California's Wealth Tax Notion Keeps Debate Boiling

Tom Burroughes Group Editor August 25, 2020

California's Wealth Tax Notion Keeps Debate Boiling

The idea has many critics, and governments in a raft of countries eventually killed it, but the notion of a wealth tax continues to stir the political pages in the US. California's proposal is an example. It also raises questions about the extent to which a state government can continue taxing people who have moved out.

The debate over whether to introduce a wealth tax in the US – or at least in some states with big fiscal problems – is unsurprisingly heating up in this election year. And at the moment California, home to Silicon Valley and Hollywood big money but with a lot of problems, is in the limelight. 

Democratic lawmakers in Sacramento have proposed to impose a 0.4 per cent wealth tax on Golden State residents worth more than $30 million. California State Assemblyman Rob Bonta was quoted as saying on Fox News last week that even people who have left the state could still be caught in the net.

Bonta is also quoted as saying that his idea would be to apply a "phased-in approach" to make sure California recoups its share of the income of a California resident who leaves. 

This comes on top of state legislators in Sacramento having introduced a new Assembly bill that would raise the state income tax on California’s highest earners from 13.3 per cent to 16.8 per cent. When adding in federal income taxes, California millionaires would face a top tax rate of 53.8 per cent. (Remember that in early 2017, the Trump administration enacted legislation limiting federal income tax deductions for state and local taxes, turning the screws on more Democrat-leaning coastal cities such as San Francisco and New York.) 

Considering that nearby Nevada, for example, does not even have a state income tax, moves to hit the wealthiest people in California might not seem very wise, and the ability of a state government to tax people who have left it might be legally challenged. That such proposals are on the table at all shows how a narrative around rising inequality – arguably now even more potent because of the pandemic and lockdowns – isn’t going away. 

We have carried several articles examining the problems of a wealth tax (see an example here). At root there are, so critics say, two main issues. First, it is plainly wrong to tax a person on wealth that was taxed during its creation (for example, an entrepreneur who builds a business would have had to pay a mass of taxes along the way). Often, it is often driven more by a confiscatory urge than fairness.

Wealth taxes are a direct assault on property rights, demanding that the individual pays the State a fee to enjoy the use of the wealth he or she owns. (It also creates a perverse incentive to liquidate wealth and spend it on hedonistic lifestyles, rather than protect it and put it to work.) Wealth taxes attack privacy - people must itemize everything they own. One can imagine how this is going to work.

Second, taxes on wealth – on capital and possessions – are destructive when that wealth is often invested. Taking capital from people who have built it and giving it to the State is seldom, as history shows, a smart move, even if governments are desperate for money, as they now are. Several countries such as Sweden – sometimes a poster child for social democracy in the past – got rid of wealth taxes because the damage done outweighed the revenue benefits. Other countries that eventually got rid of such taxes include Austria, Denmark, Finland, France, Germany, Iceland, Ireland, Italy, the Netherlands, and Luxembourg. 

It is unsurprising that free market advocates are critical of the idea. The Center for Freedom & Prosperity Foundation recently published a paper titled, The Economic Effects of Wealth Taxes. Authored by John Diamond and George Zodrow of Rice University, they argue that a wealth tax will damage the economy, cut GDP growth and reduce hours worked.

Wealth taxes may be unwise, but they’re unlikely to disappear from the agenda any time soon in these times. Beyond the simple desire to try and raise revenues, there is a political slant reflecting a dislike of great wealth almost for its own sake, a sentiment that has only become more intense since the financial crisis a decade ago. Stories about how Big Tech has boomed amid lockdowns, and how central bank quantitative easing has inflated asset values, mean that even some more sympathetic defenders of free enterprise might be tempted to give the idea a run. No wonder there is such a high demand for wealth planning, trust and estate structuring.

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