Gustavo Ballvé on August 18th, 2011
Food for thought, Home, Investment Themes, Mental models, Portfolio Management, Signal or Noise

Buffett’s recent article on taxing the rich has many interesting ramifications. The obvious one is analyzing the merit of his ideas. Another is studying the media reaction. Surely Buffett is a wonderful investor and his writing style is so clear and down to earth that one can’t help but pay attention to it. That doesn’t mean that his arguments on tax have to be taken without criticism. And yet the political climate in the US is so stormy that we must highlight the articles blasting Buffett’s ideas (after our comments).

Mr. Buffett’s main point is mathematically sound: the rich have access to federal tax breaks that allow for a lower effective tax rate. Amongst the many ways that can happen, one is having most of your net worth variation in the form of capital gains (as is Mr. Buffett’s case), which is taxed at a lower rate than that on income; another is having most of one’s income accounted for as “carried interest” (as is the case of many money managers), again taxed at a lower rate. Buffett then argues for some form of taxation that levels the playing field between the “mega-rich” and the “middle-class”, whose wealth is much more dependent on the income.

Some of the criticism point to the fact that the Federal income tax is not a complete view of the picture, and have their own “sound” calculations that would say that the rich actually pay more than their “proportional” share of taxes. We are sure that the data can be arranged and re-arranged to fit anybody’s view, so let’s leave it at that. Another criticism is that even doubling the federal tax rate on the mega-rich would yield rather small revenues – US$ 20 billion maybe – compared to the roughly US$ 3 trillion deficit. Again: “sound”, but complicated. US$ 20 billion isn’t exactly “change” and several such opportunities – especially ones that apparently correct inefficiencies – may add to something. On the other hand, critics argue that dividend income, for instance, aren’t taxed at just 15% because that ignores the corporate tax rate already paid (35%).

Another point of contention: capital gains should deserve a lower tax rate because capital investment is usually the stuff of risk-taking production initiatives – income carries lower risk and no investment. Taken to the extreme, over-taxing investment may lead to money flowing elsewhere and depriving the US of needed funds to support future growth.

Other yet argue that Mr. Buffett may be missing is a more fundamental, “take-a-step-back” question: is increasing tax revenues the best idea, or is it reducing the size of the US government? That is a bit silly, since Buffett does comment on the unaffordable entitlements and the need to cut costs. That said, he dedicates two lines to cost-cutting and the whole rest to tax increases, so he appears to be more focused on the “increasing revenues” side of the budget-balancing equation.

The whole taxation issue is much more complicated than what both sides are trying to make it seem.

What should be extremely clear by now to Buysiders.com readers is this: How one assigns weights to the above arguments in deciding whether Buffett is “right” is not simply mathematical/ logical. It depends on one’s biases, experiences, political alignments and so on. In other words, beware the messenger, but most of all remember your own limitations.

Therefore, another way to look at it is this: Warren Buffett is a Democrat and, unsurprisingly, the support to his ideas came quick and strong from Democrats – Mr. Obama included – and most of his critics are Republicans or Republican-linked publications such as Fox News, Forbes, the Wall Street Journal and so on. The amount of love or hate to his ideas stem much more from one’s “incentive” structures, real or subjective, than to logic and reasoning.

That is no way to carry such a serious debate, much less invest.

LINKS:

LEX: Buffett’s misleading view on taxes – (subscription required) – quick summary of the criticisms above, minus the part on capital investment deserving lower rates.

Buffett’s remarks energize tax debate – FT.com – Great compendium of the debate on taxes.

Buffett and Schultz weigh in on deficit debate – FT.com – Links the Buffett tax article to the larger deficit debate and highlight’s Howard Schultz’s (Starbucks’ CEO) email to fellow business leaders asking them to refrain from all political donations until Congress solves the deficit.

How Buffett saves billions in his tax returns – Forbes.com – Aggressive personal attack on Buffett. For completion’s sake.

George Soros agrees with Buffett – Reuters – Unsurprisingly given Mr. Soros’ views on politics.

Buffett calls on Congress to raise taxes on the rich – NYT.com – Favorable to Buffett’s ideas, it reminds its Democrat readership that many of Buffett’s highlighted tax breaks came during George W. Bush’s administration.

Warren Buffett’s tax dodge – WSJ.com – Amazingly enough, and despite the article’s name, a “fair and balanced” look at Buffett’s arguments. That said, it does use Buffett’s charitable givings (and subsequent tax breaks, of course) as a way to add a personal attack.

Taxing Warren Buffett – LA Times – Also arguably on Buffett’s side, this article claims Buffett’s tax ideas seem like those of Ronald Reagan, a hero for conservatives.

Warren Buffett is wrong on taxes – WSJ.com – Another balanced WSJ piece arguing against Buffett’s ideas.

Tags: , , ,

Comments are closed.


Back to last page or go to the home page