Obama's Most Dangerous Tax Hike: Savings and Investments

Posted: Dec 01, 2012 6:19 PM
President Obama proposed tax hike contains a lot to dislike, but what hasn't gotten much attention is the tax hike on savings and investments. While the marginal income tax rate will rise from 35% to 39.6% for top income-earners and small business owners, the proposed tax hike on capital gains and dividends could cause the most long-term economic damage.

That's not to downplay the rise in marginal rates. It could cost hundreds of thousands of jobs over the next few years. More universally acknowledged by economists, however, is the economic harm that savings and investment taxes do. In the Tax Foundation's analysis of President Obama's tax proposals, they found that the capital gains and dividends tax hikes will be almost five times as harmful in the long-run.

What President Obama's proposal does is treat dividends income as ordinary income for the upper-income tax rates. That means that we'd see a tax hike from 15% to 39.6% on dividends. Additionally, the capital-gains tax rate would increase from 15% to 20%.

Considering the pure size of the dividend tax hike, it might be most harmful. President Obama's former economic advisor Larry Summers, along with James Poterba, pioneered important research in the 1980s suggesting that dividend taxes constitute a form of a double-tax on corporations - one of the most harmful kinds of taxes that a government can levy.

We find that the traditional view that dividend taxes constitute a "double-tax" on corporate capital income is most consistent with our empirical evidence. Our results suggest that dividend taxes reduce corporate investment and exacerbate distortions in the intersectoral and intertemporal allocation of capital.

The coming hike in marginal income tax rates would certainly do some damage. Taxes on savings and investments, however, have the potential to do the most harm to the economy out of all the planned tax hikes.