Why does billionaire Warren Buffett pay less income tax than his secretary?
Two words: capital gains.
Long-term capital gains, which derive from the sale of investments such as stocks and bonds held for more than a year, are taxed at 15 percent. That's well below the 35 percent maximum tax rate on ordinary income such as wages.
The preferential tax treatment of capital gains is widely viewed as regressive because the rich, who derive a disproportionate share of their income from capital gains, pay less than half of the tax rate on that income compared to middle-class wage earners.
"Capital gains are highly concentrated," says Rebecca Wilkins, senior counsel for Citizens for Tax Justice. "Most of the capital gains are earned by folks in the top 10 percent, and it's even concentrated more than that. So the capital gains tax break, which is a 20 percentage-point difference in the amount of tax that is paid on those, is going almost all to the top 5 percent."
In fact, Americans with an annual income of $1 million or more, or 0.3 percent of all taxpayers, enjoy 70 percent of the capital gains benefit, says Hanlon.
The favorable capital gains rate is expected to save the wealthy (and cost Uncle Sam) $38.5 billion for fiscal 2012, according to the Office of Management and Budget.