How Billionaires Avoid Taxes

Currently in the United States, taxing the ‘billionaire class’ is a common topic of conversation. This article aims to provide a brief overview of the U.S. tax code, how it applies to billionaires, and why it appears they pay ‘no taxes.’ 
 
The U.S. tax code taxes wages and realized gains. That means when an individual gains money, whether that money is from an employer in the form of wages or from selling an asset, that money is taxed. However, the U.S. tax code does not tax unrealized gains. For example, if an individual buys a piece of art for $100, and that art appreciates to $200 dollars, the individual who bought the art is not taxed unless they sell the art and realize their gains. 
 
Most billionaires have a relatively large magnitude of assets relative to their income. The reason for this is straightforward - it is nearly impossible to become a billionaire off of wages or cash flow. Instead, one must own equity in a company or assets that greatly appreciate in value. As a result, when a billionaire materially increases their net worth, it is typically in unrealized gains on assets they own. Under the current U.S. tax code, these gains can only be taxed once the billionaire sells their assets and realizes their gains. It is important to note that even when the billionaire's net worth increases because of unrealized gains, they don’t actually have access to that money. It is just a theoretical increase in the value of their asset, and that wealth cannot be used to make purchases until the asset is sold, and therefore taxed. 
 
Now that we have established why billionaires can increase their net worth so quickly without being taxed, we turn to the question of whether unrealized gains should be taxed. This question depends significantly on your personal beliefs, but we will provide a few facts as a framework to facilitate a conversation about taxing unrealized gains. 
 
First, taxing unrealized gains is not free money for the government. At a high level of macro-economics, one can think of all the resources a country has as the savings of the private sector and the savings of the public sector. When billionaires are taxed, this doesn't give the country more money - it just transfers money from one place to another within the country. Secondly, if the government taxed unrealized gains, they would be requiring billionaires to pay cash for appreciation on assets they have not yet realized. While this might not sound bad, it can cause individuals to sell assets at inopportune times, which can cause massive inefficiencies in an economy. 
 
From an economic perspective, taxing unrealized gains does not make a lot of sense. However, for the U.S. tax code to function, realized gains must be taxed. There are several loopholes in the U.S. tax code that currently hinder this process that must be closed. For example, the ‘step up’ loophole allows assets that are inherited from a deceased relative to essentially reset their cost basis. This means that the heir of the assets only needs to pay tax on the gains on the assets that occur after they receive them. This loophole is exploited by high net worth individuals to avoid paying large sums of taxes, and must be closed to allow the U.S. tax system to function properly. 
 
The U.S. tax code and the complexities of taxing billionaires can’t be solved with one article. However, we hope we have given our readers a few interesting pieces of information to consider, and may expand upon this article in the future. 
 
Best,
The People’s Capital Team