The Breakdown | Explaining Southern California's economy

What Warren Buffett is really talking about when he talks about more taxes for the rich

Want a little billionaire backlash with your daily dose of economic turmoil? Maybe you do, if the billionaire backlash you're talking about involves Warren Buffett as something of a class warrior. The Oracle of Omaha recently took to the opinion page of the New York Times to argue that it's high time we stopped protecting the "mega-rich," as if they were "spotted owls or some other endangered species."

Endangered species! Don't put too fine a point on it, Warren! In fact, the mega-rich – whom Buffett effectively defines as "making more than $1 million" a year – are anything but endangered, under the current tax code. Their long-term capital gains taxes have been a modest 15 percent since 2003 (before that, they were taxed at about 28 percent, and in the 1970s, nearly 40 percent). And that's stayed the same through the financial crisis and a change in administration at the White House.

Capital gains are what Buffett is ultimately focused on. This is where the rich (and mega-rich) and the merely well-off part ways in the U.S. The truly rich make their "money with money," as Buffet puts it, while everyone else relies on income in the form of wages and salaries. There's been a fractious debate for years about raising capital gains taxes – and Buffett had previously been dinged along with the likes of Facebook CEO Mark Zuckerberg for advocating a mere income-tax hike for the very wealthy, which still wouldn't touch their real wealth.

He’s now corrected that misunderstanding, although that hasn’t prevented bloggers like Dan Indiviglio at the Atlantic from breaking out the old double-jeopardy angle: How can you tax personal gains on stuff like dividends, when that lucre has already been taxed, at 35 percent, prior to being issued by a company whose shares you own? (Simple: You define the investor and the corporation as separate taxable entities.)

And what about the fact that you’ve already been taxed on the money you invested – in the form of income tax? Shouldn’t that mean capital gains should tax whatsoever? Yeah, sure – unless you understand that the extremely wealthy derive very little, if any, of their income from salary, the source of income tax. They live in the world of what the economist George Goodman, writing in 1972 under the pseudonym “Adam Smith” (Get it?), called “Supercurrency.”

So how would Buffett's proposal go over in Southern California – home to his longtime business partner, Charles Munger, with a net worth of $1.75 billion? 

Well, the median household income in Los Angeles Country, according to the 2010 Census, was $54,375. But we're number one for millionaires, with 268,138, says TNS Financial Services. That's almost a quarter of all millionaires in the state. These households may not be making almost $40 million, as Buffett claims he did last year (of which a mere $6,938,744 went to the IRS). But they're all paying something in the neighborhood of 17-18 percent in taxes on the bulk of their income, and only 15 percent on capital gains. Meanwhile the median earners in L.A. are paying 25 percent.

Obviously, 25 percent of 54 grand is a rather more crushing burden than 17 percent of a million. However, it's also important to remember that there are many more middle-class taxpayers in L.A. County than there are millionaire taxpayers. That’s where the lion’s share of revenue comes from.

Buffett’s proposal actually wouldn't have much of an effect on the current fiscal crisis; for that we're going to need much higher GDP growth and much lower unemployment. At the Wall Street Journal's "The Wealth Report" blog, Robert Frank dutifully points out that the revenue gain from the Buffett Tax would raise "$40 billion to $50 billion a year: equal to about 3% of the annual federal deficit."

Still, that's no excuse to not do it. Who knows when we might need a spare $50 billion or so to bail out General Motors again! 

Buffett, wisely, doesn't take seriously the counterargument that if the rich are taxed on their investment gains, they'll just flee America for more tax-friendly shores. 

This might fly for the idle wealthy with designs on a palazzo in Monaco, but plenty of rich folks in the U.S. – like Buffett – still (sort of) work for a living. Or are closely tied to a local industry. Or enjoy being civic and business leaders. To borrow a phrase from Bob Dylan, they ain't goin' nowhere.

Look at the L.A. net-worth top ten. Do you really think that Eli Broad ($5.8 billion), David Geffen ($5.1 billion), Steven Spielberg ($3 billion), and Sumner Redstone ($2.8 billion) are going to boogie out of Dodge at the first whiff of a return to a 28-percent tax on their capital gains? Of course not.

The financial crisis has actually given Buffett a chance to rally the rich to the cause of contributing more wealth directly to the economy, rather than sheltering it. He's been on this kick before: in 2007 he testified before Congress about the evils of "dynastic wealth." Of course, that was before everything fell completely to pieces. Which may be why Buffett's latest salvo has provoked so much discussion over the past few days.

Photo: Frederic J. Brown/Getty Images