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Report Points Out Differing US Tax Rates On Capital

by Mike Godfrey,, Washington

30 December 2014

Following the release of a Congressional Budget Office (CBO) report outlining the federal tax treatment of capital income, outgoing United States Senate Finance Committee Chairman Ron Wyden (D – Oregon) said tax reform must end "the antiquated and distorted tax treatment of various capital investments across the economy."

Wyden commented that the tax code has "an especially harmful impact on investment decisions, which today are swayed by tax advantage as much as what's a good investment that will grow the economy and create jobs. The report from CBO illustrates just how dramatic these distortions truly are."

The CBO noted that "current law produces significant variations in the taxation of capital income from different investments, thus leading investors to require higher before-tax rates of return on some investments than on others. Those differences reduce economic efficiency – the extent to which resources are allocated to maximize before-tax value."

The CBO commented, for example, that the effective marginal tax rate (ETR) on capital income is, on average, 18 percent; but the ETR on capital income generated by businesses is, on average, 29 percent.

It pointed out that, while the rent paid to a property owner is subject to income taxes, the income "generated" by owner-occupied housing is not; and that the profits of pass-through business are taxed only under the individual income tax, whereas the profits of C corporations are taxed under the corporate income tax and, to some extent, under the individual income tax (through shareholders' dividends).

It was also concluded that, as the rules governing the taxation of investments have not been updated since 1986, they "do not reflect the structure of the US economy, new technologies or even whole new industries. The tax code should not encourage investment in certain industries or products over others, which slows down economic growth."

The CBO added that there are significant variations in "the ETRs for various industries arising from differences in the eligibility for and use of the deduction for domestic production activities, and in industry-specific rules for depreciation." It calculated, for example, that ETRs range from 12 percent (for railroad track) to 42 percent (for nuclear fuel).

It also found that the tax code disproportionately favors debt-financing over other sources, like equity, but Wyden warned that "accumulating more and more corporate debt drags on economic growth and could one day lead to another financial crisis."

TAGS: Finance | tax | investment | business | equity investment | corporation tax | tax rates | United States | tax reform | individual income tax | business investment

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