Warren Buffet Lies from the Pulpit

Ah, the beloved Warren Buffett. He's the second richest man in the world according to Forbes, and he's America's self-appointed corporate virtue czar, the Bill Bennett of the executive suite. He's the one whose folksy Berkshire Hathaway Corporation annual reports sermonize against the sins of stock options, demonize the coming debacle in derivatives, and preach against the perils of pension accounting. And he's the one who wrote an op-ed in the Washington Post yesterday blasting President Bush's plan to eliminate the unfair double taxation of dividends -- using arguments based on accounting tricks that would make Arthur Andersen blush.

It's ironic. In the column he talks about "voodoo economics" and "Enron-style accounting" -- but that's precisely what Buffett has no choice but to stoop to in order to justify his position that eliminating dividend taxes "would further tilt the tax scales toward the rich." Tilt? Further? According to the Internal Revenue Service, the top 10% of American households by income pays 66% of all the income taxes, and according to the Congressional Budget Office, the relative burden on the highest income-earners has gotten heavier over the last two decades.

Yet Buffett starts by making the extraordinary claim that he and his receptionist currently both pay the same 30% of their very different incomes to the federal government. This is pretty much impossible unless receptionists in Omaha are paid more than the CEO's of the companies they work for. Buffett takes a salary of $100,000 from Berkshire Hathaway (according to the company's most recent proxy statement) -- and assuming that his receptionist makes the same amount, then her average federal tax rate would be something like 16%, according to the IRS's online calculator. Adding the 6.2% payroll tax paid by her employer, we get to about 22%. Her salary would have to be about $250,000 to get up to the 30% Buffett claims. Can I have her job?

Okay, let's give Buffett a pass on that one and assume he's got the highest paid receptionist in Omaha (or anywhere else). Even if he and she are both paying 30% of their income in federal taxes, are they in any sense equal as taxpayers? No -- because the dollar amounts of their payments are vastly different. At 30% of $250,000, the reception is paying $75,000 in taxes. Working backward from figures provided by Buffett in his column, we can guess that his income must be something like $50.3 million dollars. 30% of that is $15.1 million.

Buffett isn't paying the same as his receptionist -- he's paying 201 times more.

Now let's see how that would change if taxes on dividends were eliminated. Buffett looks at a scenario in which Berkshire Hathaway declares a $1 billion dividend (it actually pays no dividend currently), to which 31% stakeholder Buffett would be entitled to $310 million tax free. That would raise his total income to $360.3 million, on which Buffett says he'd pay an average tax rate of 3%. Buffett says, "And our receptionist? She'd still be paying about 30 percent, which means she would be contributing about 10 times the proportion of her income that I would to such government pursuits as fighting terrorism, waging wars and supporting the elderly."

But 3% of $360.3 million is $10.8 million -- still 144 times what the receptionist would pay.

But be that as it may, here's Buffett's big accounting trick: what he doesn't tell you is that, because Berkshire Hathaway pays no dividend now, if it were to pay one tax-free in the future nothing would change! Yes, Buffett's money would be transferred from his corporate pocket to his personal pocket -- but if he wanted to transfer it back, Berkshire Hathaway could issue more stock and he could buy it. Nothing would change.

Buffett's average tax rate would not even change in the way he claims it would. Yes, income from dividends he's already receiving would become tax-free. But other than that, if he claims that his new tax rate would be 3%, then it must be pretty close to 3% now -- except that Buffett is choosing to arbitrarily not consider as income his money already being earned inside Berkshire Hathaway that is simply not being paid out. It's still his.

In that sense, Berkshire's failure to pay that money out to him right now and subject it to today's dividend tax rates is, at heart, a tax shelter (of which Buffett says in the column "I've never used any").

And Buffett pulls another big accounting swindle when it comes time to recommend what he would do rather than eliminate dividend taxes. "Instead, give reductions to those who both need and will spend the money gained… Putting $1,000 in the pockets of 310,000 families with urgent needs is going to provide far more stimulus to the economy than putting the same $310 million in my pockets."

The swindle? Buffett pretends the proposed tax cut was the entire $310 million value of the dividend, not just the elimination of the current tax on the dividend. Bush's plan wouldn't have never have put $310 million in Buffett's pocket -- all it would have done is save him the tax on $310 million, call it $110 million. Sound familiar? Paul Krugman makes Bush's tax cuts look expensive by "forgetting" to divide by ten; Buffett's not a Ph.D. economist, so he only "forgets" to divide by 3.

Buffett moralizes, "When I was young, President Kennedy asked Americans to 'pay any price, bear any burden' for our country." Yet for all his moralizing, Buffett's column never deals with the moral problem at the core of the current double taxation of dividends. Money paid out to shareholders as dividends was the shareholder's money all along -- money that has already been taxed when the corporation pays its corporate income tax. The payment of a dividend is nothing but a transfer of someone's already taxed money to himself.

If Buffett wants to make the judgment that the rich should pay more for government services to be enjoyed by all, then let him do so, and let him suggest optimal ways that such taxes should be levied in the future. Hey, in the meantime, Warren Buffet should feel free do a little leading by example by personally paying more taxes voluntarily. But even if he's not quite that sincere, if Buffet has any moral convictions about such things he should at least refrain from the hypocrisy of making his arguments using the kind of accounting tricks he damns others for.

Don Luskin is Chief Investment Officer for Trend Macrolytics, an economics research and consulting service providing exclusive market-focused, real-time analysis to the institutional investment community. You can visit the weblog of his forthcoming book ‘The Conspiracy to Keep You Poor and Stupid’ at www.poorandstupid.com. He is also a contributing writer to SmartMoney.com.