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Warren’s Misguided Wealth Tax

Elizabeth Warren
Sen. Elizabeth Warren. Photo by Lorie Shaull.

As the Democratic hopefuls begin ramping up their respective presidential campaigns, we are bound to hear a lot of different policy proposals. Unfortunately, not all of them will be sound.

Sometimes, politicians raise ideas that would not actually advance their stated goals, although they play well with their voter bases. As I suggested in this space recently, lawmakers’ push to restrict stock buybacks may be just such an idea – one that is more useful for its backers to talk about than to actually achieve. Such ideas are often mercifully allowed to fade away as the national conversation moves forward.

I had hoped that a similar fate might befall Sen. Elizabeth Warren’s proposed annual “wealth tax.” But so far, at least, this particular misguided idea refuses to fade away.

The Massachusetts senator, who was one of the earliest Democrats to declare their presidential intentions, has proposed a 2 percent annual tax on household wealth greater than $50 million, and an additional 1 percent tax on wealth above $1 billion. Economists Emmanuel Saez and Gabriel Zucman, who analyzed the plan for Warren, projected that the tax would affect about 75,000 American households and raise $2.75 trillion over a ten-year period.

Warren told MSNBC, “When we’re only taxing income, we’re taxing two people who may have the same income but are in wildly different economic circumstances.”

The broad idea of taxing the very wealthy is an easy sell for many Americans, most of whom will never be directly affected by a tax like the one Warren describes. Based on early signs, it seems likely that Democrats will focus heavily on the issue of economic inequality in the 2020 presidential race. But as with any tax proposal, the details matter. Even if you agree that the government should be taxing affluent Americans more heavily than it currently does, Warren’s plan would necessarily create collateral consequences.

High-net-worth individuals often hold a variety of illiquid assets, including private businesses, farms, art or real estate. Many of these are difficult to value. A wealth tax would inevitably lead to frequent and messy valuation disputes, and valuation experts would necessarily become much more in-demand.

At Palisades Hudson, we currently have one Certified Valuation Analyst on our staff; another staff member is in the process of securing that credential. If Warren’s proposal passed, it is likely that all of our managers and executives would need to become valuation experts in order to offer our clients the best possible service. Our firm’s shift would be only one part of a much broader movement. Under Warren’s plan, taxpayers subject to the wealth tax and the government would have to calculate household assets’ value year in and year out.

Just as the federal estate and gift tax has given birth to an entire estate planning industry, the wealth tax would create a new ecosystem of experts to help affected Americans plan for the tax and to support their valuation claims when the government inevitably disputes taxpayer assessments. The new industry would represent a misallocation of resources for financial firms like ours, which could better spend their energy and skills elsewhere. This heavy administrative burden is, in part, why many European countries that once imposed wealth taxes have abandoned them.

There is, however, an even more serious problem created by the proposed wealth tax. Fundamentally, taxes incentivize or disincentivize particular behavior. For instance, smoking carries public health costs, so we levy extra taxes on tobacco products; on the other hand, Congress has decided that it wants to encourage philanthropy, so it allows taxpayers to deduct charitable contributions when preparing their income taxes.

Taxing accumulated wealth effectively provides a disincentive for Americans to earn, save and invest their money – all productive economic activities. If the government is going to tax accumulated wealth above $50 million, the incentive provided is to spend lavishly, give heavily to charity or other beneficiaries, or both. On an individual level, that may or may not sound bad to you. But collectively, if tax policy discourages capital from accumulating, living standards across the board may decline.

If we think about taxes in terms of how they relate to behavior, it makes much more sense to consider raising taxes on consumption, rather than income or wealth. Many American policymakers automatically balk at the idea of a value-added tax – usually abbreviated VAT – despite the fact that VATs are common elsewhere in the world. But discussions about the possibility of an American VAT predate the Great Recession, and many economists love the idea, especially in combination with lowering income or capital gains taxes. A federal sales tax would be a similar consumption-based option, though the details as to who owes tax and when might look slightly different.

It is far too early to guess whether some version of Warren’s plan could ever get close to reality. Even if Warren wins both the Democratic nomination and the subsequent 2020 presidential election, Congress does not have a track record of supporting wealth taxes of this kind, so there is no guarantee legislators would support her plan.

If such a law were passed, it would also certainly face court challenges. The Constitution specifies that “direct taxes” must be divided among the states by population, but Americans with a net worth of $50 million or more are not spread out evenly. The question would be whether the wealth tax would count as a “direct” tax, and opponents of Warren’s plan have already noted that precedents do not seem to lean in its favor. Some supporters, on the other hand, counter that an originalist reading would in fact permit the wealth tax. If the tax makes it into law, we will have to wait and see what the courts decide.

Yet I think it is more likely that this proposal will remain purely a feature of the campaign trail. Even in a year when “tax the rich” is a rallying cry for many voters, there are less complicated and fairer ways to go about it.

Vice President and Chief Investment Officer Paul Jacobs, of our Atlanta office, contributed several chapters to our firm’s book, Looking Ahead: Life, Family, Wealth and Business After 55, including Chapter 12, “Retirement Plans;” Chapter 15, “Investment Approaches and Philosophy;” and Chapter 19, “A Second Act: Starting a New Venture.”

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