Copyright 2011 by John T. Reed

Warren Buffett is very popular and very respected. He should be far less of each and his New York Times op-ed on 8/15/11 is more evidence of that.

Did you know he was the biggest shareholder of Moody's bond rating service when it was rating subprime garbage AAA?

Buffett, who famously bragged he only bought stocks he understood, pleaded ignorance in the Moody's subprime behavior. "I don't even know where their office is," he protested.

I repeat he was their biggest shareholder. Buffett is not a passive investor. He often manages the companies he invests in. How could he or anyone else involved in the management of a bond rating agency be respected after the events of 2000-2007?

But I digress. He periodically says the rich should be taxed more.

Easy for him to say. He would not notice if they were.

Disingenuous and illogical

But his argument is disingenuous at best and illogical.

In the NY Times, he said the super rich were not asked to share sacrifice. Bullshit! They pay far more than their share of taxes and the bottom 49% of Americans pay no income tax at all other than Social Security.

Do you favor a draft, Warren?

He said the poor and middle class are fighting for us in Afghanistan.

Oh, really? And why is that Warren?

It's because we ended the draft in 1971. I have an article that says the draft should be reinstated.

If it were, some of Buffett's younger relatives would be fighting in Afghanistan. They can also volunteer.

Will you be stating publicly that you agree with me that the draft should be reinstated, Warren? I didn't think so. It would not make you popular with the masses which seems to be your motive for these periodic "raise taxes on the rich" announcements.

Speaking as an editor, what the hell does Afghanistan have to do with the super rich paying more taxes? Nothing. That was nothing but a cheap shot to help prop up an argument that makes no sense.

'Extraordinary tax breaks'

Buffett says he and his super rich friends get extraordinary tax breaks. That's a lie.

I dare him to list the sections of the Internal Revenue Code that he is talking about. There are no extraordinary tax breaks for the super rich. People have been saying that there are for my entire life. They do not exist. I am the author of the book Aggressive Tax Avoidance for Real Estate Investors, now in its 19th edition. As the title suggests, I am an expert in identifying such tax breaks.

They do not exist.

Carried interest

One he lists is "carried interest." That is not an extraordinary tax break for the rich. It says that many of the profits made by hedge funds are taxed at long-term capital gains rates. Those are typically 15%. Ordinary income tax rates, at the top rate, are about 35%. But ordinary income and long-term capital gains have definitions. When you buy something and hold it for more than a year and sell it for a profit, it is a long-term capital gain. Ordinary income is defined as salary type income or current income from being self-employed.

Hedge fund managers and guys like Buffett have many such profits on stuff they acquired more than a year ago.

But it's not an extraordinary tax break for the rich. It also applies to Joe Schmoe selling his home or his index fund for a profit.

One could argue about what percent of a hedge fund manager's compensation is payment for his personal services during the year and what percent is long-term capital gain. But Buffett is essentially saying that there is nothing in a hedge fund manager's income that warrants any long-term capital gains definition at all. That's bullshit.

He mentions tax rates on tax rates on stock index futures being 15% on short-term gains. I am not familiar with that, but if it's anything like the carried-interest rule, Buffet is probably leaving out some pertinent facts there, too.

17.4% tax rate

Buffett says his tax rate for 2010 was 17.4% and isn't that horrible?


He had an accountant. He complied with the law. What's the problem? He says most of his income was long-term capital gains. Well, that would explain his relatively low tax rate. As I said above, the rate on long-term capital gains is 15%. If his income fit that definition, I wonder how his rate got up to 17.4%.

He says his secretary's tax rate was higher than his.

Of course. She probably gets relatively little of her income from long-term capital gain. And she is probably in the top tax bracket. She's Warren Buffett' secretary. If he paid her in stock options, I suspect she would have more long-term capital gains income and her tax rate would go down same as Buffett's. The law taxes Buffett's income exactly the same as his secretary's. They simply have a different mix of types of income. The difference in rates comes from the mix, not "extraordinary tax breaks for the super rich."

No effect on investment behavior?

Buffett mocks the idea that wealthy people make investment decisions based on pertinent tax rates. he said,

According to a theory I sometimes hear, I should have thrown a fit and refused to invest because of the elevated tax rates on capital gains and dividends. I have worked with investors for 60 years and I have yet to see anyone — not even when capital gains rates were 39.9 percent in 1976-77 — shy away from a sensible investment because of the tax rate on the potential gain.

I do not remember the "thrown a fit" part. But his statement that investors do not shy away from investments because of the tax rate on capital gains is simply a lie. A “sensible invesment” is less sensible if its after-tax return isi lowered than before it was lowered. Duh.

Here is Warren himself talking out the other side of his demagogue mouth in his annual letter for shareholders for FY2011 (italic emphasis are his own):

"Investing is often described as the process of laying out money now in the expectation of receiving more money in the future. At Berkshire we take a more demanding approach, defining investing as the transfer to others of purchasing power now with the reasoned expectation of receiving more purchasing power – after taxes have been paid on nominal gains – in the future. More succinctly, investing is forgoing consumption now in order to have the ability to consume more at a later date."

When there is a significant difference between the after-tax and before-tax returns on any investment, you take it into account when comparing alternative investments. When the Tax Reform Act of 1986 was passed, I calculated that it dropped the value of income properties around the nation by 25% overnight. I later saw other experts quoted as having come up with the same 25% figure. Calculating the effect on asset values of changes in pertinent tax rates is an arithmetic exercise, not a matter of expert subjective opinion as Buffett implies.

Corporate executives have often said that when the tax rate on dividends is high, the investors ask them to stop paying dividends and use the money to raise the stock price. That would make the gains long-term capital gains taxed at 15%, not at the sometimes higher dividend rate.

The so-called Laffer Curve has on occasion been proven true especially with regard to capital gains tax rates. Investors whose assets have gone up in value often wait until a long-term capital gains tax rates decrease to sell. Thus the media reports that when rates were cut, tax revenues actually increased. When there are pent-up capital gains, that is exactly correct. At present, it might not work very well because there are not many gains lying around. Also, with Obama, he no sooner signs a tax decrease than he starts threatening a tax rate increase, thereby nullifying any possible increase in economic activity.

Corporations have in-house and out-house accountants and tax lawyers who constantly calculate the after-tax income of their employer and instantly recommend changes when the after-tax income could be improved by moving to a different state or country. When California imposed an inventory tax, zillions of warehouses were suddenly built in Nevada and Arizona so California sellers of goods could keep their products out of the state of California until the last minute. California has lost many a business in recent years because of overly high taxes. The companies in question moved to lower tax rates states or states with no income taxes like Texas.

New Hampshire has no sales tax. It borders Taxachusetts. Along the border of New Hampshire, on the New Hampshire side, are many shopping centers whose parking lots are full of cars with Massachusetts license plates—and Massachusetts state troopers copying down the MA license numbers.

Saying tax rates do not affect behavior is total bullshit.

Abolish the income tax

I favor abolishing the income tax. Under my head tax, Buffett and his secretary would pay the exact same amount over the course of their lives. And the U.S. would collect the same amount of tax revenue as last year. No one would have any tax breaks at all. There would be no deductions, no tax-free income, nothing. Everybody just pays a fee for living in the U.S.

With the head tax, there would be no tax rates, no breaks, no different types of income, and no tax whatsoever on any kind of income. That is as it should be. Success should not be a crime for which you have to pay taxes. Existence is not either, but we do have to chip in to pay for the military, the State Department, and the federal justice system.

If Warren wants his secretary to pay the same as him, he should support my head tax. But I expect he will not support it because he is trying to pander to the masses to be popular with them.

Payroll taxes

Buffet said the rich paid "practically nothing in payroll taxes." That's false. They pay the same as everyone else and they usually pay the max. Payroll taxes are for Social Security and Medicare. Those are spoken of as contributions that you get back. Buffet and the average Joe pay in a certain amount with a limit and they get out the same amount. If you make the rich pay higher Social Security and Medicare taxes, you need to give them back more when they retire. In that case, the raise in payroll taxes on the rich would be a wash giving no more net money to the government. But you won't. You want them to pay more for the same Social Security and Medicare benefits?That's not fair.

What's stopping you, Warren?

Buffett and anyone else could just pay extra money to the IRS. They will accept it. He does not. Instead he gives lots of money to charities, mostly those run by Bill Gates. Why?

Because Buffett knows that government sucks and that charities, while not so hot at competence themselves, are more efficient than government. Yet he keeps pleading for us taxpayers to pay more to the government.

Buffett wants the top three tenths of one percent (people who make more than $1 million a year) to have their tax rates increased.

He admits that would change nothing regarding the deficit. It is too small of an amount of additional tax revenue. As I stated in an earlier article, if you confiscated all the income of those who make more than $200,000 a year, it would only be $221 billion against a deficit of $1.6 trillion and a debt of $15 trillion.

So why even mention it? It makes Warren popular with the masses. Gets him a little favorable publicity.

He also put down Republicans for resisting raising the debt ceiling. But he admits that the solution to the government finance problem is cuts in entitlements. Only he soft peddles it somehow making it seem like the Republicans are not any more for that than the Democrats. He compared the deficit hawks to teenagers who play chicken and throw their steering wheel out of the window before they accelerate at the other driver.

Buffett needs to decide whether he want to make an intelligent contribution to the deficit situation discussion or not. All he offered today in the Times was amateur demagoguery about a merely symbolic amount of incremental tax revenue.

John T. Reed

I appreciate informed, well-thought-out constructive criticism and suggestions. If there are any errors or omissions in my facts or logic, please tell me about them. If you are correct, I will fix the item in question. If you wish, I will give you credit. Where appropriate, I will apologize for the error. To date, I have been surprised at how few such corrections I have had to make.