How Do You Tax Unrealized Capital Gains for Billionaires?

[00:00:00] Mike: Welcome to financial planning for entrepreneurs and tech. I'm your host, Mike Morton certified financial planner and charter financial counselor. Today, I have a wide ranging discussion with Matt Robeson using both of our backgrounds, his as a policy expert, working on Capitol hill and mine is financial planning about the tax legislation that is being discussed in Congress and specifically the wealth tax on billionaires. 


I was fascinated for his take, so I hope you enjoy the show. 


[00:00:33] Matt: . I met Robeson joined as always by Mike Borton of Morton financial advice and the host of what is it? What's your podcast, man. 


[00:00:41] Mike: financial planning for entrepreneurs and tech professionals, 


[00:00:45] Matt: I knew what it was. I just wanted to 


[00:00:47] Mike: or you can't remember that whole thing that come on. 


[00:00:49] Matt: It's a little long 


[00:00:49] Mike: little 


[00:00:50] Matt: it's like in the movie, the social network where it's instead of calling it the Facebook, just Facebook it's cleaner. So we gotta cut. I there's seven words in there. 


Just lose 


[00:01:00] Mike: Financial planning. 


[00:01:01] Matt: Financial planning. That's what it's all about. This is a very different show that we're recording today. Normally I gotta, I'm going to let our listeners in on something. I know what we're going to talk about before we get going today. Mike is springing something on us here we have done. 


I'm not making this up. We've done no preparation whatsoever, but this is the confluence of some area of expert. For me, my background is in policy, in legislation in Congress. I was a congressional staffer for about a decade. And then I worked in the state Senate of New Hampshire. So I crashed Davis. 


I went from the big leagues to triple a ball and I've had experience on both levels. And Mike obviously is a financial advisor, especially to entrepreneurs and tech professionals. We're going to try and we're going to merge the streams here, like in Ghostbusters and Mike, what are we talking about today? 


[00:01:52] Mike: all right, Matt. So I was reading the wall street journal this morning. This is Where we are end of October and talking about, the new tax proposals. We have big, a 1 trillion, 2 trillion or trillion infrastructure, Bill that's trying to get shoved through Congress and there's some negotiations going on and how are we going to pay for it? 


So this morning's news was, earlier, few weeks ago it was marginal tax rate. Tax rates might go up, for high fire, high income earners and some other provisions. And this morning's news was scrapping some of that and doing a quote unquote wealth tax on the billionaires to tax unrealized. 


Appreciated gains capital gains. So capital gains, but you haven't sold that normally when you sell that appreciated stock or house or commercial building, and it's gone up in value that's when you say, oh, I, I made a couple of hundred thousand it's appreciated. And so therefore you owe taxes on that game. 


So the proposal is for people that have over 1 billion in assets or make more than $100 million per year for three years. That Congress would, the government would tax unrealized, appreciated gains. And so I was just very interested to how this is going to happen. So that's where my brain went. Like, how would they actually put this into place? 


And then I thought of Matt with all your policy that the quote in the paper was, this will raise $250 billion in tax revenue. From this unrealized appreciated assets. And my immediate thought was like, there's no chance. These people that have a billion dollars, we'll figure out ways to avoid taxes. 


And so I was very curious from Matt's perspective on where did those numbers come from? 


Like the 250 billion that they expect to get over 10 years. How Realistic. 


are these things looking backwards when they've said this in the past, 


[00:03:39] Matt: It's a fascinating question. And I, what I like about your idea, your discussion topic here is that it does blend together policy politics and your expertise in tax planning and investment. Let's break this down kind of a piece at a time. So we'll start with a piece that you just started to explain. 


This is a longstanding issue that really does hit this intersection point between politics. Policy and finance, which is how do we treat capital gains. Now, back in the day, one of the things that you and I both learned when we were both economic students, is that capital gains are weird. We tax them in a strange way because they exist in this Netherland. 


I was about to say the nether regions. That's not really where they exist. 


[00:04:27] Mike: No. Don't go there. 


[00:04:29] Matt: They existed in another regions there. They're in this odd position of they're real, but they're not, as soon as you sell them, you can have cash, you own, let's say you own. Some Google stock, right? 


And you bought it at a hundred dollars a share, and now it's trading at $150 a share. You could sell that today and you could make money. You would have a big profit off of that investment. And so what the government says essentially is today, At if you're, let's say you're going to plan to sell it at two at three o'clock at 2 59, you have not made any money, even though you own an asset, that's worth a lot of money. 


It is. It is. It's a real asset. You could sell it at any time. But the government says, Nope, it's not real until it's a little bit like being in the casino. You have chips that you've won in a game and they're worth real money at any time you could go to the window, the cashier and trade them in and have dollar. 


But they're not real until you do that. And so what happens is we tax capital gains are actually something that are very popular, especially for Democrats to tax. Why? Because wealthier people. Tend to own investments in stocks. That's not the kind of thing that lower income people tend to have. 


And so it just tends to hit wealthier people more. And in this country in general, we believe we should tax wealthy people more, but here's the dirty little secret. What we say. We tax capital gains. That is not really what we tax capital gains at. There's what we call the nominal rate of taxation, which is whatever it says, it's 15%. 


But the reality. Is that because we don't tax capital gains until you show up at the cashier and turn it into cash. The real rate of taxation is way, way lower. What does that do? It 


[00:06:32] Mike: Wait, hold on a second. I'm going to stop you there for a sec. Cause the real, what do you mean by the real rate is way, much lower because like you, so both of us bought that Google at a hundred and now it's 150. I sell mine and I have to pay 15% of that $50 gain and you don't sell yours. So is that what you mean about the real rate is a lot less cause there's floating unrealized gains out there that are not being taxed at all. 


[00:06:53] Matt: It's just a math exercise of the total amount of value and the total amount of tax. And what percent of the total value do you end up seeing in total tax? And it goes to the point that you were 


[00:07:09] Mike: is that, so is that what you're saying though? The unrealized quote-unquote unrealized, which means you haven't sold it. So the total value has, between the two, in my small example, the two of us both gained $50 of capital gains. So the total value is a hundred bucks, but the government, all I got to tax 50 of it so far. 


Because you didn't sell yours. 


[00:07:28] Matt: Yes. And what eventually happens is all kinds of tax avoidance strategies. That's what you were saying at the top. So what can you do? You could make it part of your estate, right? You 


[00:07:40] Mike: We could kill it. We could kill off Matt and his kids will inherit it and then they just avoid that $50 altogether. 


[00:07:47] Matt: Now you're talking well then, and then there's, here's the beautiful part is that if you're super rich and you were explaining this to me on an earlier show, if you're super duper rich, what you do is you never sell it at all. You have, let's say you have hundreds of millions of dollars of assets like this, not just my hundred bucks of Google, but let's say you're a, Sergei Brin or Eric Schmidt or one of those. 


Google founders and you have hundreds and hundreds of millions, if not billions of dollars of these assets, you don't want to sell. Because you don't, 


[00:08:19] Mike: You pay 


[00:08:19] Matt: that would be so you'd pay a lot of taxes. So what do you do? You go to the bank and you say, all right, I've got a proposition for you. You are going to lend me lots and lots of money, and you're going to do it at a low interest rate, which you're going to do for me, because I'm an awesome client who has hundreds of millions of dollars with you. 


And then what's going to happen is I'm going to have my investments that make an average of let's. Let's be generous. Let's say it's only 6%. And I've alone that I paid 2% interest on. And so this is a money-making proposition for 


[00:08:51] Mike: my make a machine. 


[00:08:52] Matt: I never sell my assets and I have cashflow and my assets continue to appreciate it is it's a scam. 


And so you can begin to see why politically again, Democrats like to tax the wealthiest among us, and you can begin to see why this is an attractive idea. 


[00:09:11] Mike: So this is why we have the idea. 


to tax unrealized, appreciated assets or capital gains because it's all sitting out there and so much of it avoids tax altogether. So my first question to you, Matt is that $250 billion. What was quoted in the paper that, that Congress, I don't know who said it, that we expect, I guess it's the federal bureau office or the FBI says, oh, we're gonna, over 10 years, we're going to get $250 billion of tax revenue by taxing this in the past. 


I've seen those quotes, oh, if we make this change, we will get X, billion of dollars. How much, how often is that true? That over that 10 year period, they actually get that money. 


[00:09:51] Matt: It turns out to not be super accurate. Much of the time over the economist who worked for the congressional budget office are very good. They're excellent. So the rules in Congress basically are you can't pass something unless the congressional budget office, the CBO gives it a score, unless you project, how much is this going to cost? 


That sounds like a good idea to most people, right? You should have some idea. And so they have to come up with a theory. Of what things are going to cost. They're not always right. They're frequently wrong, but what it does, the effect of it is for anyone who's ever been on a weight loss program, maybe using an app like my fitness pal or weight Watchers, which gives points instead of counting calories is it'll ask you, what did you eat? 


Like I had a chicken sandwich. How many calories was that? How accurate is that estimate going to be? You had a chicken sandwich. Was there Mayo on it? What kind of bread was there? Was it reconstituted chicken? Was it subway? All these things come in. And so what do you basically put in a swag, which is, it stands for a scientific wild I'm not going to say what the AA stands for, but it's another word for a donkey. 


It's a it's science. Wild guess. And you put in a guess and what tends to happen is that all those swags, all those guesses at the very least what they do is they they add 


[00:11:14] Mike: I got 


you. So you're like you're in the ballpark, but I just read that number to be honest. And I was like, there's no chance they're going to get anywhere close to that because of, simple things, like not simple things, complicated structures that are available or will be available to avoid taxes. 


So we're talking about people that make it, that have over a billion dollars of that. Or make over a hundred million dollars per year for three years. Okay. And they said in an article. 


that's about a thousand us citizens. All right. So a thousand people out there are suddenly going to get hit with tax bills of billions of dollars. 


What are you going to do, Matt, if you have a few billion and you're like, geez, this tax bill is going to cost me $500 million. I think I'm going to spend quite a bit of money. 


trying to figure out how to not lose $500 million. 


[00:12:03] Matt: A hundred percent true. And this is one of those, there's no good answer to this problem. The starting point, the reason we ended up here is that the original idea was we were going to raise money to pay for the investments that otherwise the president and congressional leaders want to make. 


We're going to raise money by doing a few different things among them. We're going to go after. Hi income, high net worth people who are not paying their taxes. We're going to actually increase the enforcement ability of the IRS. To go after most of the time, what happens is there's zero auditing there's zero people know that we're on the honor system here. 


And so what happens is that economists estimate, look, if you did more enforced. More auditing that would send a signal to people that you can't get away with this stuff. We know that people are skipping out on this stuff because we have the release of the Panama papers, and there's all these revelations that are coming out that internationally people who are high net worth are avoiding their taxes. 


So there's no good 


[00:13:13] Mike: Yeah. Are they? And I haven't read through all the papers. Are they. Avoiding tax, if they were audited they'd oh, an extra 10 million, or are they using somewhat gray areas of the law to attempt things that then have to go into the courts and say, look, you did this wasn't really the letter of the law or whatever it is. 


And right. 


[00:13:31] Matt: It's a very, it's, there's not a sharp dividing line between those two is the way I read it is that, in some cases they're following tax avoidance strategies that we allow. And in some cases they're escaped and close to the edge and they're being aggressive and it's look, why not? 


Because if the IRS comes after me, which is very low risk to start with. I have very high pay attorneys to fight this. It's a 


[00:13:57] Mike: No, it's a good, that's a good calculation. I get it. But 


so why is, this is a thousand people were talking about why wouldn't the IRS be like a hundred percent focused on these people? First, the payoff seems to be way greater than just going after the average. 


[00:14:09] Matt: That is one of the calculations here. So for one thing it's an easier. To keep track of right. Rather than taking a scattershot approach of we're going to hire 600 more auditors for the IRS and tell them, go to town. We're going to constrict what we're focused on in terms of tax policy to this, the small group of people. 


That's one thing, another thing to bear in mind is that when the congressional budget office scores, something like this, they factor in that people are still gonna find ways to avoid it. There that's a little bit baked into that 250 billion, a lot of any road you go. Assumptions like that are going to be a little bit baked in the real reason I suspect I can't prove this, but the real reason I suspect that Democrats have chosen to go down this road is that there's a funny thing that happens in politics when Democrats, especially, look, the way it works out is Democrats are the ones who want to raise taxes on the wealthy Republicans are the ones who want to cut taxes on the wealthy, but what voters here. 


Is every part of that sentence, except for on the wealthy, they actually don't believe the, on the wealthy part, all they hear is raise taxes, lower taxes, and Democrats will shout till they're blue in the face. That w it's what Joe Biden's been saying. No one who makes under $400,000 a year is going to have higher taxes 


[00:15:37] Mike: but that's see that statement became not true though. If you start looking at the details of some of the stuff that they're talking about, it does affect people that make less than 400,000. 


[00:15:47] Matt: Well there and there are pains to try and work around that. So another revenue raiser that they're looking at here is essentially a carbon tax. How do you pay a carbon tax that gets passed through from carbon producing businesses like Exxon mobile? They create a lot of carbon. So what happens is. 


You assess a tax on that it gets passed through to consumers. And that means you and me, we make under $40,000 a year. But so what the Biden administration is proposing is we would send that back in a rebate. So at the end of the day, if you're paying some, you're going to get it back. You real not pay any additional taxes. 


It's complicated, but if you want to keep political promises like this, one of the things that's appealing. About going after just these super high people and saying it's these thousand people. If you're not on the list, it doesn't 


include you is, oh, that's actually pretty definable for people. That's something that people might actually believe 


[00:16:44] Mike: Yeah. Yeah. And so then you get to, my next thought was, what are these assets that, how are you going to, value these assets and create a tax on these assets when they're unrealized gains? And so I did read that they were talking about just doing. Public assets, right? So literally, your own a stock or an index fund or a mutual fund where you can see that has a, public price that you can look up and understand that, okay, you own this amount of shares and it's gone up with this amount. 


So that makes sense. 


But a lot of these, I assume a lot of these thousand individuals have massive amounts in private areas as well, and can easily translate from public to private. This is why the whole avoidance thing is just gonna be. I'm not 


going to be say they're easy ways and I'm not I'm not an expert. 


Let me put it this way, Matt. I don't have a lot of billion dollar clients. So I'm not an expert in all these strategies, but you can pretty easily imagine how you can swap public assets for private assets. Make things hard, obfuscate things, and make them hard to understand and get rid of assets in such a way that you don't need them to live. 


If you've got a few billion dollar. Like you said, you go to the bank and borrow money. You can get rid of assets in different ways by dynasty trusts and charitable trusts and other types of strategies to reduce them, get them out of your estate. 


[00:18:00] Matt: It's a little bit like squeezing a balloon, right? You put pressure on over here. The air is going to all rush and ballooned out over there. And you're right. That, that you're creating an incentive system. This has always been the argument about taxation. Is that you're essentially giving incentives for people to move money around, to avoid it. 


We spend a lot of time on this show talking about how to move money around to avoid taxes. And some of that can be intentional. If you set up your policy in a smart way, that's one of the reasons. for example, put a lot of taxes on things like cigarettes, because you want people to invest less in smoking. 


That's a policy outcome that you're looking for. I do think one of the interesting findings. Recently has been that revelations, like the Panama papers matter, they actually have an impact. These high net worth ultra high net worth individuals do care to some degree. Not everyone. A lot of them have a kind of double-barreled forget you kind of reaction to this stuff, but they do seem to care. 


And yes. You're probably setting up incentives for people to move assets around. Hey, if you're going to assess this capital gains realization tax to me, if I'm above a certain net worth, yada and it's going to apply to these kinds of assets, like these kinds of stocks, but not to let's say real estate assets. 


What am I going to do? I'm gonna sell some stocks and I'm going to move things over. We'll probably catch some people in the transfer anyway and get some tax out of that. But at the end of the day, what you're hoping is that you can shame people. Into paying more of their taxes. People don't want to end up on public lists that it's like, you're worth $3 billion dude. 


And you're paying like less in taxes than I do that. That seems wrong. And people don't like to be on public lists like 


[00:19:55] Mike: Yeah, no, that's true. And it will be interesting. One of the, one of the things that caught my eye too, was that. 


they were going to retroactively look at the capital gains. What was it like in beginning of October, September, That's when the date was going to come in so that you couldn't just go ahead. 


It's not oh, this is coming in six months or a year. And so that you could sell things and get the current rate, or give things away. It was like, no, it was going to be backdated like this date here in the last quarter which I found surprising as well, and that wasn't in this reason article that isn't in. 


A few weeks ago it said, oh yeah, this change that's being thought about. I think it was a capital gains. The changing the capital gains taxation rate was going to be retroactive 


[00:20:37] Matt: It goes to show, I think this whole conversation that economists worry about. Optimal tax strategies, efficient taxation, what's the most efficient way to set up a tax system so that you're not creating perverse incentives for people to undertake. Activities that you, as a society don't want, you want people to be economically productive. 


You want them to still want to work to their maximum extent. You want to get the most tax with kind of like the least tax burden. You can, all those things. The reality is. Everyone's got a plan. What did what did Mike Tyson say? Everyone's got a plan until they get punched in the face, 


[00:21:19] Mike: in the face. 


[00:21:20] Matt: And and no tax plan does well after it gets punched in the face, by the reality of practical politics and policy. 


And these things are complicated. Like they're super hard to enforce. You gotta think about that. There's people's public perceptions of them. Often bear, no resemblance whatsoever to the reality, these things. So you could say, Hey, we're only raising taxes on people worth more than a billion dollars a year. 


And people were like, I don't know. I don't trust that. And so once it all goes through the sausage making process of Washington DC, you get some pretty nice. Tax outcomes. And that's why people like you have a business to run because 


it's 


[00:21:59] Mike: all. I was thinking. 


[00:22:00] Matt: it's so complicated. It's yes, I've got to explain all this to people. 


[00:22:05] Mike: That's all I was thinking while you're were talking. Yeah, let's keep those thousands of pages in the tax code so I can help people. 


try to navigate simple ways of saving money. 


[00:22:15] Matt: Oh, absolutely. And look, this is why a, what was his name? Forbes. Steve Forbes, years ago I was like flat tax. You do it all on a postcard. It's oh, that actually sounds pretty appealing until you start to think about the fact that people like him would pay. The same as people like you and me and no one likes that no one really likes that idea. 


Of course, you can make a flat tax progressive. This is this is actually a thing you can do it. It's all about what's in the base of the tax. So what does the tax apply to and what does it not? But then you run into all these gradual realities. Again, you run into. 


[00:22:45] Mike: gone from one page to a hundred pages to a thousand pages. 


[00:22:48] Matt: before, it, people like you have an awesome job again, trying to explain all this to people. 


And yeah, it's, there's no good answers. But at the top of the show, your question was, is this 250 billion that they're projecting real? I think the short answer to all of that. it's probably not real, but yes, they probably have thought about all the tax avoidance that's going to happen. If they do this, it's probably the politically most expedient thing to do. 


And if they're off by a little bit, they're ballparking with all this stuff. 


[00:23:19] Mike: gotcha. Gotcha. If any billionaires would like to come on to the show and tell us what they think about all of this and how they're going to avoid it. That'd be great too. 


[00:23:28] Matt: unfortunately, there is an appearance tax of a hundred thousand dollars split evenly between me, Matt Robeson and Mike Morton of Morton financial advice. We will talk about assessing that tax. Hard it is to avoid on our next show, but we're going to have to leave it there. Mike, thanks so much for being on. 


[00:23:47] Mike: Thanks, Matt. Thanks for joining us on financial planning for entrepreneurs. If you like, what you heard, please subscribe to and rate the podcast on Apple iTunes, Google play Spotify, or wherever you get your podcasts. You can connect with me on linkedin or mortonfinancialadvice.com. I'd love to get your feedback. If you have a comment or question, please email me at . Until next time thanks for tuning in