Tuesday, August 19, 2008

Obama’s Tax Proposals: Does He Really Mean it?

Obama advisers Jason Furman and Austan Goolsbee were in the news last week with some specifics of Senator Obama’s tax proposals, which are also posted on his web site. A great fear in Wall Street and among investors was that Obama would tax dividends and capital gains as ordinary income, up to 39.6% for upper-income families. To their relief, the top rate on dividends and capital gains will only rise to 20%, and apply to families with annual income over $250,000. Those with income below $250,000 will pay current rates. Obama will restore the 36%and 39.6% tax brackets that prevailed during the 1990s, but only on families making over $250,000 (individuals over $200,000). Obama’s estate tax would exempt $7 million per couple, and impose a 45% rate on the balance.

A second great fear is that Obama will impose a 12.4% surtax on Social Security payroll taxes on earned income exceeding $250,000. Under existing law, workers and employers together pay 12.4% on the first $102,000 of earned income. (Medicare payroll tax of 2.9% is not subject to an earnings cap.) Obama’s campaign remarks suggest a rate of 2-4% and that the surtax would not commence for ten years.

The additional revenue collected in these measures would be used to help fund tax credits for middle-class households, a zero capital gains rate for small business and start-ups, a permanent research and development credit, zero tax on seniors making less than $50,000, and several other measures. Obama also pledges to close loopholes and go after tax havens.

Two issues arise in Obama’s proposals. First is the taxation of interest income as ordinary income. Many economists attribute the large budget and trade deficits in the U.S. to its low savings rate. Wouldn’t it make sense to tax interest at the same lower rate as dividends and capital gains, thereby increasing the incentive to save?

The second issue is trustworthiness. If Obama is elected president, will he keep to the proposals articulated by Furman and Goolsbee and posted on his web site? Or, will he flip-flop to higher tax rates? This is the $64,000 question.

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