Yves here. Richard Murphy makes a point in the UK context that applies just as well as in the US. As appealing as a wealth tax might sound, it simply is not an effective way to lower inequality. The big reason in the US is that a lot of private wealth is held in the form of difficult to value assets, particularly interests in private companies.
To put it more simply: the IRS has not won a large estate valuation case since the early 1980s. And large estate valuations raise just the same issues as a wealth tax would, but less frequently. As we wrote in 2019 on Elizabeth Warren’s wealth tax proposal:
While Elizabeth Warren has fomented a good deal of productive debate about the egregious concentration of wealth among the 0.1% with her wealth tax proposal, there’s a lot not to like about her scheme. We’ll focus on one glaring issue: that a substantial amount of wealth is held in the form of investments in private companies. What they are worth is legitimately subject to question and therefore open to gaming. This is such a significant issue that her estimates of what her tax would yield look considerably overstated.
Shorter: there are other ways to skin the fat cats that would work just about as well if not better and not have as many stumbling blocks, both legal and practical. So it is odd that someone vaunted as a technocrat chose a problematic path to achieve her aims….
Warren presents the policy wonk’s version of the economist’s famed “Assume a can opener”. Her version is “Assume effective IRS enforcement on the super rich.” Good luck with that.
The rich and super rich hold the overwhelming majority of their assets in these forms: publicly traded securities, real estate, and private companies. The example from Warren’s website is shockingly inaccurate: “Consider two people: an heir with $500 million in yachts, jewelry, and fine art…”
The problem that Warren is hand-waving away is that private companies are hard to value and even real estate isn’t as easy as one might assume.
M&A professionals, the type who eat liability to issue fairness opinions, will tell you valuation of companies is an art, not a science. Even with public companies, they do not opine that the price paid to the selling shareholders in a merger is correct, merely that it is “fair”. Remember, in these cases, the company being bought has a trading history and the investment bankers can work up comparisons of merger premiums for similar deals.
Anyone who has valued private companies (which yours truly has done for decades, professionally, for US and Japanese companies, billionaires, and private equity firms) or even just a cash flow model for a large corporate project, will tell you that if you vary the key assumptions within a reasonable range, you will regularly get a difference in projected cash flows (which is the basis for valuing the company) of X to 5X.
Similarly, it is hardly uncommon in private equity to have several firms invested in the same deal. Limited partners who by happenstance are investors in the private equity firms that all invested in one company regularly find that the valuation of that company reported to them differs wildly. The concerned limited partners ask for explanations and the general partners have perfectly logical-sounding explanations…..
Moreover, coming up with an independent valuation for a meaningfully-sized business is labor intensive, since you need to sanity-check the owner’s assumptions, particularly if you are assuming liability for your work. Attentive readers may recall that we’ve discussed how private equity is the only type of institutional asset management where the asset managers value the holdings themselves, and then only monthly. All other types require monthly valuation by a third party.
Why is private equity different? Because the cost of valuing a private company by a reputable firm like Houlihan Lokey would be on the order of $30,000 (and that may be low), and that’s deemed to be costly enough to impair returns.
Another way to think of this problem is that it is yet another manifestation of the obliquity conundrum. In complex systems, there is no way to map a simple path to the result you want because you can’t map the terrain, so the supposed straight line is anything but. Here, taxing wealth sounds like a wonderful way to reduce the lucre of billionaires, but as Murphy confirms below, there are much better ways to achieve that end.
By Richard Murphy, part-time Professor of Accounting Practice at Sheffield University Management School, director of the Corporate Accountability Network, member of Finance for the Future LLP, and director of Tax Research LLP. Originally published at Tax Research
Davos is full of calls for the super-rich to be taxed more. The Patriotic Millionaires are at it. As the Guardian notes:
More than 250 billionaires and millionaires are demanding that the political elite meeting for the World Economic Forum in Davos introduce wealth taxes to help pay for better public services around the world.
The Guardian adds:
A “modest” 1.7% wealth tax on the richest 140,000 people in the UK could raise more than £10bn to help pay for public services, the Trades Union Congress (TUC) suggested last year.
Oxfam is also making the demand. Again, the Guardian notes:
Calling for a wealth tax to redress the balance between workers and super-rich company bosses and owners, [Oxfam’s] report says such a levy on British millionaires and billionaires could bring in £22bn for the exchequer each year, if applied at a rate of between 1% to 2% on net wealth above £10m.
I wish I did not have to disagree with the demands of these organisations, but I do.
As I have shown in the Taxing Wealth Report 2024, wealth taxes are not only not required, but they really would be an impediment to progress.
But, even more pragmatically, if we want to tax wealth, there are so many much easier ways to do it that would encounter none of the massive organisational, logistical, accounting and ethical issues that a wealth tax would encounter. For example, take this list, which is my summary of Taxing Wealth Report 2024 reforms right now:
Of course, no one would make all these changes: I am not suggesting that they should.
But if you want to tax wealth, what is better, a few billion in many years’ time after a watered-down wealth tax is introduced, or reforms that could be done almost overnight now to existing laws that would undoubtedly raise more money?
The details of the above are to be found via links here.
