5

THE HIDDEN HAND OF GOVERNMENT

THE PRECEDING CHAPTERS HAVE EXPLAINED WHY WEALTH matters for families and then traced how some families build wealth in their homes and neighborhoods, through their jobs, and via inheritance. At each step of the way, the often hidden hand of government also exerts a powerful force. US government policies are a major driver of toxic inequality, privileging those who have wealth already, making its accumulation harder for those who lack it, and allowing living standards to fall for families who get by on paychecks alone. Federal tax expenditures and other provisions of the tax code disproportionately benefit wealthy home owners, workers with employer-sponsored retirement plans and generous employer-subsidized health coverage, heirs to large estates, and students at affluent private colleges—even as government investments that support typical American families are curtailed. Direct government policies or programs like Temporary Assistance for Needy Families, unemployment insurance, and health care have been intensely debated in the public square, while tax code provisions and tax expenditures receive far less attention.

Thomas Piketty’s landmark Capital in the Twenty-First Century argued that we have entered an era in which gains from wealth—whether in the form of stocks, bonds, or property—outpace economic growth. In this new era, the wealthy continue to grow even wealthier, partly because they have the means to shape policy to work ever more efficiently in their favor at the expense of everybody else. And indeed, scholars and journalists, including Robert Reich, Joseph Stiglitz, and David Cay Johnston, have begun to document the numerous ways in which very wealthy individuals, large corporations, and the financial industry have rewritten the rules of the US economy since the early 1970s, successfully shifting the balance of power between public and private interests in areas ranging from estate taxes to health care to housing finance reform to retirement security to social assistance.¹ Such changes have deepened inequality, and many have remained largely hidden from view and thus absent from public discourse.

Direct public spending and government programs form the visible tip of the policy “iceberg” and are the almost exclusive focus of public debate. The submerged bulk of public policy, meanwhile, includes special favors provided through the tax code and the rules and regulations that shape the US economy, determine growth, and affect the sharing of prosperity.² Together, the result is historic levels of wealth inequality alongside a cavernous and growing racial wealth gap. This chapter details some of the ways in which the policy landscape—from government programs to tax expenditures to new economic rules—shapes the lives of American families and drives America’s toxic inequality.

Toxic inequality may seem unavoidable since the rules that help create it are largely obscured, iceberg-like, shielded by taken-for-granted assumptions, and formulated outside formal democratic channels. But because public policy choices largely drive toxic inequality, it is not actually inevitable or intransigent. Today’s policies mark a significant departure from those of the past, and the very people and corporations who benefit from them the most have advocated for them effectively. We need only look closely to see how policy privileges the wealthy to the detriment of the country’s overall well-being, actively subverting our democratic aspirations and increasing wealth and racial wealth divisions.

Let’s start with Lindsay Bonde, a woman coping with sudden life-changing circumstances, whose savings were depleted at least in part by federal policy more intent on protecting corporate interests than helping families. When we interviewed her in 1998, Lindsay was working as a full-time adult education counselor in addition to performing a few jobs on the side to bring in extra money. She described growing up poor and white in a predominately black and Hispanic neighborhood in one of Boston’s housing projects, where she experienced firsthand court-ordered school desegregation and the tumultuous busing solution. She became committed to bettering life for all children and ended up becoming a community activist, working with a local community development corporation to rebuild her diversified neighborhood. Lindsay counted herself among the “working poor” and wanted her three children to be “higher” than that. By 1998, she and her common-law husband were separated but still shared the house and family expenses. Her net financial wealth was $25,000.

When we talked again in 2010 her three children were all grown up, college educated, working good jobs, and out of the house. She was divorced, had a life insurance policy and stock market investments, and held $3,000 in a savings account. Lindsay’s ascent from the working poor to middle-income status had peaked in 2007 with an income of $47,000 and net wealth close to $75,000, including her share of home equity. In impressive ways this poor, white woman had broken into the middle class and saw her children start their adult lives in far better circumstances than she had, just as she hoped.

But her life took a sudden turn for the worse. Her middle-class status collapsed in 2007, when, after working for twenty-two years as an educational counselor, she was diagnosed with osteoporosis, had to have spinal surgery, and could no longer work. Her disability meant she could no longer climb the stairs to her part of the house, which she still shared with her former husband. Using her share of home equity as a large down payment, Lindsay purchased a home in a modest Boston community that could better accommodate her limited mobility.

Unable to work and requiring powerful medicines for her chronic and debilitating condition, she saw her income cut nearly in half to $29,000, and because she had worked for over two decades and contributed to Social Security, most of her income came from Social Security Disability Insurance. Her insurance copayments, out-of-pocket medical expenses, and transportation to appointments cost her $200 a month.

A lot came undone for Lindsay Bonde. With her income nearly halved, amid rising medical costs, she started to accumulate large credit card debt ($9,000) and began withdrawing funds from savings and investment accounts. By 2010, excluding a life insurance policy and a retirement account, she owed $100 more in credit card debt than the combined money in her savings account and the value of the stocks she still owned. It appeared unlikely that her depleting wealth could continue to protect her against emergencies or unexpected expenses. Moving forward, Lindsay is most concerned about her health and associated medical costs; she hopes to remain independent and not to become a drain on her children’s resources.

One key factor in Lindsay Bonde’s slide from the middle class was the terms set by government policy on which she could receive the drugs essential to treat her degenerative osteoporosis. Americans now pay higher prices for medicine than people in any other advanced nation. On average Humira, often prescribed for her condition, costs over $1,900 per month in the United States compared to less than $1,000 in New Zealand; it is more expensive in America than in any advanced country. Drugs like this are so much more expensive in the United States due to the effective influence of the pharmaceutical industry on policy and rules. Medicare Part D, for example, implemented in 2006 to provide better coverage for seniors and people with disabilities like Lindsay Bonde, covers nearly 40 million people. Despite being the largest federal drug program, in rules written at the behest of the pharmaceutical industry, Medicare is not allowed to “interfere with the negotiations” between drug companies and plan sponsors or pharmacies. Thus the federal program is prohibited from using its purchasing power to buy needed drugs at better prices because it orders huge quantities.³ This key provision prohibits government from negotiating the lowest possible price—which is what the Veterans Administration (VA) does. It’s what every business owner does. It’s what every other industrialized nation does for the universal health care of its citizens.⁴ Corporate and financial elite power trumps the obvious, practical, and healthy choice.

As a result brand-name drugs cost Medicare Part D twice the median price of the same drugs in the thirty-one democratic and market-oriented countries of the Organization for Economic Cooperation and Development. Medicare pays 73 and 80 percent more, respectively, than Medicaid and the VA, which have more leeway in leveraging lower drug costs for larger purchases. This leads Medicare to pay approximately $16 billion more a year than if it could negotiate the same prices as Medicaid and the VA.⁵ Instead of saving money for the public and the people who require these drugs, rewritten rules deliver $16 billion more in profits to drug companies.

The legislation and other rules protecting pharmaceutical companies’ profits at the public expense were crafted out of public view and manipulated so that virtually no accountability or public scrutiny could take place.⁶ Lindsay Bonde’s health and medical needs and those of millions like her were not represented; nor was the public interest. As her life circumstances changed and as policy failed to support or protect her, the high cost of essential medications quickly exhausted Lindsay’s life savings, built from twenty-two years of hard work. Government policies contributed crucially to Lindsay’s financial descent, growing vulnerability, and declining ability to take care of herself.

WE SPOKE TO ANOTHER WOMAN WHOSE EXPERIENCE ILLUStrates the effect of federal tax policy on average families. When we first talked to Reese Otis in 1998, she was finishing her PhD in Boston and married to a legal aid attorney. The two divorced, and a few years later she reconnected with a childhood friend who was living in Los Angeles and working at a consulting firm. Both hailed from South Carolina, and when they married, they decided to move back there to raise their two daughters from previous marriages. In 2003, they bought and remodeled a house together on an island a short ferry ride from the mainland. Reese—who was forty-six when we spoke with her in 2010—grew up on the island and was thrilled to be back.

Armed with a PhD, Reese had taken a job in 1998 working for a foundation focused on housing, refugee settlements, and immigration throughout the world. She slowly worked her way up, taking various positions over the course of twelve years, and continued to work remotely for the foundation after moving back to the Southeast. Just before we spoke in 2010, she had voluntarily accepted a generous severance package from the foundation and changed careers, starting by teaching a few courses part-time.

Reese had achieved considerable economic and professional mobility in her lifetime, even while her family income had fluctuated widely as both she and her husband moved among full-time work, part-time jobs, and periods without paid employment. When we spoke in 2010, Reese and her husband—who are both white—enjoyed two incomes and counted on occasional help from their families. Their combined income was $80,000—above the median but squarely in the middle class. Reese expressed some anxiety, however, about having hardly any savings for retirement; indeed, she and her husband had few assets besides their house and no investments.

The Otises’ income came exclusively from their paychecks. As a result, they typify how federal tax policies favor wealth over earnings and thereby actively disadvantage over 45 million middle-income families like this one. After accounting for some standard deductions, Reese and her husband would pay a composite tax rate of 14 percent on their $80,000 income, yielding a federal income tax of about $11,500. The dollars and cents would look very different for a family that had the same amount of annual income from proceeds on invested capital rather than paid work. Assuming a healthy return, such a family would need to have invested approximately $1.6 million to net $80,000 in income—and because of the difference in the capital gains and income tax rates, they would pay just $765 in taxes to the Internal Revenue Service (IRS), a difference of over $10,000.

The disparity is even greater for higher-income families. About one in twenty families bring in $200,000 or more a year from their jobs, an income that places them in the top 5 percent of earners. In 2015, a couple with a combined income of $200,000, with no investments or other income, would pay a composite 22 percent tax rate, assuming they did not use deductions to reduce their liability or other tricks to hide their wages. Their income would yield $43,000 or so in tax revenues for the federal government. A family who did nothing other than invest its wealth in stocks or property, receiving $200,000 in returns, would owe significantly less. Their $200,000 gain would be taxed at the lower capital gains rate, with the first $75,000 tax free, a 15 percent tax rate on earnings up to $464,000, and a 20 percent rate on earnings above that figure. The second family would be taxed at a blended rate of 9 percent, yielding the government about $18,000 in tax revenues. The difference between paychecks and profits from wealth is stark: $43,000 in taxes compared to $18,000, a tax rate of 22 percent versus 9 percent. What’s more, amassing $200,000 from wealth alone would require that the family have at least $4 million in financial wealth to begin with. The far wealthier family would pay less than half the taxes paid by the high-earning, less wealthy family.

The point is not to suggest that the amount of taxes paid is too low or too high in these particular examples. A family with $200,000 in income is likely to have investments, just as a family earning $200,000 from investments is likely to have income from work. Rather, these examples demonstrate how public policy in the United States favors income from wealth over pay from work and how prioritizing wealth over paychecks in this way exacerbates wealth inequality and contributes to toxic inequality. Even with some public discussion about who pays what effective tax rate during presidential election campaigns, the policy process takes place mostly out of sight because there is barely any public discussion or understanding of wealth, much less of arcane-sounding tax rules. Public and political attention is still riveted on income. The tax code is just one of many government measures that protect and expand wealth for the already wealthy, even as it and other government policies penalize those trying to scrape together an emergency nest egg.

IN CURRENT THINKING ABOUT GOVERNMENT POLICY AND ITS effect on the distribution of economic resources, the flow of income to individuals and families gets far more attention than their wealth. Most families do not have enough wealth to merit concern with policies affecting it. Yet government plays an enormously important role in providing wealth escalators to some, shaping how wealth is accumulated and distributed among groups, and determining how it is valued. The US tax code, in addition to taxing income from work and from wealth at hugely different rates, thereby advantaging wealth already amassed, also subsidizes wealth accumulation for wealthy individuals and families in other ways. (This discussion leaves aside the ways laws are written to favor corporations, but a constellation of public subsidies allows highly profitable corporations to reduce their tax liabilities, costing taxpayers in excess of $155 billion every year.⁷)

These features of today’s tax code are just the latest manifestation of America’s long history of policies that use public resources to enable private wealth generation through property acquisition, home ownership, business development, and higher education. This phenomenon is distinct from the sort of social assistance at the core of the modern welfare state, which provides a safety net designed to ensure that families do not starve, find themselves homeless, or have to do without emergency medical care or heat in the winter. Today, to receive such support, families typically must prove they meet certain criteria and then behave in the prescribed manner. Rules often penalize families with loss of eligibility if they begin to save money for a child’s education or for their own retirement. For instance, eligibility for food stamps is contingent on not having a savings account with more than a few thousand dollars. Such impossible choices make escaping poverty more difficult and discourage wealth generation. We impose these choices on poor families and no one else, and we should not do so.

To truly see how the US government fosters the generation of private wealth, one must look not at social assistance programs for those in need but instead at what I call the wealth budget of the government as a whole—the full range of policies and tax code provisions that enable wealth generation through public investments. Historically, notable examples of such investments include land granted to colonists, the Mexican Cession of 1848, the Homestead Act of 1862, and the Land-Grant College Acts of 1862 and 1890. Each of these actions provided public lands for purposes that were considered public goods: ownership of property, the creation of new businesses, and the formation of institutions of higher education. But these worthy public-good investments also enabled individuals to build private wealth. The Homestead Act of 1862, for example, offered land free to those who could build a shelter on and earn a livelihood off of the land. It covered approximately 20 percent of all public lands at the time, and some 45 million Americans today are descendants of homesteaders, but it benefitted remarkably few African Americans or other minorities.⁸ The Land-Grant College Acts of 1862 and 1890 gave public land to establish colleges that would teach agricultural and industrial skills, many of which became the flagship institutions of state university systems. Over seventy institutions of higher education today got their start in this way. But even though they were designated for the public good, discriminatory laws and customs systematically excluded African Americans from most of these colleges and universities (with the exception of a few set aside for African Americans only) for nearly one hundred years.

In the twentieth century, robust wealth-enabling policies continued to build wealth platforms for economic mobility and security for some. For instance, the National Housing Act of 1934 was passed to make housing and mortgages more affordable. The institutions it established, such as the Federal Housing Administration (FHA) and the Federal Savings and Loan Insurance Corporation, form the backbone of the modern mortgage and home-building industries. The law changed how white families could buy homes, replacing large out-of-pocket down payments and high-interest, short-term loans with low down payments and long-term, thirty-year mortgages at reasonable interest rates. Providing mortgage insurance and financial services also helped to establish new market rules for lending and home buying. These new rules and institutions put home ownership within the reach of America’s burgeoning middle class in the prosperous years after World War II. The home ownership rate rose from 43.6 percent in 1940 to 69 percent right before the Great Recession and housing implosion.⁹ Housing equity accounts for approximately two-thirds of net wealth among middle-income families, and in very real ways, the economic security of America’s middle class rests on the wealth built up in home equity. The National Housing Act of 1934 made it all possible.

At the same time, implementation of the National Housing Act legitimized and hardened the residential segregation, inner-city-concentrated poverty, and spatial isolation that characterized America’s housing patterns. In a process known as redlining, FHA administrators created a system of maps that rated neighborhoods according to stability criteria based on race, ethnicity, and income. Integrated neighborhoods were classified as unstable, and neighborhoods with black populations were colored red and virtually excluded from FHA-insured mortgages. This form of institutionalized racism dominated the housing market from 1934 until 1968, and much of it lives on today, although more informally and implicitly. This policy is, arguably, not only the source of much white American middle-class wealth but also a fundamental contemporary pillar of the racial wealth gap in the United States.¹⁰

Since our inception as a nation, our priorities have been clear. We have provided some groups opportunities to homestead, own property and homes, get an education, and earn a livelihood, but for centuries these policies, by intent and implementation, virtually excluded Native Americans and minority groups. The government’s wealth budget has a long history of serving as a core wealth-building system for some while denying others the same chances. And yet millions upon millions of Americans benefited, and continue to benefit, from land-grant colleges and the Homestead Act, despite their limitations. As clearly racist as their exclusions may have been, these policies were nevertheless both visionary and effective for large swaths of the white population. That level of robust big thinking and inclusiveness is altogether missing today. In contrast, the government’s wealth budget even more narrowly benefits those least in need and excludes the many.

The government’s role in reforming the home-buying market postrecession is further shaping the rules of ownership and wealth accumulation. Recall India Medina and her family, who owned a home in a St. Louis neighborhood where houses have lost half their value since 2007. Let’s see how families like the Medinas purchased homes in the past, how those rules are being rewritten, and the influence of major financial institutions in advocating changes for their own benefit. Most families like the Medinas purchased homes backed by Fannie Mae or Freddie Mac, government-sponsored enterprises established to stimulate the housing market by backing more affordable mortgages for moderate- to low-income families. When the Medinas bought their home in 1999, Fannie and Freddie secured slightly over 40 percent of mortgages; following the 2007 collapse of the housing market and tightening of credit, Fannie and Freddie now back 80 percent of the nation’s mortgages and an even larger share of homes among low- and moderate-income families. CitiFinancial originated the Medinas’ mortgage, which it then sold to Fannie Mae. Without this secondary mortgage market, banks, thrifts, and credit unions would be holding long-term debt and unable to underwrite or fund new home purchases, education loans, business start-ups and expansions, and so forth. The home loan market weighed in at $5.7 trillion in 2015, with $9.4 trillion in outstanding mortgage debt owed by families.¹¹ Mortgages purchased by Fannie and Freddie must meet strict criteria, meant at least in theory to minimize the number of risky loans offered to families. Freddie Mac helped 14.7 million families purchase or rent homes between 2009 and September 2015.¹² Among the mortgages backed by Fannie and Freddie, more than 2.7 million loan workouts have been completed since 2009. Indeed there is compelling evidence that Freddie and Fannie standards result in more affordable and stable home ownership. At least six families we interviewed had successfully modified their loans, negotiating new and affordable terms to keep the foreclosure wolf from their door and the family in the home. The delinquency rate for single families whose payments are more than sixty days past due is 15.1 percent for those with subprime mortgages compared to 1.5 percent for Freddie Mac loan holders.

In September 2008, Fannie Mae and Freddie Mac were placed into conservatorship as the nation’s housing market was severely damaged in the foreclosure crisis, leaving them and many too-big-to-fail banks on the brink of collapse. The Treasury gave Fannie and Freddie $187.5 billion to stabilize them; they had repaid that bailout in full plus contributed another $53.8 billion in profits by the end of 2015. With the dominant players still in conservatorship and waiting for new rules, the housing finance market has been broken ever since, severely impacting all but particularly low- and moderate-income families and families of color.

Financial elites, the Bankers Mortgage Association, big banks, and lobbyists are aggressively stepping in to determine what the housing finance market will look like moving forward. A thorough investigative report in the New York Times in late 2015 documented a concerted Wall Street effort to take over the mortgage market and “privatize the nation’s broken home mortgage system.”¹³ The Times account is based on a review of lobbying records, legal filings, internal e-mails and memos, housing officials’ calendars, and White House and Treasury visitor logs. The proposed housing finance reform would reduce and wind down Freddie and Fannie’s role in the mortgage market. The effort to “eliminate Fannie and Freddie was a page out of the mortgage bankers’ playbook towards a more ‘bank-centric model’ benefiting larger institutions.” In 2016 the housing mortgage market had not been fixed yet, but financial elites are mightily engaged in reforming it for their own huge financial benefit. They already have influenced the viable options under consideration to swing the market balance toward themselves. If this campaign to eviscerate Fannie and Freddie and radically shift the balance to big banks succeeds, then purchasing a home will become far more difficult for families like the Medinas.

AS IT DOES WITH HOME OWNERSHIP, AMERICAN SOCIETY MAterially encourages other public goods—such as retirement savings, higher education, and entrepreneurship—primarily through tax expenditures: reductions in tax liability for a particular class of taxpayers intended to promote policy goals that benefit society. The government has in its toolbox the ability to use revenues and spending to promote valued economic behaviors (e.g., saving, investing in a business) for the greater good of all. It values behaviors in a market economy because individual achievements in these areas are said to add to overall societal stability, security, competitiveness, innovation, and well-being. Some contend, for example, that a home owner is more engaged in her community than a renter.¹⁴

Like social assistance and other direct spending programs, tax expenditures function as entitlements for those who meet the established criteria.¹⁵ There is a difference, however. If a Department of Housing and Urban Development (HUD) program encouraged home ownership by sending home owners checks that matched a portion of their mortgage interest payments, this would be considered a spending program and would face scrutiny and debate every year as part of the federal budget process. In fact, however, as the IRS administers the mortgage interest deduction, it subsidizes home ownership through targeted tax benefits. Because it gets accounted for in the federal budget as a tax reduction, not a spending program, the subsidy is not subjected to annual scrutiny and the accompanying political bloviating. It and similar expenditures are far more removed from the democratic process than spending programs and are thus harder to reform.

All told, tax expenditures in the 2014 fiscal year reduced federal revenue from income and payroll taxes by over $1.2 trillion.¹⁶ The government distributes more public resources invisibly through tax expenditures than it spends on much more visible programs like Social Security, or on the combined cost of Medicare and Medicaid, or on defense. Through this largely below-the-surface mechanism, public resources are used to solidify and expand the already deeply entrenched advantages of wealth.

Consider housing. If asked to describe American housing policy, the average person would almost surely answer that the government spends massive amounts of money on public and subsidized housing for poor and low-income families. Yet this is not the case. Federal housing programs began in the 1930s with public housing developments owned and operated by the government. Over time, these original efforts have been joined by a large number of other programs that subsidize privately built and operated housing developments and provide housing vouchers for tenants to live in private units of their own choosing. In all, we devote about $40 billion a year to means-tested housing programs for low-income and homeless families.¹⁷ By contrast, in 2015, the public invested $205.6 billion in home ownership. Over the six years from 2012 to 2017, $1.2 trillion will have been dedicated to subsidize home ownership, mostly through the mortgage interest tax deduction that permits home owners to deduct from their tax liability the interest paid on their mortgages.¹⁸ We invest five times more public money in home ownership for families that can afford homes than in decent, affordable housing for those who cannot.

Furthermore, this public investment in home ownership flows mostly to the best-off home owners, redistributing wealth at the top, driving wealth inequality, and contributing to toxic inequality. One set of estimates calculated that the top 10 percent of taxpayers reaped 86 percent of the total distributed through the mortgage interest deduction.¹⁹ The Tax Policy Center’s model calculated that the top 20 percent of taxpayers reaped 72 percent of the annual subsidy. Either way, the inescapable fact is that the best-off benefit at the expense of the majority. Indeed, a family in the top 1 percent of income earners receives an average $6,116 subsidy from the mortgage interest deduction, while a middle-income home owner like Reese Otis receives a modest $183 on average. Adding in federal tax deductions claimed for state and local property taxes swells the average public subsidy among the top 1 percent to over $10,000.

Meanwhile, many home owners are excluded from the subsidy entirely. The Medinas were one such family, and they owed more on the home than they could sell it for. As they approached retirement, their home was the largest single asset they controlled, critical both for shelter and for their economic security. Arguably, they were ideal candidates for the public good of housing stability. But collecting $62,000 per year from paychecks, they were not poor enough to qualify for housing assistance. And not a dollar of the over $200 billion in home ownership subsidies delivered each year through the tax code reaches them either. Taking the mortgage interest deduction would require the Medinas to itemize deductions, and their mortgage interest payments and other deductions were not greater than the $12,600 standard deduction for a family. Only 35 percent of those in their tax bracket itemize deductions. If HUD paid out the mortgage interest deduction, then the Medinas might qualify for both it and the standard deduction. Home ownership subsidies delivered through the tax code are simply not designed for moderate-income families like theirs.²⁰

Unlike the Medinas, two of every three filers with $75,000 or more in income itemized their tax returns in 2014.²¹ This is one of several reasons that housing subsidies flow to high-income, least-in-need home owners. Not only are high-income families far more likely to itemize deductions on their taxes, but home ownership deductions are also pegged to the family’s tax bracket, with deductions being worth more in the higher tax brackets. With the same mortgage amounts, this means that someone with $150,000 in income in the 28 percent tax bracket could get a bigger deduction than someone with $80,000 in income in the 25 percent tax bracket. Taxpayers can deduct the interest paid on first and second mortgages up to $1 million in mortgage debt (the limit is $500,000 if married and filing separately). Any interest paid on first or second mortgages over this amount is not tax deductible. Furthermore, high-income families buy more expensive homes, taking out bigger mortgages and thus paying more interest eligible for tax deduction. In addition, the first $500,000 (for a couple) gained from selling a primary residence is exempted from taxation, and gains over that amount are subject to the 14 percent capital gains tax rate. And families in high-income tax brackets, say 33 percent ($230,000 to $412,000 for a couple), benefit most from capital gains exclusions because the tax liability from profit in excess of $500,000 from home sales is thus 19 percent lower than the tax liability if it were income.

The mortgage interest deduction is just one mechanism through which public investment flows to the wealthy at tax time. Another relates to the tax code’s treatment of retirement savings. Earlier, we met the Ackerman family, whose largest reservoir of wealth is an employer-sponsored retirement savings plan with matching benefits. When we interviewed her, we learned that Allison Ackerman contributed $3,000 annually to the retirement account, and her employer added another $5,100. All of this money—treated as pretax and not reported as income until she retires and begins drawing from the account—was shielded from tax liability. Assuming the family was in the 25 percent tax bracket, this retirement package amounted to a $2,025 tax subsidy. If Allison had not had access to her employer-sponsored account and invested the same $3,000, the Ackermans’ actual income taxes would increase by about $750 and thus reduce her after-tax paycheck. The tax-shielded status of these contributions should be seen as a public investment producing private wealth, no different from the expenditures that flow toward home owners. It has enabled the Ackermans to feel comfortable and helped them over their working years to build a retirement nest egg of $350,000.

This public investment is not nearly as undemocratic as the incentives benefitting wealthy home owners. Inclusive, employer-sponsored, mandatory, and matched savings vehicles for retirement indeed ought to be encouraged by government policy and supported with public resources, for they can help move typical American families forward and bolster economic security. The problem, again, is that right now the supporting mechanism of saving for retirement with pretax money, a problem magnified if matching money is involved, mostly benefits those working at large organizations, and, as we have seen, minorities, women, immigrants, and low-paid workers are less likely to find jobs with such employers. All told, federal tax subsidies for retirement benefits will rise to $180 billion in 2016. And as with the mortgage interest deduction, over two-thirds (68 percent) of that amount accrues to the top one-fifth of earners. The top 10 percent get over half (51 percent) of the tax subsidies for employer-based retirement account payments. This translates to an average $12,000 entitlement for the top 1 percent of earners and $363 for a family in the middle.²² As a result, the distribution of public benefits still tilts in a distorted fashion to the top and most often to whites.

A similar mechanism and off-kilter distribution applies to health insurance. When workers participate in an employer-sponsored health insurance plan, their pretax contribution to the cost of coverage is not tax liable. This public investment, intended to encourage broader health-care coverage, cost taxpayers $155 billion in 2016, not including revenue lost to Social Security.²³ When an employer pays for part or all of a worker’s coverage, that benefit is not counted as income, and there is no cap on how large it can be. The Patient Protection and Affordable Care Act (commonly called the Affordable Care Act or, colloquially, Obamacare) included a provision that will recover public revenues on very high-cost plans starting in 2018. Workers whose employers provide health insurance—typically those who work at large companies or organizations, like the Ackermans—receive the added benefit of paying for health insurance with pretax money. Roughly 160 million Americans get their health insurance through their employers. In 2014, 8 million tax filers claimed medical deductions, and filers with incomes over $100,000 received 62 percent of the total benefit, making the distributional impact somewhat less tilted to the very wealthy.²⁴

The data are abundantly clear that tax expenditures actively redistribute wealth to the top while skipping those low- and moderate-income families most in need of building up assets. However, because race and ethnicity data are not collected on tax forms, we have less direct information about the racial distribution of tax expenditures or their impact on the racial wealth gap. But research clearly suggests this impact is substantial. In one study, the Tax Policy Center examined zip codes in which high rates of residents claimed the mortgage interest deduction. It found that African Americans represent only 5.6 percent of the population in these areas, less than half their national proportion.²⁵ Residents of zip codes with the highest rates of taxpayers claiming the deduction—where big federal dollars flow to subsidize home ownership—are disproportionately white, middle-aged, and married. Another way of getting a handle on the nexus of race and tax expenditures is to analyze expenditures by income brackets, since we know the exact percentage of African Americans in each income bracket. This blunt method shows that African Americans receive only 3.5 percent of public investments via tax expenditures in individual wealth building, when they comprise 13.2 percent of the population. Using the 2014 estimate²⁶ that wealth-building tax expenditures total nearly $400 billion annually, this means that the tax code delivers a whopping $35 billion discriminatory race penalty each year. African American families would accumulate $35 billion more in wealth each year if their incomes were distributed according to their national representation—13.2 percent in each income bracket. Projecting that one-year figure out to the Tax Policy Center’s six-year estimate of $2.5 trillion in public investment in home ownership, retirement security, small business development, and other areas via tax expenditures suggests a massive structural race deficit.²⁷ The African American share of this investment falls over $200 billion short of African Americans’ demographic representation. This is a clear case of policy shutting the door to wealth for African Americans and other people of color.

THE PRIVILEGING OF GAINS FROM WEALTH OVER INCOME FROM work at tax time and the huge public investment via tax expenditures in wealth-building for the affluent are two of the largest policy mechanisms directing wealth to the top. But the best-known and most contentious public policy related to wealth in the United States is no doubt the estate tax. Accurate understanding of this tax is the exception rather than the rule, however. Nearly half of Americans surveyed, 49 percent, believed that most families have to pay the tax, and another one in five said they did not know enough to hazard a guess.²⁸ This is nowhere near accurate, and one report has suggested that accurate information about the tax, framed with equity arguments, lifts popular support for the tax from 40 to 62 percent.²⁹

Its opponents, who suggest that the estate tax imperils vulnerable family farms, small businesses, and community newspapers when their owners die, actively cultivate this misunderstanding. With a theatrical flourish, Republican congressional leaders once delivered legislation to abolish federal estate taxes on a red tractor driven by a farmer.³⁰ Opponents also enlist African American small newspaper owners to testify that they will lose the family business unless the estate tax is abolished or radically altered. But the facts are quite different: a renowned investigative reporter could not find a single documented case of a family forced to sell its farm to pay estate taxes, and no African American community newspaper has been sold for this reason either.³¹ In fact, only 18 in every 10,000 deaths involve estates large enough to fall within the current estate tax provisions,³² and a small band of America’s richest families leads the charge to repeal it. Nine families owning approximately $137 billion in assets have lobbied directly on the estate tax in the last few years; one estimate holds that they would save between $25 billion and $55 billion, depending on how significantly the tax rate was reduced.³³ Some of America’s wealthiest families actively cultivate misunderstanding of the estate tax and push for outright repeal. These families own some of America’s best-known brand names and businesses, from candy companies to greeting cards to car rentals to supermarkets to oil to beauty products. Several superrich families invested $10.4 million in lobbying and public campaigns between 2012 and 2015. Bolstering these wealthy families’ sustained efforts, the Koch brothers began funding the crusade to kill the estate tax in 2015.³⁴

Although the estate tax has survived thus far, its scope and progressivity have been dramatically reduced, with exclusion levels rising from $175,000 in the early 1980s to over $5.3 million in 2015 and with the top tax rate falling precipitously from 70 percent in the early 1980s to 40 percent in 2015.³⁵ As a result, only a tiny number of estates actually pay estate taxes. In 2013, less than 0.0002 percent of adults who passed away had estates large enough to pay any tax on them,³⁶ and the effective tax rate actually paid was under 15 percent. The current estate tax touches only one in five among the wealthiest 1 percent.

We met Carline Clark’s family in Chapter 4. Her inherited family money did not approach that of the families that actively lobby on the estate tax, all of which are among the wealthiest ninety families in America, and we do not know if she contributed to this class effort. Perhaps she directed her energies elsewhere, as we saw her strategizing ways to legally avoid paying any gift or estate taxes. She kept close tabs on the law and knew that in 2015 an estate must be bigger than $10,000,000 before a filing was necessary. In 2001, around the time we first talked to Carline, only $675,000 was excluded, and estates then were subject to a 55 percent tax rate. The wealthy and their lobbyists and advocates have pushed up the tax-free exclusion dramatically while decreasing the tax rate. The richest now can pass along more at less cost. As an accountant who manages her parents’ wealth and estate planning, Carline reports how she is “constantly physically in touch with their money, and able to manipulate it.” She makes sure that some of the younger family members receive the tax-free maximum gift of $14,000 each year from her parents.

Operating alongside the narrowing estate tax are rules that exclude capital gains taxes on wealth investment at death—what tax attorneys and wonks call the “step-up basis.” Under these rules, someone who inherits an investment that has appreciated in value since the day it was first purchased pays taxes only on proceeds that accrue from the day that person receives the asset and only if he or she sells it. Although some suggest the estate tax is double taxation—claiming that proceeds from investments like stocks have already been taxed—this is not necessarily the case.³⁷ Say your saintly and visionary grandmother invested $1,000 in Microsoft in 1986. After multiple stock splits, this investment would have netted around $575,000 in 2015. Had your grandmother died that year and sold the stock the year before her death, $574,000 in gains would be liable for capital gains tax. But if she did not sell and instead bequeathed the stock to you when she passed away, and if you sold it immediately, you would pay no capital gains tax because it had not appreciated over its value when you took ownership. In effect, holding stock until death exempts profits from capital gains tax, providing a huge and largely hidden tax benefit for the superrich. Like all tax expenditures, this represents revenue not available to the US Treasury, which must be raised instead through other taxes or cuts in services for the poor.

HIGHER EDUCATION IS CENTRAL TO THE AMERICAN DREAM OF social mobility, and evidence clearly shows that it can produce big changes. We have seen how it motivated the Otis, Arrora, Ackerman, and Mills families, although the challenges they faced and solutions they acted upon differed. Without a college degree, a child born into the lowest income quintile remains stuck there nearly three times more often than those who earn college degrees (45 versus 16 percent). The chances of long-distance mobility from the bottom to the top income quintile increase nearly fourfold for those with college degrees (19 versus 5 percent).³⁸ Particularly after World War II, policymakers charged higher education with aspirational, equity, and strategic goals to open opportunity more broadly and to position the United States for global leadership. President Harry S. Truman declared, “If the ladder of educational opportunity rises high at the doors of some youth and scarcely rises at the doors of others, while at the same time formal education is made a prerequisite to occupational and social advance, then education may become the means, not of eliminating race and class distinctions, but of deepening and solidifying them.”³⁹ The promise of education has not worked out wholly as planned, as real educational outcomes that solidify inequality and the race and class divisions Truman warned about seem to have outmatched his lofty mobility aspirations and democratic ideals.

The proportion of higher education costs covered by state and local governments has declined sharply since before the Great Recession, continuing the trend of shifting responsibility for paying for college to students and parents. Nationwide, states spent 28 percent less on higher education in 2013 than in 2008, cuts directly correlated with cost increases borne by students and their parents and subsequent reductions in educational quality.⁴⁰ State and local governments accounted for 57 percent of higher education revenues in 1977, but covered just 39 percent in 2012. As a result, students and parents contributed about a third of the cost of education in 1977, but just under a half in 2012. Meanwhile, the share of higher education revenues provided by the federal government was $1 in every $8 in 2012, unchanged since 1980. The shift in funding from state and local governments to students and parents has occurred at a time when costs have risen dramatically and during a period when average wages have been static or declined in constant dollars. Taken together, these factors increase the short-term opportunity costs of higher education, especially for low- to middle-income students, compared to earnings they might generate by working.

Lower-income students and students of color are overrepresented in for-profit and public two-year institutions, while higher-income students are overrepresented in more prestigious universities with law and medical schools, advanced degree programs, and PhD programs.⁴¹ Students from families in the highest income quartile are far more likely to attend private doctorate-granting institutions (26 percent), public doctorate-granting institutions (25 percent), and public four-year non-doctorate-granting institutions (26 percent). By comparison, students from the lowest income quartile represent more than half (57 percent) of students attending private for-profit four- and two-year institutions. A degree in business management from the for-profit Brown College in Minnesota will be less impressive to prospective employers and business associates than a business, entrepreneurship, and organizations degree from Brown University in Rhode Island, even if students graduate with the same skills.

The Federal Pell Grant program, which provides need-based grants to low-income undergraduate students, is the major policy tool for promoting access to postsecondary education. In 2011, 17.5 million students were enrolled in institutions of higher education, with over half (54 percent) receiving Pell Grants to help defray college costs. Three-fourths of all Pell Grant recipients for the 2010–2011 academic year had family incomes of $30,000 or less. But relative to the average cost of attendance, the value of the Pell Grant peaked in 1975, when the maximum grant covered 67 percent of average costs. But average tuition and fees at US colleges and universities have risen, in constant dollars, from $9,625 in 1970 to $20,234 in 2012–2013, more than doubling, and the maximum Pell Grant in 2012 was about 95 percent of the maximum in 1975. As a result, in 2012, the maximum Pell Grant covered only 27 percent of costs, the lowest percentage since the program’s inception. This is part of the calculation that leads lower-income students to attend schools with lower average costs and reinforces educational tracking by wealth and income. Differences in tuition and costs for students in the highest and lowest family income quartiles have also increased since 1970, reflecting the increasingly stratified higher education system. It is reasonable to think that this propagates differences in education quality and greater market rewards for higher-priced educations, in which case the increasing gaps between college costs for students in the upper and lower family income quartiles reflect and exacerbate growing inequity.

The data on college attendance, graduation, and student debt paint a stark picture: 62 percent of whites, 52 percent of blacks, and 32 percent of Latinos start college at some point in their lives. Of those who enrolled in 2006, 30 percent of whites, 42 percent of Latinos, and 48 percent of blacks were unable to graduate from their programs within six years. But even though black and Latino families are underrepresented among the ranks of those who enroll in and complete college, they are overrepresented among the ranks of student debtors. Among young black households, with members aged twenty-five to forty, over half (54 percent) have student debt, compared to 39 percent of all young white households. Possibly due in part to lower overall rates of college attendance and graduation, one in five (20.7 percent) Latino families has student debt.⁴² This millstone is a huge drag on asset accumulation, particularly for young adults. The big picture, including tuition, student grants, and loans, clearly evidences the public disinvestment at state and local levels, a leveling of federal investments, declining ability of Pell Grants to keep pace, and a cost shift to families and individuals. Burgeoning and debilitating debt and diverging college completion by income, wealth, and race have been the result.

Tax expenditures for higher education do even more to favor wealth and bake in inequality. The taxpaying public is bankrolling the education of students in the better-endowed and more selective schools to a far greater extent than they are supporting the education of students at state or regional universities or community colleges. Massive indirect subsidies through the tax code highly benefit elite educational institutions, whereas direct federal and state appropriations support state systems and community colleges. One commentator has scathingly characterized elite universities like Harvard and Princeton as hedge funds with an educational institution attached. Indeed, that indictment rings true when the money managers who administer huge university endowments get paid more than those endowments return to student financial aid. But if these private universities resemble hedge funds in some ways, they are publicly subsidized ones, because private educational institutions generally do not pay property tax, their endowment is free from taxation, donors are able to deduct their gifts from their own taxes, and financial gains from institutional investments are not taxed. In the previous chapter we discussed Andrea Mills’s sticker shock at the cost of higher education. Andy Mills would be attending California State University, Fullerton, where the value of public investment per student (in both direct government support and tax subsidies) was $4,000. Meanwhile, students from wealthy families who attended Stanford four hundred miles north received much more in public subsidies: $63,000, or nearly sixteen times more, per student. Stanford’s endowment, its annual gift receipts, and the value of the property it owns are all considerably larger than any of the California state universities’ assets. The result is mammoth tax subsidies, further advantaging those who need them the least at the expense of those for whom public investment might make a difference in whether they complete college at all.⁴³

Private universities are in fact so highly subsidized with public monies that it is inappropriate to think of them as private at all. Many of the richest universities in the country—sitting on hundreds of millions, often billions, in tax-exempt endowments and garnering tens of millions in tax-deductible gifts every year—receive government subsidies through current tax laws that dwarf anything received by the public colleges, universities, and community colleges that educate the majority of the nation’s low- and middle-income students. For example, in 2013, Princeton University’s tax-exempt status generated more than $100,000 per student in taxpayer subsidies, compared to around $12,000 (in both direct government appropriations and tax subsidies) at New Jersey’s state flagship, Rutgers University, $4,700 per student at the nearby regional Montclair State University, and only $2,400 per student at Essex Community College.⁴⁴ Based on the tax exemptions and other government appropriations received, one report calculates that across the ten most highly endowed private institutions, taxpayers in 2013 spent more than $41,000 per student, nearly three times the average direct taxpayer support for students attending public flagship campuses in the same states as the private institutions. The wealthiest endowed colleges and universities, which need government subsidies the least, get the greatest subsidy per student. The affluent schools that receive higher subsidies educate a far lower percentage of low- and middle-income students than public institutions or private not-for-profit institutions with smaller endowments that receive far less support. Although the tax-exempt status of private not-for-profit institutions is meant to be a public benefit, the majority of taxpayers are poorly served by the tax-exempt status of large endowments at private colleges. Instead, government is bankrolling further inequality.⁴⁵

TODAY, FEDERAL POLICY PRIVILEGES ALREADY-AMASSED WEALTH, redistributes opportunities to accumulate wealth to those at the top, and helps the wealthy maintain wealth over time and pass it along to their children. Meanwhile, it actively disadvantages those without any or much wealth and those who earn a living from paychecks alone. These policies have helped spawn the era of toxic inequality, producing a mounting racial wealth gap and historically high levels of wealth and income inequality. The culprits are not hard to find: wealthy elites, financial institutions, large corporations, and political leaders. Yet policy is man-made. If it is responsible for creating, amplifying, and maintaining toxic inequality, it is possible for us to reverse course. The next and final chapter articulates an agenda to do just that.