McCain's Bogus Capital Gains Claim

Washington Matters

McCain's Bogus Capital Gains Claim

There's a legitimate debate to be held over the capital gains tax rate, but unfortunately we don't seem to be having it. Instead, we're getting a lot of misinformation (to use the kindest word), with John McCain the biggest offender.


The candidates have an honest difference over the top capital gains rate. McCain wants to keep it  at 15% as it is now. Hillary Clinton is open to raising it to 20%, and Barack Obama will consider going as high as 28%.


In a speech last week, McCain said the Democratic plans would amount to a major tax increase for 100 million Americans who own shares in companies or mutual funds in their IRAs or 401(k) plans. He repeated that claim in an interview yesterday on ABC, and moderator George Stephanopoulos let it go unchallenged.


Yet it's not even close to being true and McCain must know it.


IRAs, 401(k) plans and other tax-advantaged retirement plans are not subject to capital gains taxes. To encourage savings for retirement, contributions to those accounts are made in pre-tax dollars -- and when money is withdrawn during retirement, it is taxed as ordinary income. (If contributions are made to Roth accounts, the money is taxed as income up front and not subject to any type of tax upon withdrawal.)


In fact, according to the IRS, fewer than 18 million tax returns included a capital gain in 2006 -- less than a fifth of the number McCain throws about -- and overwhelmingly, they are in the upper income category. (Eighty-one percent of capital gains were reported by those with more than $200,000 in adjusted income.) That makes it pretty hard to argue that a higher capital gains rate would be a tax hike on the middle class.


This kind of phony debate demeans the process and draws attention away from what should be a more legitimate discussion -- whether lower rates are good for the economy and how they affect government revenue. McCain could argue that a lower rate helps boost the stock market, which WOULD help the 100 million Americans with retirement investments, or that it promotes investing, which is good for the economy and markets overall. But instead of these legitimate arguments, he seems more intent on scaring middle-class voters.


McCain's standard explanation also argues that cutting capital gains rates has always boosted, not reduced, federal tax revenue. There's certainly evidence to support that, but the Congressional Budget Office says the revenue numbers are hard to interpret. When a cut is promised, some taxpayers hold on to investments and then sell when rates go down, producing a temporary boost. The CBO say a similar spurt of selling is likely if Democrats promise to raise rates, but that in either case, these are short-term changes. Over the longer term, capital gains revenue tends to flatten out.