The White House's new campaign banner/economic principle is the so-called "Buffett Rule," which holds that no millionaire should pay a lower effective tax rate than a typical middle class family. Sound sensible, yes? Of course it does. The tax code is progressive and purposefully so. Marginal income tax rates increase with income. The more you make, the greater share of income you pay. Disagreeing with this general principle puts you to the right of a typical Republican.
But the Buffett Rule wasn't meant to hold up to strict constructionism. "You cannot build a tax code on the principle that no millionaire, ever, should ever have an effective tax rate lower than their secretary," my Atlantic colleague Megan McArdle wrote this morning. Well, you could, she allows, but you'd have to give the IRS extralegal responsibilities to seize rich people's income beyond what they owe.
To understand why, consider the 76 million people who don't legally owe individual income taxes in 2011 (please, please note: does not include payroll, excise, state and local taxes). The vast majority of this group was poor. They didn't owe individual income taxes because they didn't owe a lot of money to start, and various exemptions, like the earned income tax credit, wiped out the rest.
But among families making more than $100,000, there were also half a million tax units -- enough to replace the population of Tucson, Arizona -- that also paid no income tax. Even more surprising, 7,000 millionaires also paid no individual income tax.
Let's focus on these 7,000 tax payers. I think they help to show why, even if the Buffett Rule is a sensible principle, it wouldn't be a commonsense law.
As Roberton Williams of the Tax Policy Center explained to me, there are three buckets of factors that can bring taxable income down from $1 million to zero. One is tax tricks. The IRS should crack down more. Two is relying heavily on investments. The administration can try to level taxes for earned income and investment income. Third is great misfortunes. When investments lose significant income, a house or business is destroyed (i.e. a casualty loss), or a family member gets sick and incurs high medical costs for the self-insured, all these things chop away at taxable income and eventually bring a millionaire's income taxes to zero.
"You can attribute some of those 7,000 non-tax payers to investment choices they made, like tax exempt bonds," Williams told me, "but a lot of this might be unfortunate happenstance. A tornado tore through your home, you got a very expensive form of cancer, you lost hundreds of thousands of dollars in an investment. Those aren't choices people made, they're just legal deductions under the law."
The fact that 7,000 millionaires didn't pay income tax in 2011 is a Rorschach test for the Buffett Rule. Are you outraged by the figure? Then you probably think the rule should be enshrined into law. But if you see the figure as an artifact of a complicated tax code doing its best to account for a varied and complicated country of 150 million tax units, you might not be so outraged. We can, and we should, raise taxes on millions of more Americans, and we should start with the rich, because they can afford to pay sooner. But it's best to see the Buffett Rule as a political tool designed to drive a wedge between the White House and Republicans who have written off tax increases forever.
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