people who don't understand taxes

Viva the Dumb Rich

Depressed businessman doing taxes.
I just dont … get it. Photo: Eric Hood

Throughout this so-called “fiscal cliff” debate, the American public has been treated to a parade of Very Important Businesspeople doling out advice. Some of those VIBs are hyper-informed and lucid on all manner of fiscal and tax issues. And some … are not.

In today’s New York Times story on the steps rich people are taking to insulate themselves from the effect of post–New Year tax hikes, we get a healthy dose of the second kind of VIB, and a very strong indication that wealth and brainpower aren’t necessarily correlated one-to-one.

The premise of the Times article is that, filled with fear about looming tax hikes and/or the tax-raising effects of the fiscal cliff, investors are pulling their money out of the market in droves, trying to book all of their income at lower 2012 tax levels instead of waiting for 2013.

That’s an anticipated consequence of tax hikes — if investors see them coming, they will always try to arbitrage the tax laws so as to maximize their profits. That strategy is so common that it even has a name: “tax gain harvesting.”

What’s missing among many investors is even a basic awareness of how to work the system to their advantage. Take this guy:

John Moorin, the founder of a medical equipment company near Indianapolis, said he sold about $650,000 in dividend-paying stocks like McDonald’s and Coca-Cola a few days after the election, worried about the potential increase in taxes.

I love these companies, but I’m so scared that now all of the sudden I’m going to get taxed at such a rate with them that they won’t be worth anything,” Mr. Moorin said.

Anyone with any financial know-how — and you’d hope a guy with $650,000 to invest in large-cap equities alone would have some know-how — would tell you that this is an idiotic idea. Even if Congress were to pass a 100 percent dividend tax, which would never happen (the highest proposed rates out there are around 40 percent), there is no possible way Moorin’s stocks “won’t be worth anything,” unless the companies themselves go out of business. (Now, they might be worth less after a dividend tax hike, but that’s hardly a reason to panic and sell everything.)

Then there’s this:

Kristina Collins, a chiropractor in McLean, Va., said she and her husband planned to closely monitor the business income from their joint practice to avoid crossing the income threshold for higher taxes outlined by President Obama on earnings above $200,000 for individuals and $250,000 for couples.

Ms. Collins said she felt torn by being near the cutoff line and disappointed that federal tax policy was providing a disincentive to keep expanding a business she founded in 1998.

If we’re really close and it’s near the end-year, maybe we’ll just close down for a while and go on vacation,” she said.

As Chait, Matt Yglesias, and many other financially literate journalists have been pointing out for years, this is simply not how our tax system works.

If tax rates on couples making more than $250,000 rise next year, that does not mean that Kristina Collins has to keep her income below $250,000 or else pay a much higher tax rate on everything she made. Our system of marginal tax rates means that only the portion of her family’s income that is above $250,000 will be taxed at the new rate. (Meaning, that, if she and her husband make $251,000 next year, only $1,000 of that will be taxed at the new rate.) There’s no magical threshold that, once you cross it, automatically raises your overall tax rate — and thus, no incentive for Collins and her husband to close up shop to avoid crossing over.

That Collins and many other people don’t understand marginal income tax rates is understandable. (Even some senators don’t get it!)

But the fact that these rich (and almost-rich) people not only feel confident enough in their wrong-headed assessments of the tax consequences of President Obama’s economic policies to rejigger their personal finances, but to give quotes to the New York Times about how they’re rejiggering their personal finances, is truly unbelievable. And it means that one-percenters, those Makers and Job Creators nonpareil, can be just as dumb as the rest of us.