The Ethics of Taxation Trilogy: Part II – The Buffett Rule and The Ethics of a Millionaire’s Tax

What are the economic and ethical implications of a federally imposed tax on those making more than $1,000,000 annually? The answer comes in four parts. The first outlines specifics of the controversial millionaire’s tax, recently proposed by President Obama. The second part discusses the economic ramifications of the proposed millionaire’s tax. The third part  views the ethics of the proposed millionaire’s tax. The fourth part suggests a policy based on Aristotle’s principle of the Golden Mean.

Part 1: “The Buffett Rule”

In September, 2011, President Obama announced a proposal which claimed that by 2013, a federal “millionaire’s tax” would be implemented. Instantly this proposal drew support from lower and middle class Americans, but it also drew harsh opposition from higher income Americans, and more importantly, from Republicans. Obama’s proposal, which he now refers to as the “Buffett Rule”, arose in part because of an opinion piece in the New York Times by famed investor and well-known billionaire Warren Buffett. In his statement, Buffett claimed that in 2010 he paid an effective tax rate of 17.4%, while many others who worked in his office, most notably his secretary, paid tax rates between 33% and 41%.[1] The reason for this, Buffett claims, is because investment gains are taxed at lower rates than wages, especially if the investment has been held for more than one year.

The proposed millionaire’s tax is just one of several potential changes which President Obama is encouraging to improve the federal tax code in order to raise revenues, reduce the budget deficit, and make the tax system simpler and more just. Essentially, the “Buffett Rule” forces people who earn $1,000,000 or more per year, in wages and investments, to pay at least 30% of their income in federal taxes. That being said, if you do not make $1,000,000 per year, then the “Buffett Rule” has no effect on you, for your tax rate remains the same.

Part 2: Economic Ramifications

The proposed “Buffett Rule” is a polarizing proposal. Each side of the debate gives impassioned economic arguments to support or oppose the tax. The following is a summary of the arguments from proponents and opponents to the millionaire’s tax:

Proponents:

• The Buffett Rule is a step towards economic equality
• It makes sure the rich do their fair part in bringing down the deficit
• It only effects roughly 0.3% of tax filers (about 400,000 people) but raises $460.5 billion in the next ten years[2]
• A proposed millionaire’s tax is in accord with a progressive tax structure (see Inheritance Tax article for more info on progressive tax structure), such as the one currently in place in the U.S.
• When Warren Buffett admits to paying a lower tax rate than his secretary, and doing so legally, something must be done.
• The tax causes the least amount of financial stress to the least amount of people

Opponents:

• The Buffett Rule gives high earners less incentive to save and/or invest
• Critics (specifically The Joint Committee on Taxation) claim the Buffett Rule is not expected to bring the deficit down very much
• The Buffett Rule is not indexed for inflation, and so it will apply to more tax payers over time as inflation begins to affect levels of income
  • The Tax Policy Center claims that by 2019, the number of taxpayers subjected to the Buffett Rule will double
  • The tax is a burden on small businesses; they will be unwilling to hire new employees, and reluctant to keep current employees
  • When you raise taxes, the economy shrinks[3]
  • The tax ultimately leads to a decrease in jobs in the U.S.

Part 3: Ethical Analysis

Much like the economic implications a “Millionaire’s Tax”, the ethical implications also are debatable and rather complex. With a plethora of pros and cons, the consequentialist (See consequentialism ) framework serves as the best ethical theory to use in this case.

According to the moral theory of consequentialism, the moral standing of an action depends solely on the consequences of that action. Neither the circumstances surrounding the act, nor the fundamental nature of the act itself have any moral significance. The most notable form of consequentialism is classical utilitarianism (See utilitarianism ) and this method is used here to analyze the  ethics of a proposed millionaire’s tax.

According to classical utilitarianism, right moral behavior is that which maximizes ‘utility’ and minimizes harm for the largest segment of people. In other words, the goal of classical utilitarianism is to maximize the overall good, while minimizing the overall harms caused by a particular action. Thus, classical utilitarianism takes into equal account the effect an action will have on a particular person or group of persons. No one person’s utility matters more than any one else’s. Furthermore, classical utilitarianism is marked with the trait of ‘agent-neutrality’, which means the value of my reason to promote the good is the same as anybody else. The value comes, not from consequences of an action which affect one personally, but rather from the consequences of an action which positively affects the greatest number of people.

Before analyzing the utilitarian ethics of a millionaire’s tax, two issues become apparent. First, under the classical utilitarian framework, taxation in general is seen as an ethical practice of the state. Taxation allows for departments such education, health care, justice, not only to exist, but for goods and services, both material and non-material, to be produced in each of these departments. Second, and this applies directly to the U.S., under a classical utilitarian framework, a progressive system of taxation is justified. This is the case for two reasons: first, those who earn lower incomes generally spend much of their earnings on basic necessities such as food and shelter, whereas those with higher incomes generally need not worry about basic necessities, and instead spend much of their earnings on luxuries, and other items lower income individuals are unable to afford. A progressive system of taxation holds these higher income earners accountable for the luxuries and expensive items they purchase. Lower income earners are accountable for paying a portion of taxes, but at a level that will not impede their spending capacity for basic necessities. A second way of justifying progressive taxation is summed up by a quote from Adam Smith in his Wealth of Nations, when he states, “The subjects of every state ought to contribute towards the support of the government, as nearly as possible, in proportion to their respective abilities; that is, in proportion to the revenue which they respectively enjoy under the protection of the state.”[4] In other words, those who earn more ought to pay more.

The ethics of a proposed millionaire’s tax using classical utilitarianism, presents us with a list of arguments that justify or vilify the tax. The tax is ethical when we consider the funds raised from a millionaire’s tax may either reduce the deficit, or benefit departments such as education or health care. The tax will be reducing the utility of some (the millionaires). However, the tax will increase the utility of a greater number of people (those who benefit from deficit reduction or government programs). Another argument in favor of a millionaire’s tax is rather than viewing the goal of a tax on millionaires as decreasing the utility of some, we should view it as establishing an equal sense of utility for all. As ex-President Bill Clinton stated, “Taxing the rich is not anti-wealth, it’s pro-fairness.”[5] Third, the numbers support the (good) ethics of a millionaire’s tax. According to a survey by The Spectrum Group, Washington’s Premier Consulting Firm for Federal Business Success, a total of 68% of millionaires are in favor of a tax increase on those earning more than $1,000,000 annually. If 68% of millionaires are in favor or such a tax, the utilitarian calculation shifts more towards greater utility for greater numbers. By utilitarian standards the tax becomes ethically justifiable.

On the other hand, arguments claiming that a tax specifically on millionaires is unethical look to the negative aspects of its economic ramifications. If a millionaire’s tax truly reduces jobs and investment in the domestic sphere, then the tax is unethical on classical utilitarian standards, because more harm than good results from the tax. A second ethical argument against the tax is given by John Rawls in his Theory of Justice. Rawls states, “That social inequalities should be arranged so that the greatest benefit is gained by the people with the fewest advantages. However, an unequal system might actually benefit the disadvantaged more.”[6] In other words, taxing only a handful of rich people in order to address our fiscal problems may seem unfair but is actually beneficial to the disadvantaged (because there will be more jobs and economic growth).

Part 4: Conclusion

The “Buffett Rule” has a plethora of pros and cons, both ethical and economic, which require analysis before such a policy is put into effect. On the one hand, the “Buffett Rule” is an economically advantageous tax because the tax has a positive impact on a greater number of people compared to the negative impact on a small number of people. In this case, the “Buffett Rule”, based on consequentialist and classic utilitarian standards, is an ethical form of taxation. Ethical in the sense that it benefits a greater amount of people in ways such as health care, education, and a reduced deficit, than it is expected to harm.

On the other hand, a case exists which portrays the “Buffett Rule” as an economic mistake, a disincentive to investment that ultimately results in a reduction in the total number of American jobs. In this case, the “Buffett Rule” fails on consequentialist and classic utilitarian standards, and thus is an unethical tax. Unethical in the sense the “Buffett Rule” causes more harm to more people in the form of reduced incomes, reduced investment, reduced jobs, and reduced growth in the American economy.

When examining the economic and ethical implications of a federally imposed millionaire’s tax, two considerations become clear. First, the utilitarian ethics of the tax is dependent on the empirical economic data on the effects of such a tax. If the data suggest that high taxes for the wealthy discourages investment and reduces economic growth, then the tax is unethical. However, if the data indicate that a millionaire’s tax reduces government deficits, which in turn reduces interest rates and leads to higher economic growth, then the tax is ethical. Second, the empirical evidence on the effects of a millionaire’s tax surely is dependent on the tax rate imposed on earnings above $1m. A rate between 30% and 40% on incomes above $1m may cause little harm to the economy. However, a high rate of say, 75% may indeed lead to sluggish economic growth. Aristotle’s Golden Mean between excessive rates and deficient rates of taxation on the wealthy may perhaps be the prudent economic and ethical answer to taxing million dollar incomes.