Buffett Rule Facts and Fictions

On Monday, the President proposed the Buffett Rule as one of five principles for comprehensive tax reform. This is a rule of simple fairness—no household making over $1 million annually should pay less in federal taxes than middle-class families pay. Contrary to some misconceptions, the Buffett Rule is not designed as the sole or main source of raising new revenues, but one of five principles that should be achieved by tax reform:

1. Cut rates
2. Cut inefficient and unfair tax breaks
3. Cut the deficit by $1.5 trillion over 10 years
4. Increase investment and growth in the United States 
5. Observe the “Buffett rule.”

Of these principles — all of which we believe are key to reform — the Buffett rule has received the most attention. It has been attacked with claims of “class warfare” that are completely without merit. How can it be class warfare to ensure that there is greater parity between the taxes paid by the most well-off and those paid by tens of millions of hardworking families? Still, since not all of the reports about the Buffett Rule have been accurate, I want to clarify what we mean – and why the President believes this is an important principle.So let’s look at what this rule is and is not:

Claim: This rule would raise taxes while the economy is weak.  

Fact: The President’s plan does not raise anyone’s taxes in 2011 or 2012. The President believes that the most well-off Americans should contribute to deficit reduction by paying more, but under the President’s plan, all measures to raise additional revenue — including fundamental tax reform — are effective starting in 2013. 

In fact, the American Jobs Act calls for $245 billion in immediate tax relief, providing a tax cut for both workers and small businesses in 2012 by cutting the payroll taxes that both pay. This builds on the President’s record of cutting taxes for the middle class and small business.  

Claim: This is a tax hike on job creators and small businesses.  

Fact: This is wrong for three reasons. First, this rule applies only to those making over $1 million—or about 3 out of every 1,000 Americans, according to IRS data.  It does not even apply to the other 997, including the more than 99 percent of small business owners who make less than $1 million (per Tax Policy Center data). 

Second, even among the three out of every 1,000 who make more than $1 million, it affects only those within that group that pay at low rates. Some millionaires pay near the top marginal rate of 35 percent—higher than middle class families.  In fact, many — if not most — of the few true small business owners making over $1 million already pay ordinary income tax rates (and not the preferential rates) and thus would not be impacted at all by the Buffett Rule.

Finally, the President’s American Jobs Act is focusing on tax cuts for small businesses that support hiring and investing — by cutting their payroll taxes in half, providing a full payroll tax holiday for increased hiring and wages, and extending 100 percent expensing on new investments. And that comes on top of 17 small business tax cuts the President has already signed into law, like the elimination of capital gains taxes on key small business investments.

Claim: The average taxes paid by millionaires is high enough to make the Buffett Rule unnecessary.

Fact: This is misguided on several grounds. Millionaires faced an average income tax rate of only 24 percent as of 2009 according to IRS data (and payroll taxes should add very little to that—in the range of 1 to 1.5 percentage points). 

However, the Buffett Rule is not about all taxpayers or even the average taxpayer making over $1 million. Instead, it is about those who are able to pay lower taxes than middle-class families.

Take IRS data on the taxes paid by the 400 highest-income households in 2008, all making over $110 million per year and making an average of $271 million per year. Some of those 400 taxpayers do pay their fair share, but according to that data, one-third of this group pays less than 15 percent of their income in taxes and 85 percent pays less than 30 percent.  

Indeed, a full 22,000 households making more than $1 million annually paid less than 15 percent of their income in taxes in 2009, according to  analysis of the IRS 2009 Statistics of Income file by the Treasury Department’s Office of Tax Analysis. And 165,000 households making over $1 million paid less than 30 percent of their income in taxes. 

Second, even looking at averages provides strong evidence of how unfair our tax code has become. That same IRS data shows that the average income tax rate for the most well off 400 earners was only 18.1 percent in 2008 and 16.6 percent in 2007. (This does not count the impact of the payroll tax, which is trivial for these taxpayers since only a tiny fraction of their income is subject to the payroll tax).  These exceptionally low effective tax rates paid by the most well-off do violate the Buffett Rule because they are lower, and at times significantly so, than the amount some middle-class families may pay in income and payroll taxes.  For example:  

• A single, self-employed business owner earns $70,000.  In income and payroll taxes, this middle class business owner pays about 28 percent of income in taxes. That’s 50 percent higher rate than the average tax rate on the top 400.  
• And, at the margin, a middle-class family can pay 15 percent, 25 percent or 28 percent of what they earn in income taxes — plus additional payroll taxes on top of that. That’s far higher than the less than 15 percent of income in federal taxes that some of the most well-off Americans pay. Does it seem right that an American who makes over $110 million pays an effective tax rate of about 18 percent, but if they had a fire at their house, those who would be risking their lives to put the fire out, could be seeing far more taken out of their every additional dollar earned while they are risking their lives?  
• For example, a nurse makes an average wage for her occupation of $68,000 and has one child. When she chooses to work overtime, her additional earnings are taxed at 25 percent by the income tax. And payroll taxes add even more.

Claim: This is a new tax rate on millionaires. 

Fact: This is not a new tax rate on millionaires; instead the rule should be incorporated as part of fundamental tax reform that lowers overall rates. Currently, the highest-income Americans pay far less than the top marginal tax rate. Therefore, reform that meets the Buffett Rule should focus on limiting the degree to which the most well-off can take advantage of tax expenditures and preferences. 

Claim: This is a broad-based tax on investors.  

Fact: Not at all. The vast majority of investors in the U.S. will be unaffected by this rule. This rule applies to only three out of every 1,000 Americans.  And, as noted, it would actually affect even less than that since some of these wealthy Americans already pay near the top marginal rate. Currently, for example, there is a preferential rate for capital income which many people making over $1 million take advantage of on a portion of their income without violating the Buffett Rule.