guest, Carl Tannenbaum, is a good friend as well as a thoughtful economist. We went to high school together. It was a pleasant surprise to run in to him in the foyer of WTTW's studios.

The intro segment is worth watching too. "Chicago tonight's" producers wisely got a real tax lawyer to explain what the "cliff" is all about.

How nice to start with a quick review of strategies that "the rich" will use to avoid the new taxes.

One year from now, the studies will start rolling in (I hope) documenting how much extra revenue the fiscal cliff tax hikes actually collected from their targets. My bet: less than half of the $60 billion advertised. I'll be surprised if it's positive, actually.

Who won the fiscal cliff negotiations? Democrats? Republicans? VP Joe Biden? No. Tax lawyers, accountants, and lobbyists.

In case you think any of this had to do with deficits, I sign off today with a lovely graph from a great piece by Yuval Levin:

And it will be less than that. Yuval uses the CBO forecasts, which assume rich people don't watch "Chicago tonight" and talk to their tax lawyers.


  1. I find it interesting that the tax lawyer did not mention a single specific tax avoidance strategy.

    What are some of these tax avoidance strategies that do not involve making significant economic tradeoffs ? e.g. you can hold off on selling your winners to not pay capital gains, but that comes with a cost

    1. Methinks is correct.

      Further, tax avoidance comes in legal strategies and illegal tax avoidance strategies e.g. under reporting or non-reporting.

      One of the better examples of projected tax revenue and actual tax revenue collected via income tax increases occurred during the FDR regime. FDR and congress kept raising marginal rates yet couldn’t generate any substantial increases in revenue. Why? Tax avoidance galore. FDR would complain to Treasury Secretary Morgenthau that people were using….wait for it…."loopholes". Morgenthau told FDR there were no such things as tax loopholes rather that the tax code called for particular procedures and the tax procedures/preferences were totally legal. FDR complained to Morgenthau that people should pay ….wait for it…"pay their fair share". Sound familiar??

      What never seems to be discussed is that FDR, given income tax receipts being sub-par compared to projections, decided to use excise tax to generate revenue. Excise tax on a wide array of everyday items such as cigarettes, gasoline and even movie theater tickets. Yes, everyone paid regardless of FDR’s ….wait for it…."class warfare rhetoric" and blaming the rich for the country’s ills. Every year of the New Deal excise tax was the largest portion of federal government revenue, not income tax.

  2. Tax avoidance strategies are specific to the individuals and their circumstances. Do you run your own business? Is it portable? Can you move it to the USVI and take advantage of the 90% break on federal taxes? Can you take advantage of the mixed straddle? Have you considered municipal bonds? Can you work a lot less, enjoy a lot more leisure time and still scrape by on $2 Million annually rather than $3 million?

    There's another way to think about it: taxes reduce the return on work and investment. However, if I can produce the same income more cheaply and/or with less capital, then I may be able to effectively offset the additional tax.

    In short, "vee have vays".

    Every benefit has a cost. That's the way the world works. The only question is if the benefit is worth the cost and when taxes rise, more of avoidance strategies move into the "worth it" category.

  3. Why is it a good thing that the two sides reached a compromise?

  4. The US government spend $1 trillion a year on just three agencies: Defense, the VA and Homeland Security (and a mysterious something called Defense-Civil).

    That's about $3,000 for every man, woman and child in the USA, or about $12k taken off the dining table when an average family sits down for dinner--for just these three agencies.

    And next year, another $1 trillion.

    At various times, the Cato Institute has called for cutting such outlays in half; Romney once suggested privatizing the VA, and giving veterans vouchers. Good ideas, would save $500 billion a year.

    Federal Employment By Agency

    Defense 772,601
    VA 304,665
    Homeland Security 183,455
    Justice 117,916
    Treasury 110,099
    USDA 106,867
    Interior 70,231
    H&HS 69,839
    Transportation 57,972
    Commerce 56,856
    State 39,016
    Labor 17,592
    HUD 9585
    Education 4452

    Curiously, there is little emphasis on cutting agency spending in most right-wing circles (Ron Paul is the exception). They talk about cutting entitlements.

    Yet, the bulk of entitlements have been self-financing through payroll taxes, and indeed for many years Social Security was overfunded to build up a reserve.

    Agency spending has been funded by borrowing ever since Ronald Reagan (with a brief respite dug in the Clinton years).

    So we have run up $10 trillion in debts (excluding inter-agency debt) by borrowing to finance agency outlays.

    But entitlements are the problem?

  5. The Extra 2 to 5% in taxes will not slow down the economy in and of themselves and will generate a little extra revenue. That is not the important part. The important tax to me is the 25% increase in dividend taxation. That is a direct tax on capital and will cause less investment in the United states.

    There is no way around this. Taxes on capital are a bad idea.

  6. Ok, so nobody has been able to identify a single specific loophole ( legal one ) so far. Clearly, 99.9 of rich people are not going to move to Virgin Islands, if they haven't done so already for the 90% break on taxes

    John's point is we have plenty of legal loopholes in our tax code and closing them and simplifying our tax code will generate economic growth, according to John. I would like to hear some specific loophole that kick in at these extra tax rates we just passed Clearly, illegal tax evasion is an option for people, but that is not what we are talking about here

    1. Just Google "tax loopholes".

      For a full compendium of tax loopholes, please read General Electric's last tax return. I think they used all of them.

  7. Kyle,

    Don't forget the additional 3.8% Oblundercare tax and the 5% point long-term cap gain increase. If you don't think this income tax rate will slow the economy, don't worry. Oblamebush will keep going until he makes Francois Hollande look like Ronald Reagan.


    I don't know what you find confusing about the method of avoidance depending on the individual's circumstances. A really great method of avoidance is to simply work less. Not every dollar is worth making and if you make a lot of money already, the after-tax pay for the incremental consulting gig may not be worth the time away from your kids. If you're that desperate to find specific loopholes, go look up the tax code yourself. What's with the demand to be spoonfed information?

    I realize that people who are desperate to soak the rich will sing these lullabies to themselves about their victims' inability to escape the burdens the less accomplished dearly wish to impose on them. However, theft has never really been a reliable method of enriching oneself and the rich didn't get rich by being dumb enough to allow people to rob them.

    1. Methinks: people certainly could choose to work less, though I can't imagine that happening over a tax increase from 35 to 40 percent. ( I am in the right bracket and work with other people like that ). But this is not what this conversation is about. It's about loopholes that supposedly exist that could allow you to keep working and avoid paying extra taxes, legally. I don't know of any such loopholes, but John claims and the tax lawyer in the video also claims they exist. I would like to see one example.

    2. "....but John claims and the tax lawyer in the video also claims they exist. I would like to see one example."

      Yeah, they must be lying to you. I provided you with a few holes in the cheese I care about and pointed out the inanity of the question. You choose to ignore. Fine. Either pay a tax attorney to find out which ones you can take advantage of or use Google.

    3. municipal bonds are not a loophole. they are an investment strategy which did very poorly in 2008

      moving to US Virgin islands is not relevant because those who could have done that already have done that before and it's also not free - I mean you have to live in bumble fuck nowhere

      mixed straddle is not applicable to an overwhelming majority of rich people. How exactly does that work ?

      what else? I consulted my accountant and he told me there are no loopholes that I could take advantage of WITHOUT incurring significant downside in some other way

    4. I know it seems like a massive imposition to spend the winter bathed in warm sunshine and the beauty of the Caribbean Sea (you are only required to spend 183 days there) in order to save millions in taxes, but I happen to know the lawyer who aids entry into the USVI EDC is swamped.

      municipal bonds are not a loophole. they are an investment strategy which did very poorly in 2008.

      Riiight. Most of the holes are "investment strategies". And now you want them risk free as well? My, you're demanding.

      Oh well, that's unfortunate for you. I'm guessing you're an employee and that leaves you with few options. I guess your lobby....oh wait, you don't have a lobby. That's where you made your mistake.

  8. Professor Cochrane:

    Great job! Thanks so much for your sensible insights, and keep the faith! Sooner or later people will see the Krugman's of the world as the rainbow/unicorn dream warriors they really are. The fairy tales will be set aside, hopefully sooner rather than later.

    Great work!...mrb

  9. I thought both economists did a good job. John, you did make one mistake that I'm sure was not intentional. You indicated that the prior guest, a Mr. Michi, indicated ways in which he could help people "evade" taxes imposed by the new law. You surely know the difference between "evade" and "avoid" and intended the latter?

    That said, the tax lawyer made a number of mistakes.

    -- He explained that the new thresholds for the tax rates ($450 and $400K) applied to "taxable income". He then went on to explain, incorrectly and rather unhelpfully, that "taxable income"is income before certain deductions, like itemized deductions. He confused adjusted gross income with taxable income and apparently was confused by the special rules applicable to calculation of the ObamaCare Medicare surcharge on investment income which relates to "Modified Adjusted Gross Income";

    --He explained that after the taxpayers earning income above those thresholds will be subject to a marginal rate of 39.6 percent on ordinary income. Wrong. The new marginal federal tax rate will be 41.95 percent on ordinary income (with the 0.9 percent ObamaCare surcharge and 1.45 normal employee Medicare levy) and, I figure, as high as 45.75 percent with the 3.8 percent surcharge on investment income within a certain bubble range. The threshold on the investment income is $250/$200K (adjusted for inflation) as determined by "modified adjusted gross income" with the tax imposed on the lesser of MAGI amount over $200/250K and net investment income.

    --He tried to explain that Buffett's primary source of income was from capital gains and that his rate would go up if he earned more than $400 or $450 *million* of such income. When thinking of Buffett, one tends to think big numbers, but, as far as I know, the same threshold applies to him (unless he's cut a special deal);

    At that point, I stopped keeping score. Explaining complicated stuff live on TV is hard. That's one of the reasons one should never take advice from a TV interview seriously.

  10. Dear Prof. Cochrane, what would be your comment on the "worst case scenario" since now the government is shut down?


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