By: Daniel Tenreiro – nationalreview.com – October 26, 2021

The last time the White House put Treasury secretary Janet Yellen in front of television cameras, she was tasked with defending a proposal to give the Internal Revenue Service cash-flow data on the bank accounts of virtually every American.

Asked about the scope of the reporting requirement, which would cover any account holding more than $600, Yellen said the low threshold would ensure that “individuals can’t game the system and have multiple accounts.” The prospect of a billionaire opening several thousand bank accounts to dodge taxes was ludicrous even to Yellen’s fellow Democrats. After the Treasury secretary’s less-than-stellar performance, Senate Democrats walked back the proposal, bringing the account threshold up to $10,000 and adding a number of exemptions.

Yellen has again returned to television, this time to defend the administration’s plan to tax unrealized capital gains. At present, asset owners pay taxes on capital gains at the time they sell their holdings, at a top marginal rate of 23.8 percent. If the asset has depreciated in value, the taxpayer can deduct the loss from income taxes in future years.

The White House plan would tax the capital gains of billionaires annually, irrespective of whether their assets have been sold. This idea, first proposed by Senator Ron Wyden (D., Ore.) in 2019, would be a logistical nightmare. For starters, the year-end cutoff for calculating capital gains would impose entirely arbitrary tax burdens. For instance, an investor holding $100 million in shares of movie-theater chain AMC at the start of 2020 would have seen his stake reduced to roughly $30 million by year-end. Assuming standard capital-gains deductions apply, that $70 million loss could be written off on future tax bills, but only in increments of $3,000 — meaning it would take 200 lifetimes to realize the deduction.

In 2021, this hypothetical $30 million stake would have grown to $540 million. Assuming AMC’s share price stays flat through December, the investor in question would owe more than $120 million under the proposal — for an effective tax rate close to 28 percent, well above the maximum statutory rate. If those shares depreciate in value next year, say, to $300 million, then the holder would have paid $120 million on a $200 million net gain.

Then there’s the issue of assessing the value of illiquid assets such as private equity and real estate. Although these assets appear to be exempt from the new tax, the IRS would have to assess their value to determine whether a taxpayer meets the “billionaire” threshold. Appraisal of non-tradable assets is subject to a web of convoluted rules, and annual appraisals would no doubt generate constant litigation.

And because illiquid assets are likely to be exempt from the new tax, wealthy taxpayers would be incentivized to shift wealth out of public markets and into private businesses, real estate, and art. Ironically, the “billionaire tax” would grow the stock of alternative assets — available only to wealthy, accredited investors — and reduce investment opportunities for the middle class.

Elsewhere, entrepreneurs looking to take their companies public would likely think twice when faced with the prospect of massive annual tax bills, which would further concentrate capital in markets limited to accredited investors.

Large shareholders of public companies would likely have to dispose of large portions of their holdings in order to procure the cash necessary to pay the IRS. Take Elon Musk, whose wealth has increased more than $100 billion this year. He would have a hard time ponying up $20 billion to the IRS without liquidating assets en masse. Not only would these forced sales distort stock-market prices but they would also gradually erode the alignment of some public-company CEOs with their shareholders.

Alternatively, founder-CEOs could artificially reduce the market value of their assets during the tax-assessment period. If you’re Elon Musk and you’re facing a $20 billion tax bill, you might just issue a slew of new Tesla shares at year-end to dilute your holdings. After all, those shares could be bought back once you’ve filed your taxes. Such measures would constitute needless, costly market distortions.

For the myriad structural flaws of the “billionaire tax” proposal, it is far from clear that the measure would generate a meaningful amount of revenue. Even if the IRS managed to enforce the tax adequately, revenues would still be subject to the vicissitudes of the stock market, whose stellar performance will not persist indefinitely. At best, the tax on unrealized gains would generate an unpredictable revenue stream, primarily by pulling forward revenues that would have been collected in the future.

This scheme may satisfy Democrats, desperate to reduce the price tag of their $2 trillion spending bill, but it is among the most wrongheaded, poorly designed tax proposals in recent memory.

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Source: Unrealized Capital-Gains Tax: Wrongheaded Proposal | National Review