High Taxes Lead to Lower Taxes

The politicians in New Jersey are getting a little nervous. The already-shaky state budget is about to get shakier as the government loses out on tens of millions of dollars. And there is nothing they can do about it, except actually spend less.

David Tepper is the founder of a hedge fund. He is reportedly worth more than $10 billion, making him one of the richest people in the world. He has had his operations set up in New Jersey for years, but he has finally had enough.

Tepper has established a branch for his business in Florida and has changed his home address to a condo in Miami.

New Jersey has one of the steepest state income taxes in the country, with the top marginal rate at nearly 9%.

Florida has no state income tax. It is one of just nine states that can make this claim. Florida also has no personal capital gains tax. There used to be an intangible tax on wealth, but that was abolished about a decade ago.

While Tepper will still be forking over hundreds of millions of dollars to the federal government in Washington, D.C., he will be saving himself nearly 9% on his state taxes. My only question for him is: What took you so long?

Connecticut, another high-tax state, lost a few billionaires recently, so this is not unique to New Jersey.

I know that a lot of people aren’t fond of hedge funds, but it can be a legitimate business. When you are worth billions of dollars, you are doing something right. Some of the ultra rich are connected to politicians and big government, but you have to be providing some kind of a service to get that rich. Unless you are running a Bernie Madoff scam, then you are meeting customer demand in some way to make that much money.

Avoiding Taxes

Many of the ultra rich are leftists. It is hard to say if they really believe what they say or if they are just saying it for show. Maybe some of them really do feel guilty for having so much money.

But there is nothing wrong with wanting to keep the money you earn. Billionaires generally aren’t capable of spending a billion dollars on themselves. It ends up going into foundations and charities.

Warren Buffett, who is a proponent of higher marginal tax rates for high-income earners, has been asked why he doesn’t pay higher taxes voluntarily. After all, anyone is free to write a check to the government for more than they legally owe. The politicians will gladly accept it.

In a 2007 interview, Buffett responded that his choice of charities would do a better job of spending the money than the government. In other words, Buffett just doesn’t think you are capable of spending your money wisely or charitably. He is not the problem — everyone else is.

The bottom line is that nearly everyone tries to pay as little as legally possible on their tax return. This includes the rich leftists in Hollywood.

While some may criticize Tepper for dodging taxes, his move is perfectly legal and legitimate. Wouldn’t you do the same if you could? The politicians in New Jersey are to blame for trying to squeeze as much as they can out of the residents there.

Long Live Federalism

The United States was originally thought of as a confederation of states. Each state was basically its own country. The states formed a union in order to share common goals of free trade (no tariffs between states) and defense.

Originally, the United States were thought of as separate entities. Notice the use of the word “were.” Now, one would say that the United States “is.” While the United States used to be plural, now it is a singular entity.

Despite the destruction of the federalist system over the centuries, there is still some competition left between the states. New Jersey politicians are quickly realizing this reality.

It is not all that hard to pick up and leave a state, especially when you are the founder of a hedge fund and worth billions of dollars.

Perhaps Americans should pay attention to the same phenomenon happening in the country. It isn’t necessarily people moving out of the country, although that is happening. It is businesses moving headquarters to foreign countries, along with outsourcing.

I know almost everyone likes to blame China and cheap labor for jobs going overseas. There is no question that cheaper labor does come into play. But it is the taxes and burdensome regulations that are ultimately responsible for this. There was a lot of cheap foreign labor 50 years ago, but companies weren’t anxiously looking to outsource.

The U.S. has one of the highest corporate tax rates in the world. And the tens of thousands of pages of regulations make everything more difficult and expensive.

It is not a light decision for a major business to move some of its operations overseas. There have to be a lot of advantages to move thousands of miles away.

So while it is not easy to move to another country, it still happens. Just as there is competition between states in the U.S., there is also competition from other countries.

Chasing Out the Victim

It is hard to call someone a victim who is worth more than $10 billion, but it is likely that Tepper felt like he was getting ripped off. He didn’t change his address to New York or California. There is a reason he picked Florida.

These politicians, along with the soak-the-rich voters, take these people for granted. They think they can just keep squeezing and take as much as they want. Tepper obviously doesn’t need an extra $50 million or $100 million in tax savings. But it is his way of sticking it to these people.

Tepper’s hedge fund — Appaloosa Management — is a really successful fund. It survived the fall of 2008 and then bet on the struggling banks in 2009 at a time when most people didn’t want to touch them.

In 2015, it is estimated that Tepper had an income around $1.2 billion before charitable deductions. A nearly 9% tax on a billion dollars is a lot of money to give up.

If Tepper made this much money, you can imagine that he made a lot of money for his clients. His net worth has more to do with his performance than his political connections. Compare this to another New Jersey resident, former governor and crook Jon Corzine, who lost hundreds of millions of dollars for his clients at MF Global.

In the 1980s, the Laffer Curve was used to justify lower marginal tax rates. The theory is that if tax rates get high enough, it can actually lead to a decrease in tax revenue for the government.

The interesting thing is that the Laffer Curve probably applies to state governments even more than it does to Washington, D.C. Higher tax rates may be an incentive to do less work for some people, but that isn’t typically the case. The higher tax rates do reduce opportunities for investment and expansion. If you have to pay more to the government, then that is less you have for investment purposes.

But when you are talking about state governments, there is another aspect to the Laffer Curve: it is easy to move. One person is moving out of New Jersey, and the state is all of a sudden facing tens of millions of dollars more in a budget shortfall.

He may only get one vote in the voting booth, but Tepper figured out that he can vote with his feet, and this really does have an impact.

Toleration Threshold

Everyone has a breaking point. It is just further away for some than others.

Luckily, the American people are near their threshold. The federal government has not been able to increase tax collections since World War II ended. The taxes collected annually are typically just under 20% of GDP.

Unfortunately, the government is able to increase spending in real terms by running deficits. The American people are more tolerant of this.

The other unfortunate thing is that bureaucracy and red tape continue to grow. Other than serving a few special interests and providing employment for bureaucrats, most of these regulations only make things more difficult in doing business. It is the regulations as much as it is the taxes that drive companies to do business overseas.

The American people will continue to maintain this taxation threshold. We should not expect any major tax increases in the coming years, or even the coming decades. That seems to be where the American people draw the line with big government.

The bad news is that the federal government will continue to run big deficits as long as the Federal Reserve and other investors are willing to fund it. Invest accordingly, as Federal Reserve inflation will be the hope of the D.C. politicians.

That is the problem for New Jersey politicians now. They don’t have a printing press to make up for the lost tax collections. And if they raise taxes even more, they could just end up losing even more people. There aren’t many billionaires around, but there are a lot of millionaires that could still leave the state.

Until next time,

Geoffrey Pike for Wealth Daily