Obama's New Investment Tax

Obama's New Investment Tax
A sneaky Medicare levy on dividends and capital gains.

Originally Posted At The Wall Street Journal
February 24, 2010

The White House's new health-care proposal promises the "largest middle class tax cut for health care in history," which is a creative way of describing a vast taxpayer-subsidized insurance entitlement. Naturally, the fine print goes on to describe one of the largest tax increases for health care in history, too.

This new ObamaCare bargain would for the first time apply the 2.9% Medicare payroll tax to "interest, dividends, annuities, royalties and rents," so-called passive income that we are told includes capital gains, though the latter wasn't explicitly mentioned in the proposal. This antigrowth investment tax would apply to singles earning more than $200,000 and joint filers over $250,000 and comes on top of the Senate's 0.9-percentage-point increase in the payroll tax, which would bring the combined employee-employer share to 3.8%.

The rate hike on investment income would presumably take effect at the same time the 2001 and 2003 Bush tax cuts are due to expire next year, bringing the top rate to 22.9% as the current top capital gains rate would also rise to 20% from 15%. That's a 52% jump, and the last time investors were slammed with anything comparable was 1986 when the capital gains rate bounced to 28% from 20%—or a 40% increase—as part of the Reagan tax reform that reduced income tax rates.

In part this is a sneaky way of waging the House's war on "the rich" by other means while appearing to compromise. Speaker Nancy Pelosi's 5.4-percentage-point "surcharge" on modified adjusted gross income above $1 million—which also includes capital gains—was supposedly too extreme for the Senate, but the White House is trying to smuggle in its 2.9-percentage-point cousin. Of course, $250,000 is a lot lower income threshold than $1 million, and the rate can always be inched up later once the tax is already in place.

The House surcharge is certainly destructive but it is at least above-board. The White House levy muddies up both the tax code and Medicare financing.

The Medicare payroll levy was designed as a social insurance program with some connection, however attenuated, between taxes paid and benefits received. When Medicare passed in 1965 it was modelled after Social Security and the tax was supposed to be equivalent to a "premium" for guaranteed health-care insurance for seniors; everyone "contributed" at the same rate. Until 1993, the payroll tax was assessed only on the first $135,000 of wages, until the Clinton Administration and the Democratic Congress lifted the Medicare cap entirely.

The Clinton move was bad enough but Mr. Obama's plan fundamentally changes the nature of the government's health-care financing. Medicare's liabilities mean that it must receive injections of general revenue, but never before have Medicare's own "dedicated" revenues been siphoned off to fund another entitlement. Essentially, it turns Medicare financing into a wealth transfer program at a stroke.

This will be sold in the name of "fairness," if anyone else in the press corps notices, but the worst implications are economic. The 0.9% increase is another tax on job creation, though Democrats claim they want more jobs. The devious 2.9% hike on investment income will raise the cost of capital, though Democrats claim to want more capital investment. Sometimes we wonder if Democrats even listen to their own rhetoric, or if they assume voters are too dumb to notice their contradictions.

If Americans need another reason to oppose ObamaCare, or more evidence of its destructiveness, here it is.

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