James B. Stewart wrote about his federal tax rate at the New York Times and dared readers to send in their own tax returns. What he got back is something remarkable: A private equity manager who pays a total effective tax rate — local, state and federal — of 102% on his taxable income.
He lives and works in New York City, which all but guarantees a high tax rate. Nearly all of his income is earned income and thus fully taxable at top rates. (He said that’s not always the case, but given the recent dire condition of real estate, in 2010 he had few capital gains and his carried interest didn’t yield any income.) Unlike me, he can’t make any itemized deductions, which means his adjusted gross income exceeds $1 million, the level at which New York State eliminates all itemized deductions, except for 50 percent of the value of charitable contributions. Mr. Ross said he gave 11 percent of his adjusted gross income to charity.
That means Mr. Ross can’t deduct any interest expense on the money he borrows to finance his real estate investments, which is substantial, nor can he deduct any other expenses or other itemized deductions except for part of his charitable contributions. This means he pays an enormous amount in state and local taxes. Since those are among the deductions that are disallowed when computing the federal alternative minimum tax, Mr. Ross is in turn especially hard hit by the A.M.T.
Because Mr. Ross has so many deductions, his tax as a percentage of adjusted gross income, as opposed to taxable income, is 20 percent, which is much lower than mine. Still, all those deductions, such as interest expense, are money out of Mr. Ross’s pocket, which is why he has had to draw on his savings to pay his taxes.
The important thing to note here is that we’re using “taxable income” rather than “adjusted gross income.” Taxable income is what you get after you subtract all those personal exemptions and deductions (charity, etc) from AGI. Romney famously paid a tax rate of less than 15 percent. That was going by adjusted gross income, which was $21.7 million. But his rate on taxable income ($17 million) would have been 17.5 percent.