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Not all millionaires are equal.
There are millionaires who earn their income like most of us -- in salaries. And then there are the millionaires Warren Buffett wrote about in his famous op-ed column for the New York Times asking the federal government to "Stop Coddling the Super-Rich." They earn their living as hedge fund managers or through investments and enjoy a lower tax rate.
President Barack Obama blurred the distinction in his recent speech on the economy, calling out things that he said "shouldn't happen."
Middle-class families shouldn’t pay higher taxes than millionaires and billionaires. That’s pretty straightforward. It’s hard to argue against that. Warren Buffett’s secretary shouldn’t pay a higher tax rate than Warren Buffett. There is no justification for it. It is wrong that in the United States of America, a teacher or a nurse or a construction worker who earns $50,000 should pay higher tax rates than somebody pulling in $50 million. Anybody who says we can’t change the tax code to correct that, anyone who has signed some pledge to protect every single tax loophole so long as they live, they should be called out. They should have to defend that unfairness -- explain why somebody who's making $50 million a year in the financial markets should be paying 15 percent on their taxes, when a teacher making $50,000 a year is paying a higher rate.
That prompted a torrent of e-mails from readers asking whether it is true that secretaries pay more in taxes than millionaires.
We understand their confusion. But for starters, Obama didn't say that secretaries pay higher taxes than millionaires, although he left that impression. He said that they shouldn't and he focused on tax rates, rather than taxes. Those are important distinctions for reasons we'll explain.
As a policy, we don't do Truth-O-Meter items on "shoulds" or "shouldn'ts." Those are opinions, not facts. When Obama says that middle income earners shouldn't pay higher tax rates than the extremely wealthy, he is invoking the idea at the heart of the progressive U.S. income tax system, which has long charged higher rates the more that people earn. Obama said that changes to the tax code should include ways to make sure that the very wealthy don't escape paying higher rates.
Buffett vs. his secretary
We fact-checked Warren Buffett's statements about taxes in the New York Times. Buffett said that his taxes amounted to "only 17.4 percent of my taxable income — and that’s actually a lower percentage than was paid by any of the other 20 people in our office. Their tax burdens ranged from 33 percent to 41 percent and averaged 36 percent." Individual tax filings are private, so there was no way we could compare Buffett's actual tax return with that of his secretary and other co-workers. (We contacted his office when we did the fact-check and didn't hear back.) So instead, we checked Buffett's statement that the "mega-rich" pay about 15 percent in taxes, while the middle class "fall into the 15 percent and 25 percent income tax brackets, and then are hit with heavy payroll taxes to boot." We rated the statement True.
Here's how it's possible that Buffett paid a lower tax rate than his employees. Basically, most of Buffett's income comes from capital gains and dividends, income from investments he makes with the money he already has. Income earned by buying and selling stocks or from stock dividends is generally taxed at 15 percent, the rate for long-term capital gains and qualified dividends.
Buffett also mentioned that some of the "mega-rich" are hedge fund managers "who earn billions from our daily labors but are allowed to classify our income as 'carried interest,' thereby getting a bargain 15 percent tax rate."
We don't know the taxes paid by Buffett's secretary, who was mentioned by Obama but not by Buffett. Buffet's secretary would have to make a high salary, or else typical deductions (such as the child tax credit) would offset taxes owed. Let's say the secretary is a particularly well-compensated executive assistant, making adjusted income more than $83,600 in income. (Yes, that sounds like a lot to us, too, but remember: We're talking about the secretary to one of the richest people in the world.) In that case, marginal tax rates of 28 percent would apply. Then, there would be payroll taxes of 6.25 percent on the first $106,800, money that goes to Social Security, and another 1.45 percent on all income, which goes to Medicare. The secretary’s overall tax rate would be lower than 28 percent, since not all the income would be taxed at that rate, only the income above $83,600.
Buffett, meanwhile, would pay very little, if anything, in payroll taxes. In the New York Times op-ed, Buffett said he paid 17.4 percent in taxes. Thinking of the secretary, it gets a little complicated, given how the tax brackets work, but basically, people who make between $100,000 and $200,000 are paying around 20 percent in federal taxes, including payroll and income taxes, according to an analysis from the nonpartisan Tax Policy Center.
So in this case, the secretary's rate is higher because so much of Buffett's income comes from investments and is taxed at the lower capital gains rate.
Secretaries who pay no taxes
Now does a secretary usually pay higher tax rates than a millionaire? The answer to that question is definitely not.
Most secretaries don't make that much. Salary.com put the average salary for an entry-level secretary at $33,249. The top marginal rate for the secretary would be 15 percent, and then typical deductions and exemptions would reduce the tax burden even more. If the secretary had children and no other income, the likely income tax burden would be zero.
Which leads us to another fact-check of ours. We fact-checked Sen. John Cornyn, R-Texas, who said, "Fifty-one percent -- that is, a majority of American households -- paid no income tax in 2009." We rated that True.
So why do so few people pay income tax at all? The answer is because of the exemptions, deductions, and tax credits that are part of today's tax code.
The nonpartisan Tax Policy Center, a think tank devoted to examining and understanding tax policy, recently published a paper that analyzed tax data from the Internal Revenue Service to draw conclusions about why so many people don't owe income taxes.
According to the report, there are several groups that don't owe.
• Of all the people who don't owe income taxes, about half of them qualify for very basic exemptions for people with very low incomes. Standard deductions and exemptions for dependents send these people's overall tax burden to zero.
• The next largest groups of people who don't owe taxes are senior citizens, who get extra exemptions, and low-income working families with children, who get earned income tax credits and child tax credits.
• After that, some middle-income households don't owe taxes because of itemized deductions and credits for children and education.
• Finally, there a few high-income households that benefit from reduced tax rates on capital gains and dividends combined with itemized deductions.
The statement that about half of tax payers don't pay any income tax has become a popular talking point among those who don't want to see taxes for higher incomes increased. The statement is accurate.
The rich who pay the most taxes -- and the rich who don't
Here's another accurate statement: The wealthy pay most of the income taxes in the United States.
Let's say you're not a Warren Buffett-style investor. Let’s say you’re a millionaire CEO, being paid a regular salary. In that case, you're paying the top marginal rate -- currently, 35 percent -- on everything you make above $379,150. (Earnings below that level are taxed at a lower rate.)
Numbers from the nonpartisan Congressional Budget Office show that the wealthy pay most of the taxes in the United States. In 2007, the top 10 percent of tax payers accounted for 72.7 percent of all income taxes owed. That top 10 percent included people making adjusted income of $102,900 or higher. Keep in mind, that top 10 percent accounts for 42 percent of all income earned. They paid an average tax rate of 26.7 percent.
Still, that doesn't mean all the rich were on the hook for that much. Again, because of the lower rates paid on capital gains and dividends, some wealthy people paid much lower rates than others.
So, how many millionaires pay lower rates than a typical secretary? We were unable to find a way to quantify that.
"Within the wealthy, there is great diversity in how much of their money goes to taxes," said Roberton Williams, a senior fellow with the Tax Policy Center.
Still, the very wealthy are the most likely to reap the benefits of lower tax rates on capital gains and dividends.
"We estimate that nearly half of the benefits from the lower rates on gains and dividends goes to the top one-tenth of 1 percent of households," he said. That top one-tenth includes people with incomes of $2.3 million dollars a year or more.
Taxes and balancing the budget
We should note that there has been a robust and detailed debate for years on why the tax rates on capital gains and dividends should be lower, or why they should not.
Broadly speaking, those on the keep-them-low side say that the lower rates stimulate investment and therefore grow the economy. They also say that because corporations already pay taxes, dividends particularly should not also be taxed.
Those on the make-them-higher side say that the lower rates have become a tax loophole, and that wealthy people find ways to claim normal income under capital gains rates. (That's the hedge fund managers Obama mentioned who pay 15 percent on their income.) They also also say that with income inequality in the United States growing, lower rates that disproportionately benefit the wealthy are unfair.
As we noted at the outset of this report, Obama's comments rest on the assumption that people who make more should pay higher tax rates. Obama didn't outline a specific policy recommendation to make sure that wealthy tax payers pay higher rates. He suggested that some kind of policy should be implemented and talked about what tax policy "shouldn't" allow.
Finally, we spoke with the bipartisan Committee for a Responsible Federal Budget to see what they thought of the Buffett rule. Policy analyst Jason Peuquet said that a Buffett rule, combined with other aggressive tax increases on the wealthy, could raise substantial revenue for the federal government. But even the most aggressive tax increases on the wealthy would raise only $700 billion to $800 billion over 10 years, when the federal government needs to be considering deficit reduction of between $1.2 trillion and $4 trillion over that time period.
To achieve real savings, lawmakers need to look at tax code in its entirety, eliminating all sorts of loopholes and special exemptions, he said. And, they need to make reductions on the spending side, particularly on entitlement programs projected to expand due to an aging population.
"If we’re shooting for that level of savings, the Buffett rule could play a part, but it’s not going to be the whole solution," Peuquet said. "This could be part of the solution, but we need a comprehensive fiscal plan."
As we said at the outset, we don't get into questions of opinions such as whether secretaries should pay a higher tax rate than billionaire bosses. But that situation is possible under the current tax code, if an employee is sufficiently well paid and if the boss's income comes from stock market investments or managing a hedge fund.
Is it the norm? No. Millionaires who count on a salary pay higher taxes than those who draw most of their earnings from investment income. And most secretaries earn too little to pay such high rates.
See individual fact-checks for additional sources
Congressional Budget Office, Average federal taxes by income group, June 2010
Tax Policy Center, Why Some Tax Units Pay No Income Tax, July 27, 2011
Interview with Roberton Williams of the Tax Policy Center, Sept. 20, 2011
Interview with Jason Peuquet of Committee for a Responsible federal Budget, Sept. 21, 2011