Sunday, January 22, 2012

Does Buffett Pay a Lower Tax Rate than his Secretary?

The January 23rd issue of Time Magazine features Warren Buffett on its cover and contains a story titled "Warren Buffett Is on a Radical Track". Following is an excerpt:

Buffett paid a tax rate of only 11% on adjusted gross income of $62,855,038 in 2010. (After deductions, most of which were for charitable contributions, he paid a still low 17% rate on his $39,814,784 of taxable income; his office staff, meanwhile, paid percentages somewhere in the 30s.)

Buffett discussed this in an op-ed that he wrote titled "Stop Coddling the Super-Rich" that was published in the New York Times on August 14, 2011. He discusses the exact method by which he calculated these tax rates in a letter sent to Republican Representative Tim Huelskamp. In it, he states:

I would guess that if you would take line 60 from your 1040, plus payroll taxes paid by you and on your behalf, as a percentage of line 43 - taxable income - your number would be in the 30s just like all of the people in our office except for me. These people make between $60,000 and $1 million annually and, year after year, end in the 30s.

He gives his exact numbers later in the letter, stating:

To be specific, my adjusted gross income (line 37) was $62,855,038, my taxable income (line 43) was $39,814,784 and my federal income tax (line 60) was $6,923,494. In addition, my payroll taxes were $15,300.

The following tables combines the numbers from these articles:

Dollars Tax Item
---------- -------------------------------
62,855,038 Adjusted Gross Income (line 37)
23,040,254 Deductions
---------- -------------------------------
39,814,784 Taxable Income (line 43)

% of
% of Taxable
Dollars AGI Income Tax Item
---------- ------- ------- ----------------------------
6,923,494 11.02 17.39 Federal Income Tax (line 60)
15,300 0.02 0.04 Payroll Tax
---------- ------- ------- ----------------------------
6,938,794 11.04 17.43 Total Tax

Few people seemed to question Buffett's figures for his own tax rate. However, a number of articles questioned the tax rates estimated for his staff. For example, an online Forbes op-ed stated the following:

What stands out for me is this - either these folks in his office are making some crazy salaries, or they’re getting awful tax advice, or both. Here’s why I say this: In order to have a tax rate of 41% (which presumably includes the highest state income tax rate for Nebraska taxpayers of 7%), an individual would have to make in excess of $373,651 in taxable income, no matter whether they’re a single taxpayer or married.

At the other end of the spectrum, in order to have an effective overall tax rate of 33%, the individual’s income would have to be in the neighborhood of $209,250 if married, $171,850 if single.

$373,651 was the beginning of the 35% bracket in 2010. Hence, the author appears to be taking 41%, subtracting 7% for Nebraska state income tax, and getting 34 percent. Since this is above the next lower bracket of 33%, a taxpayer would need to have some income in the 35% bracket to reach 34 percent.

Similarly, the beginning of the 28% bracket in 2010 was $209,250 if married (filing a joint return) and $171,850 if single. Hence, the author appears to be taking 33%, subtracting 7% for Nebraska state income tax, and getting 26 percent. Since this is above the next lower bracket of 25%, a taxpayer would need to have some income in the 28% bracket to reach 26 percent.

The problem is that these calculation do not measure the federal tax rate as Buffett describes in his op-ed referenced earlier in the article. That op-ed states the following:

Last year my federal tax bill - the income tax I paid, as well as payroll taxes paid by me and on my behalf - was $6,938,744. That sounds like a lot of money. But what I paid was only 17.4 percent of my taxable income - and that’s actually a lower percentage than was paid by any of the other 20 people in our office. Their tax burdens ranged from 33 percent to 41 percent and averaged 36 percent.

Hence, Buffett is referring to the federal tax rate which does not include the maximum Nebraska state tax of 7 percent. However, it does include payroll taxes paid by the employee and by the employer on the employee's behalf. The following tables show examples of AGI (adjusted gross income), wages, and taxable income taken from IRS data for 2009:


% of Taxable Income
Taxable Income Payroll Total Income Payroll Total
AGI Wages Income Tax Tax Tax Tax Tax Tax
--------- -------- -------- ------- ------- ------- ------ ------ ------
45,000 41,000 26,000 3,481 6,273 9,754 13.4 24.1 37.5
61,000 55,000 39,000 5,931 8,415 14,346 15.2 21.6 36.8
86,000 76,000 59,000 10,931 11,628 22,559 18.5 19.7 38.2
133,000 114,000 97,000 20,869 16,549 37,418 21.5 17.1 38.6
1,720,000 860,000 1,493,000 500,194 38,183 538,377 33.5 2.6 36.1
2,955,000 1,339,000 2,576,000 879,244 52,074 931,318 34.1 2.0 36.2


% of Taxable Income
Taxable Income Payroll Total Income Payroll Total
AGI Wages Income Tax Tax Tax Tax Tax Tax
--------- -------- -------- ------- ------- ------- ------ ------ ------
45,000 41,000 26,000 3,063 6,273 9,336 11.8 24.1 35.9
61,000 55,000 39,000 5,013 8,415 13,428 12.9 21.6 34.4
86,000 76,000 59,000 8,013 11,628 19,641 13.6 19.7 33.3
133,000 114,000 97,000 16,613 16,549 33,162 17.1 17.1 34.2
1,720,000 860,000 1,493,000 492,858 38,183 531,041 33.0 2.6 35.6
2,955,000 1,339,000 2,576,000 871,908 52,074 923,982 33.8 2.0 35.9

The values for AGI, wages, and taxable income are the averages for various brackets in the IRS data, rounded to the closest thousand dollars. The value for Income Tax is the tax on taxable income, assuming that all of that income is ordinary and using the 2010 tax tables. The value for Payroll Tax is the payroll tax paid by employee and employer on wages. As can be seen, all of the rates for total tax (income and payroll tax) as a percentage of taxable income is in the thirties for all of the examples. Hence, Buffett's claim that his staff's tax rates "ranged from 33 percent to 41 percent and averaged 36 percent" seems perfectly reasonable.

There are some other articles such as this one from the Cato Institute that claim that Buffett's numbers are flawed. However, that article looks at taxes as a percentage of AGI (adjusted gross income) whereas Buffett is looking at taxes as a percentage of taxable income. Taxable income equals the AGI minus deductions. It seems to me that deductions are a separate issue. The way to fix any perceived problem with inequitable deductions is to modify the deductions, not to tax income from labor and investments at a different rate to make up for this perceived inequity. In any event, Buffett's numbers appear to be perfectly reasonable for the measurement that he clearly defines. To argue that there are better measurements is fine. But the claim that the numbers are flatly wrong is itself flatly wrong.

Note: There is a discussion of this post at this link.

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I became interested in U.S. budget and economic matters back in 1992, the first time that I remember the debt becoming a major issue in a presidential election. Along with this blog, I have a website on the subject at I have blogged further about my motivations for creating this blog and website at this link. Recently, I've been working on replicating studies such as the analysis at this link.

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