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U.S. Income Decline


Bloomberg is reporting that the latest data from the Census Bureau reveals a sharp decline of household income.

American incomes declined more in the three-year expansion that started in June 2009 than during the longest recession since the Great Depression, according an analysis of U.S. Census Bureau data by Sentier Research LLC.

The economic stagnation is due to a prolonged jobless rate above 8%, coupled with long-term unemployment. Just about every age group experienced income decline, with the exception of those over 65. The hardest hit were the 55-64 bracket.

Real median annual household income fell to $53,508 from $54,916 during the 18-month recession from December 2007 to June 2009, according to the firm’s study of income data for the 36- month period ended in June 2012. Incomes kept falling during the 36-month period since then, dropping to $50,964 in June 2012.

The debate continues as to whether or not the recession ever ended, or if we are about to enter a new recessionary period.

Measuring Income Inequality: It Doesn’t Add Up


During the State of the Union, we heard President Obama talk repeatedly about fairness and taxes as he painted a picture of income inequality.  The problem is that income inequality really is a myth, yet it is being perpetuated: the gap between rich and poor has never been higher.

The data used most frequently to substantiate this claim is a Congressional Budget Office (CBO) report from October 2011. However, the glaring problem with this report is that it only covers the period from 1979 to 2007 — ending right before the Great Recession. Convenient?

So in November, Ron Schmidt of the University of Rochester School of Business Administration, did an analysis of the CBO data and compared it to IRS data during the same time period — but through the year 2009, the latest year for which IRS data was available. He found something very, very different. In a reported summary,

According to IRS data, which extend through 2009, the average nominal Adjusted Gross Income (AGI) for filers with AGI of at least $500,000 declined by 17.8 percent from 2007 to 2009, and their average after-tax income declined by 19.9 percent. For those with AGI of less than $500,000, AGI declined by only 2.6 percent, and after-tax income declined by only 1.5 percent. These numbers certainly do not indicate an increase in income inequality.

In fact, there has been a marked decline in income inequality over the last decade. From 2000 to 2009, average AGI declined by 15.0 percent and average after-tax income declined by 11.0 percent for returns with AGI of at least $500,000. (Filers with an AGI of at least $500,000 represent 0.5 percent of all returns in both years, so this comparison is similar in spirit to the CBO report, which looks at the top 1 percent of households.) For all other returns, there were increases of 14.6 percent for average AGI and 17.3 percent for average after-tax income.

It revealed that income inequality is not only not at an all-time high, but also, due to the nature of economic and business cycles, it is relatively the same as it was twenty-five years ago.

The repeated calls for fairness last night reminds one of Margaret Thatcher’s famous speech in front of the House of Commons where she lambasted her opposition for suggesting that the gap between rich and poor had widened. The Prime Minister People responded that “people on all levels of income are better off than they were in 1979. The honorable gentleman is saying that he would rather that the poor were poorer, provided that the rich were less rich. That way one will never create the wealth for better social services, as we have. What a policy. Yes, he would rather have the poor poorer, provided that the rich were less rich. That is the Liberal policy”.

Liberal policy indeed is alive and well in America today. Thankfully, income inequality is not.

Though Obama may be pretending to draw a line in the sand between himself and the Republicans, he is really drawing a line for voters: Them vs The Rich Guy (millionaires and billionaires, anyone?) Setting up the narrative in the State of the Union for the year has allowed Obama to pander to the electorate during this campaign season and relentlessly go after those who have proven to be successful as a source of increased tax revenue to cover his spending problem.

This is his solution for inequality. Fair?

Romney’s Returns: Phantom Income and Phantom Reporting

While Mitt Romney’s tax rate has been calculated to be around 14%, there are a few unreported factors that account for the small percentage. Additionally, as will be detailed below, Mitt Romney paid taxes on $1 million + in income that does not exist. As a lifelong CPA, I was asked to review it for several media outlets. First, let me say that his return is standard, normal, well prepared, and detailed, with nothing unusual given the scope of his assets. That being said, his tax return is 203 pages. Roughly ½ – ¾ of the pages have nothing to do with tax calculation at all. They relate to the ridiculous and over burdensome compliance of several different natures. These include:

  1. All foreign owned investment companies
  2. Details of amounts transferred to foreign investments
  3. Disclosure of any transaction of anything done that looks like it might be a transaction involving something listed by the IRS as an abusive tax shelter.

For instance, some of his tax shelters involve the use of foreign exchange trading. So, if you have foreign investments with foreign exchange trading, you risk the IRS saying you have characteristics of an abusive tax shelter. His are not; they all fall under broad categories, but in order to safeguard against any appearance of impropriety, he spent the majority of his return providing excessive documentation. However, these pages have nothing to do with his tax rate calculation.

Now, his Adjusted Gross Income (AGI) isn’t exactly as it seems. After you arrive at the AGI, you then subtract your deductions, and then you subtract your exemptions, and then, if you are liable for the AMT you adjust with your add-backs. Then, you have your general income tax rate. However, you are not quite done. One thing in particular with Romney’s return is the foreign tax credit, which is a credit you get for earning income abroad. How it works is that you pay foreign tax on foreign income and then you get a credit on your federal return for having already paid tax on that income. Romney’s credit is $130K. $750K of his income was earned abroad, and so he got credit for the $130K he already paid. This figure was then subtracted from his AGI which makes his AGI look smaller (hence a smaller percentage figure).

Additionally, his AGI was reduced by paying a lot of Massachusetts taxes. State taxes are deducted when calculating taxable income, but then, because of the AMT, some of it was added back. Also, as has been reported, Romney made a large amount of charitable contributions, which further reduced his tax rate. These contributions were made at his discretion – he tithed and then some. His AGI was reduced by that total amount. So, those are the key items that factored into his smaller percentage.

However, the most stunning information on his return is the fact that, due to inequities inherent our tax code, Romney paid taxes on more than a million dollars of income that didn’t exist. How is this possible? When you have hedge fund investments, rather than reporting and paying taxes on profit, the IRS requires you to break it up into component parts. For Romney, those component parts are interest, qualified and non-qualified dividends, short term gains, and long term gains. These are all things that contribute to the positive side of calculation. On the negative side, you have interest and expense. The net of all those you would think he’d pay taxes on, except for one thing.

From the income items, off comes the subtraction for interest. However, all of the other expenses that reduce profit – which, with hedge funds,  include virtually all operation expenses to earn income, including fees to the operators – are required to be recorded as miscellaneous itemized deductions.  You cannot deduct your share of expenses unless that amount exceeds 2% of your AGI. What’s worse, even if your expenses do exceed the threshold, and you are subject to the AMT you can’t deduct them at all. This inability to deduct necessary expenses incurred while generating that income means that Mitt Romney paid taxes on $1.017 million of income that does not exist.

As I have written on the subject before, regardless of whether a taxpayer is wealthy or not, the fact that the tax code has a floor for deducting the cost of earning income is an injustice that should be amended. You would think that someone would wonder about a tax law that requires a taxpayer to pay taxes on $1 million more of income than he actually earned. But alas, that is not the case.

After being interviewed by three agencies (Bloomberg, NYDaily News, and CBS Evening News), and extensively explaining the nuances with Romney’s AGI and this particular income item, none of the media chose to report it. Curious, I sent this information off to some folks with whom I have worked at Fox Business, but received no reply. I then communicated with a reporter from the Boston Globe, Ms. Beth Healy, who reported erroneous information on this subject in one of her articles, and offered to explain to her the misinformation. After this polite exchange of emails, she never followed up with the phone call she offered to make

. Only choosing to report the general figure of total income tax paid doesn’t effectively tell you the whole story. But perhaps the greater story here — more than the fact that Romney paid taxes on $ 1 million+ worth of income that doesn’t exist — is that five news agencies chose not to discuss how Romney paid “more than his fair share of taxes”. Perhaps doing so would challenge two prevalent narratives 1) hedge funds are bad and 2) the rich should pay more. Update: See how this story relates to the July 3 coordinated media smears on Romney’s finances by the WaPo and Politico

Ron Schmidt on Income Inequality

A fresh perspective on the myth and the reality of income inequality in the United States.

Ronald Schmidt, professor of business administration at the Simon Graduate School of Business at the University of Rochester, says analysis of IRS data shows a “movement toward less inequality.” Schmidt talks with Bloomberg’s Ken Prewitt and Tom Keene on Bloomberg Radio’s “Bloomberg Surveillance.” Listen here to Ron Schmidt’s interview  this morning.

Update: For an exposition of Schmidt’s income inequality argument, click here