State tax codes are heavily slanted toward the rich, as we’ve highlighted before. At the federal level, huge tax expenditures also make the tax code friendlier to the wealthiest Americans. The United States spends more than $1.3 trillion a year on tax expenditures, and while some of them help the middle class, many of them are aimed specifically at the wealthy, who receive an extra $250,000 a year in income thanks to tax breaks. Here are five ways the tax code benefits the wealthy:
1. Deductions: The majority of tax breaks come through deductions, and while several deductions have substantial benefits for working class Americans, the advantages for the wealthy are much larger. Because of the way they are structured, popular deductions like those for mortgage interest, retirement savings, and charitable giving provide far bigger benefits for the wealthy than they do for average Americans, creating an “upside-down” effect that gives the biggest tax breaks to those who need them least and making the tax code look “more progressive than it actually is.” President Obama has proposed capping individual deductions at 28 percent, meaning the wealthy would get the same benefit as taxpayers in the middle class tax bracket. Other proposals, such as converting all deductions to tax credits, would make the tax code even more fair for middle- and lower-class families.
2. Capital gains: The capital gains preference taxes income from investments at a lower rate than ordinary wage income, providing a huge tax break to investors. Republicans argue that the low capital gains rate boosts the economy, but there is little evidence that higher capital gains rates hurt the economy. Instead, the preference increases income inequality, since capital gains income is earned almost solely by the wealthy. Cuts to the capital gains rate since Ronald Reagan equalized it with tax rates on normal income, in fact, are “by far the largest contributor” to increased income inequality over the last three decades, according to recent studies.
3. Carried interest: The carried interest loophole, which President Obama closes in his recent budget proposal, benefits wealthy hedge fund managers who take their pay from investors’ profits instead of through management fees, which makes the income subject to the lower capital gains rate than ordinary income rates. The loophole applies to virtually no one, but it allows those who use it — wealthy hedge fund managers and private equity executives like Mitt Romney — to substantially lower their tax rates. Eliminating it would both make the tax code more equitable and save as much as $21 billion over 10 years.
4. Estate tax: The estate tax rose at the beginning of 2013, but the tax deal that helped avert the “fiscal cliff” also locked in huge exemptions for the wealthy. The estate tax now allows individuals to exempt up to $5.25 million from taxation, meaning heirs to a couple’s estate can inherit $10.5 million without paying taxes. The estate tax now applies to only the wealthiest 0.14 percent of Americans, and from the income that is passed down each year (almost entirely from wealthy families), it raises less than 1 percent of revenue.
5. Deductions for vacation homes: The mortgage interest tax deduction, aimed at promoting home ownership, allows homeowners to deduct interest paid on their second home as well. That obviously benefits the wealthy, since they are more likely to have second homes, but it gets worse: the deduction can also apply to large yachts that have sleeping spaces, giving a tax break to wealthy boat owners. This loophole alone costs the U.S. an estimated $10 billion each decade.