"Ask Robert" April 2011 - Answer
Thank you for everyone who posted questions for "Ask Robert". This week's question comes from Chris B., who asks:
Dear Robert, I'm a long time reader, first time poster. Recently read an article on Yahoo! ("Key from the speech: What's in Obama's deficit reduction plan?") where Obama claims to have a solid deficit reduction plan.
Among other ideas, his plan includes the following (paraphrased): An end to the Bush tax cuts for the 2 percent of Americans making $250,000 or more, and tax reform aimed at closing loopholes that favor the rich, allowing for a lowering of overall rates.
My question is this: What benefits and drawbacks do you notice in these allegedly planned changes?
Chris, I'm glad you asked this question. Coincidentally, we're finalizing the edits for my tax advisor Tom Wheelwright's first book under the Rich Dad series tentatively titled, Tax Free Wealth.
One of the reasons why I love Tom is because he has deep insights into the tax code and why it's structured the way it is. Through his research, Tom has discovered that the tax code of nearly every developed country is philosophically the same. Meaning, while the various laws and codes differ, the motive behind them is identical.
Simply put, the purpose of the tax code is to motivate people to do what the government wants them to do.
So, the reason real estate has such great tax benefits is because the government wants investors to build and maintain affordable housing. The reason why there are so many "loopholes" for the rich is because they encourage business spending and expansion, another thing the government wants.
In the end, Obama's plan to shore up the deficit shows a fundamental misunderstanding of how the tax code motivates people and the philosophy behind the tax code, not just in America but also in every other developed country.
As you point out, part of Obama's deficit reduction plan is to raise taxes on the "rich" and closing loopholes. The problem is that many people who make $250,000 or more per year are small business owners who rely on tax cuts to stay in business and provide jobs. And the "loopholes" he speaks of are actually incentives to motivate investors and businesses to do what the government wants such as spending on real estate and business investment.
To me, it doesn't make sense to penalize those who produce goods, build businesses, and provide jobs with higher taxes in the name of deficit reduction. And the implications could be massive if the proposed increases de-incentivize investors and businesses from expanding their holdings. In the end, it could be a case of robbing Peter to pay Paul. The increased government revenue could result in a lower GDP and downward pressure on the economy.
While lower taxes for the middle and lower class would be a nice gesture, the reality is that these are not the people who produce for our economy. And the limited spending savings in their taxes would produce not make up for the lost business and investing activities by the rich.
In the end, true deficit reduction will only come when the US government gets serious about our unfunded liabilities like Social Security and Medicare. Currently, there is no substantive proposal to address these coming financial catastrophes, which according to the National Center for Policy Analysis are project to consume the entire Federal budget by 2050.
In the end, all talk about deficit reduction that doesn't substantially address the looming financial crisis of unfunded liabilities is simply like putting a Band-Aid on a wound that requires stiches. True financial healing won't come until we suck it up and go through the painful process of true economic surgery.