Income inequality claims spark tax policy debate

President Obama has made clear that one of his chief themes this election year will be income inequality, and the Washington Post editorial page joined the fray Tuesday with an editorial bearing the headline "A new study links income inequality to the Bush tax cuts."

At issue, action in the Bush years to lower taxes on investment income such as capital gains.

"Why are we taxing work, that is to say wages and salaries - at a higher level than wealth? Which is to say - basically gains from existing capital," says Michael Linden of the liberal Center for American Progress.

Other analysts say investment income should be taxed less because the economy is in desperate need of job creation.

"We are looking at long-term economic growth, and the key to that is taxing income and investment and savings at a lower rate," Scott Hodge, president of the Tax Foundation, said.

"Everybody agrees we have a saving and investment problem in the United States," Mark Bloomfield of the American Council on Capital Formation said. "You do not want to tax saving and investment which are important for economic growth."

The latest debate is over a report from the Congressional Research Service -- which argues that between 1996 and 2006, income inequality grew in part because President Clinton lowered the tax rate on capital gains from 28 to 20 percent and then President Bush lowered it to 15 percent.

During those years, the report says, the top 1 percent enjoyed a 74 percent increase in income, even though they also paid a bigger share of the nation's taxes:

"In 1996, the wealthy paid about 32 percent of nation's income taxes," Hodge said. "By 2006 after much of the tax cuts - they paid about 40 percent of income taxes. That's a pretty big increase even though their tax rates went down."

Linden of Center for American Progress counters: "Yeah, they are paying the larger amount of overall taxes, but that's because they have a larger share of overall income."

Some also claim it is double taxation, because those dollars are taxed first at the corporate level. "When they ... pass it out to investors, they are taxed again as dividends or capital gains," says Bloomfield.

Nevertheless, in an election year, the political urge to increase taxes on the wealthy will be irresistible for some.

Bloomfield cites longstanding advice, however, saying tax people on what they take out of the economy, not what they put in.

"If you do want to tax," he says, "why not tax people on their extra yachts, why not tax them on their jewelry, why not tax them on their mega mansions? But don't tax them on what they put into the economy."

Even though the Congressional Research Service ignited this most recent chapter in what is sure to be a year-long debate, the report itself concedes, "research suggests that changes in tax policy do not have much impact on the longer-term trend or rate of change in inequality."

The study made no mention whatsoever of another fact that seems to back that up. President Bush also made several tax changes that resulted in 46 million people paying no federal income tax at all, a 55 percent increase over 1996.