1. Mike says, "Mankiw assumes that his investment earns 8 percent every year and is subject to the corporate income tax at 35 percent and then to the individual income tax at its full fury of 40 percent on whatever’s left."
No, I did not assume that at all. If I had assumed that, then the after-tax return would be
8 x (1-.35) x (1-.4) = 3.19 percent.
In the article, I used “about 4 percent” as the after-tax return, recognizing that dividends and capital gains are taxed at a lower rate.
2. Mike says, "The top marginal tax rate on dividends and capital gains — the two main ways investors recoup their investments — is 15 percent."
No, it is not, at least under the current administration's policies. President Obama has proposed raising the tax rate on dividends and capital gains to 20 percent. In addition, the healthcare bill applies the new 3.8 percent Medicare tax to investment income. Moreover, the state of Massachusetts (and many others) taxes that income as well. So my marginal tax rate on dividends and capital gains is really about 27 percent.
That would yield an after-tax return of
8 x (1-.35) x (1-.27) = 3.8 percent.
I rounded up to 4 percent, as a rough attempt to take into account the benefits of deferral.
3. Mike says, "Mankiw’s assumption of an 8 percent return for 30 straight years seems optimistic."
No, I don't think so. Recall that this is a rate of return before all taxes, including corporate income taxes. Also, it is worth thinking for a moment about whether this return is best viewed as real or nominal. (I skirted this issue in my column, for reasons of space.) The tax code taxes nominal returns--that is, capital gains are not indexed for inflation. As a result, for purposes of tax calculations such as these, the right return to use is arguably a nominal return. A long-term before-all-tax nominal return of 8 percent seems, if anything, too low.
4. Mike says, "If Mankiw’s marginal tax rate has actually been 80 percent for all these years, it doesn’t seem to have affected his incentives very much, and 90 percent won’t, either."
Mike might recall that he has, as an editor, several times tried to recruit me to write something for him. I turned him down every time. If he had offered me a reasonable fee, and somehow could have promised that this income and all the investment returns it subsequently generated would be free of all taxes, I might well have accepted the jobs.
Addendum: Some blogger named Barry Ritholtz poses a bunch of questions for me, which I won't bother taking the time to answer. Unless, of course, he offers to incentivize me sufficiently. For free, however, I will answer one of them: "You teach at Harvard and live in 'Taxachusetts.' If state taxes are so important, have you considered teaching at Yale, and living in much lower state tax land of Connecticut?"
First of all, the top state income tax rate is higher in Connecticut than it is in Massachusetts.
Second, Yale? Are you serious? Yale?