Friday, January 27, 2012

Tax Rates

There has been a lot of buzz in recent days about Romney's 15% tax rate and Warren Buffett's secretary tax rate and how Buffett's 17% tax rate is less than hers.

Everytime I hear about the low tax rate of billionaire's I want to scream.

Let's make this clear, neither Romney nor Buffett has a 15-17% tax rate. They own businesses, the income of the businesses is theirs, the businesses pay tax at the corporate rate, which is one of the highest in the developed world (35% in the US), on that already taxed income they pay an additional 15% on dividends or capital gains they receive from those businesses.

A simple example:

Joe has a business structured as an LLC. The LLC earnings are $1M. These pass through to Joe as income on which he pays the top marginal tax rate of 35% over $379k. The total tax paid will be about $322k, leaving Joe with $688k.

Jack is a senior executive working for Zeta Industries. Jack's salary is $1m. He will pay the same taxes as Joe.

Jim owns 10% of public corporation Zeta Industries. Zeta earns $10m. %1m is Joes as a 10% owner. Zeta pays taxes on that $10m at the 35% corporate tax rate, leaving $6.5m. It pays it all out as dividends giving Jim $650,000. Jim then pays 15% dividend tax, leaving him $552k.

Joe's average tax rate is about 32%.
Jack's average tax rate is about 32%.
Jim's average tax rate is about 45%.

Mitt Romney and Warren Buffett are Jim. They do not have tax rates around 15%.

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