By Cesar Conda | Washington Examiner
America’s economic prosperity is built on free-market capitalism that rewards work, saving, investment, and, most important of all, entrepreneurial risk-taking. Unfortunately, President Joe Biden’s plan to significantly raise taxes on capital gains, which are so often the reward for taking such risks, would undermine these pillars of economic growth and upward mobility.
Biden’s budget for the next fiscal year proposes an increase in the maximum capital gains tax to 45%, substantially higher than the current 20% level. If enacted, this would be the highest U.S. capital gains tax rate in more than 100 years.
Additionally, the combined federal-state capital gains tax would exceed 50% in many states, including California (59%), New Jersey (55%), Minnesota (54%), and New York (53%).
And if this were not enough, Biden is proposing a 25% tax on unrealized capital gains for upper-income earners — i.e., money they have not even made yet. Under the Biden plan, “households would owe taxes on capital gains each year, even if the underlying asset had not been sold, and amounts paid would be treated as prepayments of future capital gains tax liability,” according to the nonpartisan Tax Foundation.
Biden’s main argument for increasing the capital gains tax is that it would hold accountable high-earning “white” taxpayers who “disproportionately benefit” from lower capital gains taxes, according to an analysis released by the Treasury Department. This goes far beyond the traditional Democratic “soak the rich” rhetoric and absurdly injects racial politics into the debate.
Make no mistake: This punitive tax increase will lead to a flight of investment capital from the United States to other countries, less economic opportunity for Americans of every race, and, ultimately, less federal tax revenue — the opposite of its intended effect. Moreover, this economically dangerous concept of taxing unrealized capital gains will eventually extend to middle-class investors to finance deficit spending.
The best way for the federal government to foster innovation, economic growth, and U.S. global competitiveness is not to raise these rates but to stop taxing capital gains entirely. Republicans could gain the economic high ground by arguing that the best capital gains tax rate is not 45% or even 20%, but zero.
According to the Tax Foundation, our current maximum tax of over 27%, taken by averaging the combined federal-state capital gains rate, is 60% higher than the average in the Organization for Economic Cooperation and Development. Nine of the OECD countries don’t tax capital gains at all. Even China, which has become America’s major economic competitor, taxes capital gains at a much lower rate of 20%.
A high capital gains tax burdens our global competitiveness. First, it produces a “lock-in” effect, discouraging individual and corporate taxpayers from selling capital assets and realizing capital gains because of the high tax costs. This prevents hundreds of billions of dollars in capital from flowing to its most efficient and productive uses.
Second, the capital gains tax is a “double tax” that encourages firms to finance expansion by taking on more debt rather than selling capital and financial assets. With the capital gains tax in place, income is first taxed at the corporate level and then again at the individual level when shareholders sell their corporate stock. By contrast, because interest expenses are tax deductible, debt financing is taxed only once. So, businesses borrow against their existing assets instead of selling assets, which undermines the financial stability and flexibility of many companies.
The capital gains tax also impedes business creation and entrepreneurship. History shows that the amount of seed capital funding available to fledgling startups is highly sensitive to changes in the capital gains tax. For example, when the top capital gains tax was slashed from 49% in 1977 to 20% in 1983, the amount of venture capital funding for new firms increased from $68 million to $5.1 billion — a 700% increase. Conversely, when the capital gains rate was raised to 28%, venture capital funding fell by almost 60% (between 1986 and 1991).
Republicans must propose a bold policy agenda to boost economic opportunity, entrepreneurship, and competitiveness. Abolishing the capital gains tax is an idea that would appeal to hardworking, risk-taking taxpayers and investors while providing immediate economic benefits by boosting the stock market and unlocking billions of dollars of investment capital.
Cesar Conda is a former chief of staff to Sen. Marco Rubio (R-FL) and an economic advisory board member of the Committee to Unleash Prosperity.