Tuesday, March 03, 2009

Margin Walker

The attorney featured in this article - who claims that she will refuse to see some of her clients in order to keep her earnings down to avoid being hit by Obama's increase of the marginal tax rate on earnings above the $250,000 threshold - is most likely doing those clients a favor. At least if her ability to grasp the concept of marginal tax rates is any indication of her reasoning skills generally speaking. Also, the journalist who wrote the piece should be ashamed:

President Barack Obama's tax proposal -- which promises to increase taxes for those families with incomes of $250,000 or more -- has some Americans brainstorming ways to decrease their pay, even if it's just by a dollar.

A 63-year-old attorney based in Lafayette, La., who asked not to be named, told ABCNews.com that she plans to cut back on her business to get her annual income under the quarter million mark should the Obama tax plan be passed by Congress and become law. [...]

"We are going to try to figure out how to make our income $249,999.00," she said.

"We have to find a way out where we can make just what we need to just under the line so we can benefit from Obama's tax plan," she added. "Why kill yourself working if you're going to give it all away to people who aren't working as hard?"

The attorney says that in order to decrease her income she'll have to let go of clients, some of whom she's been counseling for more than a decade.

"This means I'll have to tell some of my clients we can't help them and being more selective in general about who we help," she said. "I hate to do it."

Wow. That is...just mind boggling. Allow me to explain the concept of marginal tax rates to our would-be Jane Galt (and her admirers, like Tennessee law professor (I'm as incredulous as you) Glenn Reynolds). The marginal tax rate structure means that you pay a certain rate for money earned within certain dollar amount brackets. So, to simplify with hypothetical rates: you pay zero income taxes on dollars 0-20,000, then you pay 15% on dollars 20,001-50,000, you pay 25% on dollars 50,000-100,000 and so on. You don't pay a higher rate on all of your dollars just because some of your dollars make it into a higher tax bracket. Only those dollars above the given threshold are subject to that rate.

The tax rate on earnings above $250,000 is presently 35% (lowered from 39.6% by Bush). Obama is proposing to restore that rate to the Clinton-era level of 39.6%. What this means is that for a married couple earning $300,000 (after above the line deductions), the dollars that they make above the $250,000 threshold would be taxed at 39.6% rather than 35%. But all earnings below the $250,000 would still be taxed at the same tiered rates as before! You don't pay 39.6% on all of your earnings simply because you surpassed that level!

So the the Obama plan would mean that our hypothetical couple pays $19,800 rather than $17,500 on that $50,000 that falls into the $250,000 and above tax bracket. A difference of...$2,300. But the person still takes home $30,200 of that $50,000, as opposed to $32,500 out of $50.000. Slightly less, but generally speaking, making more money is viewed as a good thing by most individuals, even if there is a slightly higher rate applied to those extra earnings.

Now let's go back to the reasoning of our Louisiana attorney - reasoning applauded by Glenn Reynolds and the other commentators he links to. This woman is going to turn away clients, and turn away income, so that she ensures that her income does not surpass $249,999, rather than subject any additional dollars to a slightly higher rate of taxes.

Presumably, she would rather have $0 tax free than $50,000 taxed at 39.6%. But, mind you, she was quite willing to work for the extra $50,000 when it was taxed at 35%. The net effect: she will have $30,200 less dollars in her pocket just so she can avoid giving the federal government an additional $2,300, and she will have alienated clients and caused them to look elsewhere for legal services - damaging her business long term.

As I said: those clients she turns away as part of her grand tax-gaming scheme should feel lucky.

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