4 Tax Deductions That Favor The Rich

The tax system in the United States is continually changing. Yet tax code changes are frequently a hotly debated matter, particularly when it comes to advantages that are considered to favor the rich disproportionately.

In reality, the tax law is rife with possible deductions that some argue primarily benefit the wealthy. Is this, however, true?

How do tax deductions work?

It’s simple to see why some believe tax breaks benefit the affluent more. A tax deduction is an exemption from paying taxes on a percentage of your income. Simply, if you claim a $1,000 deduction, the IRS will not tax your earnings of $1,000. But, the quantity of savings you accumulate will be determined by your earnings.

Taxation is based on a marginal system, which means that your top dollar earnings are taxed at a greater rate than your lowest dollar earnings. As a result, a higher income is more likely to fall into a higher tax band than a lesser earner. Therefore a tax deduction may be more valuable to that higher earner.

Let’s return to our $1,000 tax deduction scenario. If you don’t make a lot of money and fall into the 12% tax rate, a $1,000 tax deduction will save you $120. If you earn a lot of money and are in the 37% tax rate (the highest one), the $1,000 deduction will save you $370 in taxes.

In this situation, the higher earner receives almost three times the tax reduction.

But, just because tax breaks benefit the wealthy to some extent does not mean the tax code is clearly tilted in that direction. In truth, there are a variety of tax benefits available to lower-income taxpayers but not to higher-income taxpayers.

Mortgage interest: an inducement to buy a home?

The mortgage interest deduction on your federal tax return is designed to encourage homeownership by providing a tax credit on the interest you pay on your mortgage note.

There is little doubt that it helps both middle-class and rich homeowners. But does it offer a strong financial reason to buy rather than rent? Not at all.

According to a research conducted by The Wharton School at the University of Pennsylvania, mortgage interest deductions for families earning between $40,000 and $75,000 average just $523, while those earning more than $250,000 get a write-off of $5,459, or more than ten times as much.

To claim the deduction, you must itemize on IRS Form 1040 Schedule A. You can also deduct the interest paid on a second house if you do. The wealthy do both, while the majority of the middle class does neither.

As a result, the mortgage interest deduction offers no additional incentive to buy a property for millions of taxpayers. It makes no sense in terms of channeling the incentive to those who require or may benefit from it.

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Capital gains: how the wealthy get even wealthier

Why does Warren Buffett pay less income tax than his secretary?

Capital gains are two terms.

Long-term capital gains are taxed at 15% on the sale of investments such as stocks and bonds held for more than a year. It is significantly lower than the maximum tax rate of 35% on regular income such as salaries.

The preferential tax treatment of capital gains is often seen as regressive because the wealthy, who derive a disproportionate part of their income from capital gains, pay less than half the tax rate on that income as compared to middle-class wage workers.

According to Rebecca Wilkins, senior Citizens for Tax Justice lawyer, “capital gains are excessively concentrated.” “The wealthiest 10% get the majority of capital gains, and it’s considerably more concentrated than that.” So the capital gains tax relief, a 20 percentage point difference in the amount of tax paid on them, is nearly entirely going to the top 5%.”

According to Hanlon, People with a yearly income of $1 million or more, or 0.3 percent of all taxpayers, receive 70% of the benefit of capital gains.

According to the Office of Management and Budget, the favorable capital gains rate will save the affluent $38.5 billion in fiscal 2012.

Increase in basis: How the Rich Stay Rich

If the rich save around $40 billion in taxes each year due to the advantageous 15 percent capital gains rate, their successors save even more according to the step-up in basis provided in the United States tax law.

What exactly is the step-up? It permits the affluent to pass on assets that have appreciated in value to their heirs without ever paying any taxes on them.

Furthermore, independent contractors and self-employed employees face extra taxes, such as a 15.3% self-employment tax for Medicare and Social Security.

When you inherit assets such as shares, real estate, or a tightly held business, you can step up their basis — what the dead initially paid for them — to their current fair market value under special Internal Revenue Service inheritance regulations.

As a result, when you sell the assets, you will only be taxed on their appreciation since you inherited them.

According to the Office of Management and Budget, the step-up in base is predicted to save the rich $61.5 billion in fiscal 2012.