Understanding the American Tax Code #2

Income vs Capital Gains

“Just because you do not take an interest in politics doesn’t mean politics won’t take an interest in you.” – Pericles

In part one we discussed how America’s marginal tax code works, and the most common incorrect assumptions American’s make about the tax code. Check it out here if you missed it. Now that we understand basic income tax, let’s move on to Capital Gains and how wealthy people who understand the tax code can pay a smaller percentage of taxes than you and your plumber. 

For math’s sake let’s say you make $500,000 and Warren Buffett(can’t seem to stop using him) makes $500,000, he will pay a maximum of $100,000 in capital gains taxes while you will pay $149,457 in income taxes. Check out part one for this how to calculate this. 

Now let’s bring this down to reality, Warren Buffett can make that with one mouse click selling a stock. A doctor or surgeon might earn a large salary like that, but is still clocking in many hours of actual life saving work. 

How does this happen, why would a doctor have to pay more taxes than a stock trader? Capital Gains. Capital Gains are any profit made from the sale of an asset, like property, stocks and bonds. Side note: You probably noticed, your average working man or woman doesn’t have any of those. The extraordinarily wealthy do not earn income. They put all of their money into assets that rise in value, like land, and sell them later for more money and pay a lower tax rate. 

Wealthy people don’t make large salaries, they operate in the realm of assets and capital. They are paid in stock options. They buy and sell property, and when they die their fortune goes untaxed into the hands of their children, staying out of the system. 

How could this be? Well, wealthy individuals started lobbying to change the tax code and they succeeded with the Bush Tax cuts. It is really a brilliant strategy, they know the tax code is convoluted and hard to understand, a perfect place to change the laws for your benefit. We know today that companies like Intuit spend massive amounts of money lobbying to stop efforts to simplify the tax code. This forces people to file with TurboTax, they then criminally charge you to file taxes after committing to the government that the service is free. Do you ever wonder why ideas like Ted Cruz’s simple tax postcard don’t happen?