Investing Incentive

This entry continues the series exploring improvements to the federal tax system.

Reading the ideas on tax reform in the previous might have accountants and tax attorneys crying "foul." But there is no cause for concern.

The government has done some things well when it comes to the tax code. Because the wealthy financial sector has so much pull in Washington, several good ideas have made their way into the tax code regarding passive and portfolio income. These incentives encourage Americans to invest in certain ventures that would otherwise be too risky or unprofitable. Depreciation, depletion, intangible drilling costs, IRAs, Keogh Plans, TICs--there is a vast list of investment activities and incentives that avoid absurd taxation.

The problem is that most Americans cannot afford and/or do not understand the benefits of these investments. Having a "money" curriculum in our public schools, beginning in elementary school and lasting through high school, will help our citizens understand the advantages and importance of saving and investing. But what about the cost?

As it stands now, the average American pays so much in fees and taxes that investing--while still crucial to one's financial well-being and retirement--does not feel like it is worth the effort. Furthermore, those who do invest regularly tend to do so in very limited ways and for very specific things, such as retirement accounts, college funds, or saving for a down payment on a home. Very few Americans have a steady stream of passive income. This needs to change.

One of the keys to having more time to spend with family and take care of the most important things in life is having the financial resources to do so. As is demonstrated in recent books such as "The Two Income Trap," our current system makes it very difficult to live in a good neighborhood with decent schools unless both parents have a job. Combine this fact with the shorter vacations and longer hours our country works, and there is little time left for family.

A great way to start fixing this problem is to make the first $25,000 of passive and portfolio income tax free. This means that a couple could earn up to $50,000 in passive income without paying a penny in taxes. Maintaining current tax incentive laws along with this new deduction would result in an explosion of investment by Americans, and would create a whole new investment industry for the low-income investor.

Taking this a step further, the capital gains tax would be reduced to a 10% for short-term (12 month) and 5% for long-term (more than 1 year). Again, no taxes would be paid until that $25K threshold is exceeded. Passive income would be taxed at the 20% flat rate, but the $25K tax-free rule would be combined with all the current deductions for passive income, making it easy to earn extremely high returns while paying little or nothing in taxes. These new policies would allow Americans earning a modest income to start putting their money to work instead of working so hard for their money.

The economic benefits of this plan would be extensive. More investing would allow companies to be more creative and take more risks. Finding the necessary funding to translate good ideas into profitable ventures would be easier. Middle and lower-middle class Americans could generate helpful, steady streams of income. The market surges would bring in vast amounts of foreign capital, strengthening the dollar and keeping more and better jobs in the United States. And, after a few years of lean tax revenues, the growth in the economy would actually create a surplus and allow us to pay down the national debt.

We need to become a country of long-term thinkers. In today's market economy, long-term thinking also brings about short-term results. How? Making investing more attractive will flood money into the markets, giving companies more money to hire and pay workers, research new technologies to create new jobs and new industries, and boosting profit-sharing. If we educate our citizens properly and "incentivize" investing, Americans will learn to leverage their individual capital for gain while at the same time pouring money into the companies and entrepreneurs that keep America's economy ahead of its competitors.

The flip-side of this policy is disastrous. If we continue to make investing so complicated and expensive--keeping it out of the reach of middle-class America--we are in danger of losing our status as the world's preeminent economic power and losing our valuable technology and financial sector jobs to foreign markets.

So why haven't we done this yet? Because elections are based largely on unemployment rates, and incumbent politicians know they can earn votes by mortgaging our future to create temporary, superficial job-growth. Also, the wealthy financial sector, lobbyists, lawyers, and politicians already know the loopholes of the system, so there is no need for them to change it--even though these proposed changes would benefit them as well.

Let's learn to think long-term and support honest change in our tax system.