Just Taxes Blog by ITEP

America’s Richest Would Finally Pay Taxes on Most of Their Income Under Wyden’s Billionaires Income Tax

America’s Richest Would Finally Pay Taxes on Most of Their Income Under Wyden’s Billionaires Income Tax

October 27, 2021

Steve Wamhoff
Steve Wamhoff
Director of Federal Tax Policy

The Billionaires Income Tax released today by Sen. Ron Wyden, chairman of the Senate Finance Committee, would ensure that the very richest Americans pay personal income taxes on all of their income each year, just as the rest of us already do.

Wyden’s proposal would remove a long-standing tax break that has allowed the wealthiest Americans to avoid paying personal income taxes on much of their income. This tax break, which is sometimes called the realization principle, is the idea that an increase in the value of your assets is not income until you sell your assets and collect a profit, which tax lawyers call a “realized” capital gain. As applied to most Americans, the realization principle makes sense. But the situation is very different for wealthy Americans who can arrange their affairs so that most of their income is unrealized capital gains that go untaxed, sometimes indefinitely.

A recent ProPublica exposé revealed how America’s wealthiest benefit from this tax break. For example, Jeff Bezos’s assets appreciated by $99 billion over five years. During that period, he reported income of just $4.2 billion to the IRS and paid nearly $1 billion in federal income taxes. This may seem like a lot, but an economist would say that Bezos’s real income included his unrealized capital gains (meaning his asset appreciation) and therefore exceeded $100 billion over that five-year period ($99 billion plus $4.2 billion). The income tax he paid during those years, then, was only 1 percent of his total income.

Under current rules, Bezos would not report his capital gains as income until he sells his assets and “realizes” those gains. If he holds onto his assets for the rest of his life and passes them to his heirs, those unrealized gains are exempt forever, meaning the tax code forgets that income existed.

As we explained previously, Sen. Wyden’s bill is one of several recent proposals to reform how we tax capital gains. Most congressional Democrats and the president support raising the personal income tax rate on realized capital gains, which currently is much lower than the rate for other types of income. But there may not be a majority of Senators to support that, and in any event that reform would not address the fact that unrealized gains are not taxed at all under current law.

President Biden also proposed taxing unrealized gains of wealthy taxpayers when they die and pass their assets to their heirs, which would ensure that they pay personal income taxes on all their income eventually. Sen. Wyden’s proposal goes further because it would include unrealized capital gains of the wealthiest Americans as part of their income for tax purposes each year.

This is sometimes called “mark-to-market” taxation. Technically, under the bill, true mark-to-market taxation would only apply to publicly traded assets like corporate stocks because it is easy to determine how their value changes each year. For other assets like pass-through businesses and real estate, affected taxpayers would still be allowed to defer paying income tax on the capital gains until they sell the asset, but the tax they pay at that point would be increased to remove the benefit of that deferral.

This proposal would not solve all the problems in our tax code related to capital gains. It would only apply to those with assets exceeding $1 billion or income exceeding $100 million, which Wyden estimates to include only 700 taxpayers. The proposal ought to apply to a much broader group of wealthy people.

Sen. Wyden should be sure to structure the final legislative language to defend against claims that the provision violates the constitution – claims that are not valid but that could nonetheless find a receptive audience before the Republican-appointed Supreme Court justices with extreme views. There are also questions about whether the other personal income tax reforms in the final Build Back Better bill will raise enough revenue and bring real fairness to our tax system. For all of these reasons, the Billionaires Income Tax should be one of many reforms of the personal income tax included in the final bill.

But the Billionaires Income Tax would, nonetheless, be a huge step forward and address a fundamental problem that would not be resolved by the previous version of the Build Back Better bill, which was approved by the House Ways and Means Committee. While the Ways and Means bill includes many helpful tax reforms, people like Jeff Bezos and Elon Musk would still pay an effective tax rate of zero percent on most of their income if it was enacted without this change. Sen. Wyden’s proposal would finally end this injustice.

See the previous post from ITEP explaining how the Billionaires Income Tax fits into the debate over how to tax capital gains.