I meet every couple of months with a couple of small groups of diversified small businesses in the Southeast.

Here is what I am hearing.

Few are making any significant capital expenses.  Taxes are too high and conditions are too uncertain. These small businesses run with the purpose of minimizing a profit.  This means that they may rent a fancier office space than they would normally, furnish it nicer and buy more expensive company cars.  Why? Because this maximizes their benefit AFTER TAX.  They would rather spend $10,000 more on a company car than show the $10,000 on the bottom line and then give half of it to the government.

This is how small private companies think.  This is the opposite of the way public companies think.

This same thinking is exhibited in estate planning.  Consider a successful businessman in his fifties.  He has accumulated a net worth of roughly ten million dollars.  He is clearly well off but not private jet, Bentley driving, mansion occupying wealthy.  In fact most of these people drive their cars for several years , go to their children’s ball games and generally lived relatively modestly in order to grow their business.  They are generally not conspicuous consumers.

But looking at their position and thinking they may live another 30 years they realize that this comfortable cushion will double and triple with just modest investment returns, and that this will put them in a very high estate tax bracket.

They will set up trusts for their kids and their preferred charities, but they will still likely face significant estate taxes.  They are thinking that if they leave the financial assets to grow the government will benefit, not their family.  So they start to think like conspicuous consumers.  They will buy the expensive boat and tangible items like jewelry and collectibles that they can just hand to their children or family members.

At first they feel guilty, because they are not used to this way of thinking.  They have been used to postponing consumption and sacrificing to grow their business.  But when they realize that the alternative is to lose that money to government confiscation they quickly adapt.

Some think this is a good thing- that forcing them to spend their money is immediately stimulative to the economy, but that is very short sighted.  We benefit far more when they invest those funds in businesses that increase the GDP.  This not only creates jobs that are sorely needed, but it also creates the revenue stream that the government so desperately seeks.

During the 1970s inflation drove financial returns into higher tax brackets. Investors sought inflation protection in tangible assets.  When inflation was tamed in the 1980s this money flowed heavily back into financial assets and fueled the stock market boom and growth in the GDP for the next 25 years.

Today the problem is not inflation; it is the fear and reality of increasing taxes and stifling regulation.  Investment capital is going to less productive uses, driven by tax avoidance.

One businessman commented that the penalty for not buying health insurance is higher than the profit he currently generates per employee.  Alternatives in his competitive industry are few. His competitors with fewer than 50 employees, who do not have to comply with the health insurance requirement, will have a distinct advantage.  What an anti-growth policy!

Another commented that what was once a mistake in running a business is now a crime.  Whether it is immigration, environmental, health care compliance, or infinite state and federal regulations,  a business owner is assumed to be malicious in his intent and actions.  Fewer owners will want to take the risk of deploying their capital in illiquid small companies, only to be branded a criminal.

Larger businesses with big administrative staffs are better able to manage the regulatory maze.  Very small businesses with only a few employees can manage to stay off the grid.  But the businesses starting to require significant capital investment with 50 or more employees is bearing the brunt of the regulatory damage.  This has always been true to some extent but the increased regulatory burden has made this worse.  This is the economic sector that provides next year’s Apples, Dells and Fords- and most of the new jobs.

This has been the picture for four years, and even I get tired of small business people including myself whining about it.  Since the last election we have had to accept a realty that we wish was different. These small but successful business people will change their behavior even if they are not professional golfers from California.  The greater good, which the dominant leaders so promote, will suffer from the actions these small business people will take to minimize the damage from the policies of this administration.

While tax rates are often stated as the burden on individuals and businesses there are other “mandated expenses” that are much more insidious.  Federal agencies are often charged with funding themselves with fines and penalties. Much too often these fines are levied on noncompliance to rules that are capriciously vague and in conflict with other rules.  It is not unusual for businesses to pay these fines rather risk fortunes in legal bills in defense.

With the proliferation of regulations what was once a mistake is now a crime.  May father used to complain that the government makes criminals of all of us, and that was decades ago.  In my short period in the business world I am stunned at how often I have known  some of the most righteous and ethical people I have ever met treated like common criminals.

The government can change deductions and depreciation schedules without the fanfare of talking heads arguing the merits and demerits of changing tax rates. While these changes in rules increase the money paid to the government there is never a headline about the new tax increase.

These changes have the same stifling effect of tax increases without the exposure or the debate.  When taxes are lowered but other mandated costs are changed to more than counteract the decrease and no new revenues appear, the Laffer Curve will be deemed, wrongly, to have failed.

The better way to look at taxes are as a part of the overall friction costs that reduce the return on risk and capital investment.

From The American Lee Harris writes Why Not Soak the Rich? 3/6/13

Lee raises the question of why so many middle class republicans are so reluctant to raise the taxes on the wealthiest.  This confounds liberals who voiced this question in What’s The Matter With Kansas?

His article traces the redistribution of property through brute force and through the philosophical elite to settle on our system of  laws and why the middle class holds these property rights to be “sacred”.

He concluded:

Clearly Blackstone himself is a bit puzzled how nothing more than “a set of words upon parchment” came to hold such a grip over the imagination of his countrymen — and their American cousins, too, it must be added. Yet the brief sketch we have offered up to this point indicates that there should be nothing very surprising about this. A society whose members have been imbued from birth with superstitious awe before “a set of words upon parchment” will keep their quarrels and conflict over property restricted to courts of law. They will not resort to violence for their own gain, nor will they tolerate anyone attempting to do so. They will not try to rise up in revolutionary frenzy in order to expropriate the wealth of others. Nor will they long tolerate a government that refuses to honor their own sacred rights of property, confirmed by their own “set of words upon parchment.” All these factors taken together will redound to the general welfare, both politically and economically, of any society in which this peculiar superstition — or taboo — has taken root at the unshakable visceral level. Any society that has reached this point has traveled an immense distance from the world in which the ownership of property was decided simply by brute force.

Throughout history, soaking the rich has proven a quick fix to temporary emergencies and crises, like the one we are facing today. But it is inevitably a fix that comes with a high cost. By undermining the taboo against expropriating wealth, it makes all private property less secure, including the property of the middle class. Let liberal intellectuals poke holes in the myth of the sanctity of private property, but respect the power for good that this myth has conferred on those societies that are, for the most part, strongly under its spell. The superstitious awe and visceral reverence that ordinary people feel toward “a set of words upon parchment” has proven indispensable to securing economic prosperity and political stability over the course of centuries. The ordinary man’s reluctance to speculate philosophically about property, and its origins and rights, might make him appear dense or incurious to the sophisticated intellectual, who relishes such abstruse discussions, but this indefatigably hard-headed approach to such questions has had the altogether salubrious effect of steadying the boat and keeping it on an even keel, despite the winds of revolution that have tossed and wrecked those ships that lacked their ballast of common sense.

HKO

We know that the wealthy do not have the resources to support the welfare state that is proposed.  The educated middle class know that eventually the “rich” must be defined to include them. The mobility of the Americans also  creates the aspiration to be wealthy and may create some empathy as well.   We saw that the taxes on millionaires and billionaires made great campaign rhetoric but the first application came to those who made only $250,000.  Howard Dean noted that the middle class will ultimately have to increase their tax load to fund the government.

The real question is not why do conservatives vote against their self interest  as posed in What’s The Matter With Kansas.  The real question is why some think the middle class is so stupid that they will not recognize they they will ultimately be targeted for higher taxes as well. They understand that unless spending is reduced they will also have to pay higher taxes.

Justin Hohn writes in American Thinker How Much Taxation Would Fund Current Spending?, 12/12/12

Excerpts:

Using 2009 data, the IRS says that 8,274 tax returns were filed with incomes over $10 million.  The total amount of income on those returns was $240.1 billion.

Our federal government alone is spending more than $10 billion a day.  Thus, a 100% confiscation of all income of those making more than $10 million would amount to less than 24 days of federal spending.

Confiscating 100% of all income from those who made over $1M funds the federal government for 72 days.

Confiscating 100% of the income from those who made more than $200K funds the federal government for only about six months.

The data indicate that 17,446,537 tax returns showed an income over $100,000.  These returns represented a total income of $3.765 trillion.

Estimated 2012 spending comes in at $3.796 trillion (refer to page 205 here).  This is still $30 billion more than a 100% confiscation of the annual income of all Americans that reported more than $100K of income for 2009.

Read more: http://www.americanthinker.com/2012/12/how_much_taxation_would_fund_current_spending.html#ixzz2ErJ6XhtI

HKO

Taxing 100% of all individual income over $100,000 will not cover our current expenses . The obsession with higher taxes has little merit toward a functional solution.    You can rest assured that even if you could tax at a rate of 100% you would not be able to do it twice.  In the second year there would be nothing to tax.Even at much lower rates wealth is fleeing the high taxes of Britain and France.

There are a lot of sound bites and meaningless phrases used to cover the debate on fiscal reform.  ”Fiscal Reform” means cutting expenses for some, increasing taxes for other.  I think I will scream if I hear the phrase ‘fiscal cliff ‘ one more time.  I write to clarify my own thoughts and that motivated A Tax Increase Primer published at American Thinker:

The estate tax is particularly attractive to social progressives but it has some very undesirable effects. We all benefit from a long-term investment view, a view that often extends well beyond a single generation. This is true whether you own a working farm or a factory. This creates and preserves capital for economic growth and job creation. The estate tax encourages a very short-term perspective.

If you knew that at the end of every year you would have to pay a tax of 50% on assets you have saved during the year, what would you do? Likely, you would minimize your savings, spending more, and saving and investing less. You would not have to pay a tax on the enjoyment of a better lifestyle.

The wealthy are no different. A high estate tax creates an incentive for conspicuous consumption over investment. While they will use whatever expensive legal tax avoidance schemes are available, we all suffer from the smaller investment pool.

Read more: http://www.americanthinker.com/2012/11/a_tax_increase_primer.html#ixzz2DiJCNBme

While mentioned in that article I further examined the incredibly regressive nature of the taxes for those at the lower end of the earnings curve. Regressive Marginal Tax Rates :

Those at the bottom of the income ladder who draw government transfer payments stand to lose those transfer payments if they earn more than a very limited amount.  If a worker who is unemployed receives $10,000 in transfer payments stands to lose those payments if they earn $20,000 then that low income worker is subjected to a marginal tax rate of 50%, higher than our highest rate for earned income.

While we focus on a single rate such as the federal income tax, our incentive to earn is formulated from the accumulation of all taxes and friction costs.  For a new entry into the workplace these friction costs include transportation costs and suitable clothing, baby sitters, and the loss of leisure time.  The total tax burden includes state and local taxes, FICA, Medicare and taxes and addition consumption taxes required for the job.

The high marginal tax rates for those at the lower end of the income scale increases dependency and stifles incentive to work.  It is not the lower rate on the upper income that should outrage Warren Buffet; it is the much higher rate we impose on those trying to leave dependency.

While the progressives appear fixated on raising the rates on the wealthiest we see over and over that these fail to bring in the revenue they intend. From Lessons Unlearned (Quote is from Robert Winnett article in The Telegraph):

In the 2009-10 tax year, more than 16,000 people declared an annual income of more than £1 million to HM Revenue and Customs.

This number fell to just 6,000 after Gordon Brown introduced the new 50p top rate of income tax shortly before the last general election.

The figures have been seized upon by the Conservatives to claim that increasing the highest rate of tax actually led to a loss in revenues for the Government.