Money Sundays: Cigarette Taxes, Soda Taxes and Income Taxes Are The Same Exact Thing

Warning: A few readers might become bored or irritated by this post. Those are the readers I want to have read it a second time.

When you raise soda taxes, the obvious purpose is to discourage drinking soda, right? Likewise, when you place higher and higher taxes on cigarettes, the purpose is to discourage smoking. I mean, duh.

Said another way, one of the functions of taxes (beyond the obvious function of raising money for the government) is to mold and manage behavior. Of course, there can be exceptions: if you hate soda, a soda tax won't impact you no matter how punitive it is. Likewise, you might continue smoking no matter how expensive cigarettes get.

But for now, let's think in terms of the general impact. Overall, hiking taxes on cigarettes makes people in general smoke fewer cigarettes, and hiking taxes on soda makes people in general drink less soda. So the impact is real at the societal level, even though there may be exceptions on the individual level. Makes total sense, right?

Okay. Let's add a twist to this concept: What if we thought about taxes on income using this framework?

In other words, what if the tax rates on certain kinds of income are lower than the tax rates on other kinds of income? Wouldn't it be self-evident to say that the government favors the earning of income taxed at lower rates, while it also discourages earning income taxed at higher rates?

I want readers to to think through what this framework suggests about their personal savings and investment decisions. Consider why a government might want to encourage investment in the economy, and why it would be supremely logical to use the tax code as a tool to do so. Then, consider why certain investments are highly taxed, other investments are taxed less, and some investments are juicily tax-free.

Now, a question: when you think about this topic, do you get political? Do your emotions fire up and your logic center shut down? Do you mentally shake your fist at those dumb politicians who made up all those dumb tax rules? Do you get angry, and then autonomically assume these rules exist only to help "the rich"? Do you even go so far as to picture some imaginary greedy rich dude somewhere getting a free ride on his lame-o "tax-free" investments?

Yeah. Me too. :)

It's okay to do this--for a second or two. But then, please get over yourself, take action, and learn how to make these types of investments yourself. Don't give your power away to the tax code, to your emotions, or to some imaginary rich dude who doesn't even exist. Instead, take your power and put the tax code to work for you. Start taking steps to secure your financial future by seeking out those favorable tax rates and putting your money to work there.

Finally, don't make up hypothetical guilt complexes about taxes. Please don't financially emasculate yourself this way.

Lose the guilt and emotions on taxation. Recognize that the tax code is the tax code is the tax code. You are free to attempt to effect changes to it through your elected representatives, but in the meantime, you are also entirely free to earn income in any form you want. And the government will tax that income at the rate it specifies.

And if tax rates are higher on certain types of income and lower on other types of income, why hasn't it occurred to you that our society is in reality doing the same thing it does with cigarettes and soda?

So seek out income that the tax code favors. Put your money where it will work hardest for you. There is nothing wrong with doing this.

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figleaf said...

"the obvious purpose is to discourage drinking soda"

Is this strictly true? It's certainly true for certain impulses in policy making.

But, for instance, Peter the Great's "obvious purpose" for raising the salt tax wasn't to get people to eat less salt -- indeed, historians say thousands to hundreds of thousands poor Russians may have died - horribly - of salt starvation! Instead his intention was to raise revenue for his pet projects.

In less draconian terms (I'm not comparing Mayor Bloomberg to Peter the Great) certain commodities, transactions, or practices may be taxed because a) consumption is seen as highly inelastic and b) unlike salt, even if consumption or productivity is lowered somewhat it's not going to kill anybody.

I always thought that was the true purpose of "sin" taxes.

Oh, and c) in some cases, even where it might result in lower consumption and/or productivity as in the case of tax on forms of income the return on the involuntary investment is nevertheless higher than other likely uses. (See, for instance, the returns on public health research and public sanitation vs. use of undiverted discretionary income to purchase nosegays to forestall typhus or life insurance to mitigate its aftermath.)

There is one area, I think, where Cigarette and soda taxes and, say, sales and income taxes are similar: taxing entities tend to become more rather than less invested in expansion of those commodities, transactions, or practices. Or at least more sanguine about its depredations.

The only exception, I'm guessing, are instances where the "sin" indulged in actually ends up costing taxing entities more -- as in mandated indigent healthcare for debilitating, lingering, and therefore persona-bankrupting consequences such as lung cancer and diabetes.

That final point bears more scrutiny though: the reverse of taxation is subsidization. Which, in keeping with Casual Kitchen's philosophy, leads one to wonder how the costs and benefits of subsidizing big corn, big wheat, big sugar, and the rest of heart- and pancreas-destroying big agra are that it persists.

I have no doubt that Bloomberg's attempt to tax soda is motivated by a desire to reduce soda consumption. But I think in general it's more of the use of an at-hand policy hammer rather than the most logical purpose for taxing a thing.


Lauren said...

Wait, there are people who don't know that tax shelters are a means of driving individual economic decisions from the back seat?

Figleaf's lext-level comment is strong too though.

Daniel said...

Figleaf: I hear you. But in plenty of instances, sin taxes are just another way to drive more streams of revenue for municipal, state or federal government. It just happens to be extra convenient if you can further justify it with some ostensible social benefit.

Heh, and it's even more convenient if the product has inelastic demand, right? Still *more* tax money raised. But of course, if the demand is truly inelastic (which means the tax actually doesn't meaningfully reduce demand), then this makes any social purpose of such a tax become kind of... pointless. I guess.

But what I was getting at in this post was to shake up how people think about personal income. I'm trying to get people to see the enormous advantages of supplementing work income as much as possible with investment income.


Anne @ Unique Gifter said...

I appreciate how you connect the dots for folks here. While the examples are relatively inelastic (presumably, I don't really know how elastic coke will turn out to be), the concept generally prevails.
Also, thanks for directing people to utilize their money in a tax advantageous way. Feel free to expand it to retirement investments, which most people hold as shares in those "big bad corporations" that they want taxed at a higher rate, to the detriment of their portfolios. That's a simplified sentiment I'm expressing, but the jist of it is true.

Daniel said...

Anne, thanks. I'm grateful for the feedback.

Many readers react to topics like taxation, money and investing (uh, and food too) in a highly emotional way, and that way only leads to disempowerment. I'm happy you see what I'm doing here for what it is.