Be forewarned.  This entire post is just a rant.  It even delves into politics a bit.  You probably won't learn anything that helps your personal finances or investments here.

I'm getting sick of hearing stupid comments from people who have no idea how the tax code works.  Now I'm no CPA, but I have a reasonable understanding of our system, so hear me out.


Exhibit A: People complaining Mitt Romney doesn't pay enough taxes. 

The man paid $3.2 million in federal income taxes last year on an adjusted gross income of $20.9 Million, an effective tax rate of 15.3%.  $3.2 Million!  I paid $18K on what is a pretty average doctor salary.  Mitt Romney paid as much in taxes as 178 doctors!  Yet he is getting a lot of flak for his “low” tax rate, despite the fact that no one even remotely suggests he is cheating on his taxes.  He is just following the rules.

The comments I hear and read about this are idiotic.  One commenter on the website of a well-known business magazine says it's unfair that Mitt pays only 15.3% while “Joe American pays 45% of his income in taxes.”  Joe American, if you consider him a married father of two taking the standard deduction and earning the average American salary, doesn't pay federal taxes at all.  Zero.  Zip.  Nada.  Mitt Romney's effective tax rate is 15.3% higher than Joe American.  Not to mention his actual tax bill is $3.2 Million higher.  You think Mitt is getting $3.2 Million worth out of our military, roads, welfare programs, and national parks?  Hardly.  He's paying his own share, and the share of thousands of Joe Americans to boot.  How about a little gratitude people?  And we haven't even gotten to his charitable contributions yet.

Others suggest it is unfair that Mitt pays at the lower capital gains tax rates.  They point to the fact that Barack Obama in 2010 paid $454K on $1.73 Million income (26% effective rate) and New Gingrich paid $995K on $3.1 Million in income (32% effective rate).  There's a few things to remember before we criticize.

First, as the IRS looks at it, Mitt is retired and living off his retirement savings.  He doesn't have much earned income.  Obama and Gingrich are both still working.  (Incidentally, Mitt has been retired for some time.  He didn't even take his salary as governor of Massachussetts.  He's pretty much decided he's going to spend his retirement in politics instead of on a beach somewhere.)

Second, remember the reason capital gains tax rates are lower than earned income tax rates.  A good portion of capital gains is simply inflation.  If you buy a stock in 1990 and sell it in 2010 for twice the price, you have to pay tax on the entire increase, even though half of it is from inflation.  It doesn't make sense to pay a higher earned income tax rate on it.

Third, low capital gains rates encourage investing.  We keep the rate low to encourage people to invest their money, building our economy and our nation.  The higher that rate, the more likely someone is to spend their money instead of investing it, or at least not invest it in the most economically efficient way.

Fourth, what's your effective tax rate?  We already saw Joe American has an effective tax rate of 0%.  Mine was 8.3% this year, and none of that income was from capital gains.  I'm not in “the 1%” but I am in “the 5%.”  Mitt is paying at a rate twice as high as my rate (and far higher than most Americans.)

Now, don't get me wrong.  I don't think it's fair for hedge fund managers to be able to take their earned income as capital gains.  And I wouldn't even mind seeing capital gains rates go up (most Americans wouldn't pay them anyway since most of their investments are inside retirement accounts.)  But pretending Romney is paying at a lower rate than most Americans is just ridiculous.  Marginal tax rates are not effective tax rates.


Exhibit B: The Average American Pays a Higher Effective Tax Rate than ExxonMobil!

This one comes from an article on Think Progress. They suggest the average American has an effective tax rate of 20%, while Exxon is only paying 18%.  This fact, while probably true, is incredibly misleading.  As we saw above, if a doctor has an effective tax rate of 8%, most Americans are paying much less.  How can the average possibly be 20%?  It's because of the 1% of Americans such as Barack Obama and Newt Gingrich who are paying 26% or 32% on their income.  If they would have been transparent with their readers, they would have used the median effective tax rate, which is around 4% (down from 12% in 1980, by the way.)

Also consider that corporations aren't people.  The money earned by a corporation goes to its shareholder after taxes are paid at the corporate level.  So if the corporation pays tax at 18%, then gives the money to the shareholder as a dividend or a capital gain, the shareholder then pays another 15% on it.  33% seems like plenty of tax to pay on that income to me.


Exhibit C:  The “Temporary” Payroll Tax Cut

Last year Congress cut the employee portion of the payroll tax by 2% and now our elected representatives are spending way too much time arguing about whether to extend it or not.  This tax break effectively cut employed Americans' Social Security tax by 1/3.  They wanted us to spend more to stimulate the economy, and figured this was a good way to do it.  Democrats are trying to make political hay by painting Republicans as wanting to now “raise taxes on the little guy” (who never asked for this “temporary” tax break in the first place, since he prefers a robust Social Security program to an extra $35 in his paycheck every 2 weeks.)

But remember that this tax is supposed to pay for social security benefits for the elderly, so grandma doesn't have to eat Alpo.  We're supposedly very worried that this money is going to run out because people live too long thanks to safer cars, better nutrition, and improved medical care.  So what do we do?  We cut the tax that pays for it?!  We should be raising the tax (or at least decreasing the benefit), not cutting it if we want to save this justifiably popular program.  This is what happens when Democrats (who want to help the little guy) and Republicans (who want to cut any and all taxes) get together.  They cut one of our most sensible taxes and endanger one of our best-run government programs.  Idiots!


The Conclusion

I'm no extremist.  Our tax code is ridiculously complicated.  We need to make it fairer by eliminating many questionable deductions and irregularities.  We probably also need to raise taxes (on all of us, from the poor right on through to the 1%) since we've apparently decided we want to spend more money on public “goods” such as military invasions, increased welfare benefits, and interest on the public debt (although some believe we can eliminate the deficit and the debt just through spending cuts.)  What I'm positive we don't need, however, is the class warfare and politicizing of our tax system caused by ignorance, deliberately misleading statements, and idiotic Congressional actions.