question: Why are earnings obtained actively through labor (wages) taxed at a significantly higher rate than earnings obtained passively through investments (capital gains)?
comment: Its to incentivise people to invest money in the economy and leave it there for a while letting it help the economy instead of jsut sitting in big scrooge McDuck bins. If income and capital gains were taxed at the same rate rich folk would want to invest in compaines that basically gave all thier earnings out as dividends instead of putting that money back into the company growing it. In our modern day this has lead to some problems as now companies overvalue growth over a sustainable profit but capitalism ain't perfect.
passages: As argued by Abel, if investment is fully deductible, the capital tax has no adverse impact on investment and is non-distorting, and under restrictive assumptions all tax should fall on capital, and none on labor. Given that capital income is concentrated among high income earners, if the social welfare function is inequality averse, then the optimal capital tax may be arbitrarily close to 100%, as increases to the capital tax rate lowers inequality but imposes no deadweight loss; this is in contrast to the standard assumption in optimal labor tax research in which inequality can be reduced by increased progression of the tax system, but at the cost of imposing a deadweight loss via a distorting reduction in labor supply - thus for any given level of post tax and transfer income inequality, reducing the progression of the labor tax system and increasing the capital tax rate in the context of instant depreciation can lead to welfare gains. However if there are relative income effects or if the degree of inequality aversion if sufficiently high, the optimal marginal labor tax will still be positive.
   However, taxes fall much more heavily on labor income than on capital income. Divergent taxes and subsidies for different forms of income and spending can also constitute a form of indirect taxation of some activities over others. For example, individual spending on higher education can be said to be "taxed" at a high rate, compared to other forms of personal expenditure which are formally recognized as investments.
   Capital gains are profits from investments in capital assets such as bonds, stocks, and real estate. These gains are taxed, for individuals, as ordinary income when held for less than one year which means that they have the same marginal tax rate as the marginal income tax rate of their recipient. This is known as the capital gains tax rate on a short-term capital gains. Accordingly, the capital gains tax rate for short-term capital gains paid by an individual is equal to the marginal income tax rate of that individual. The tax rate then decreases once the capital gain becomes a long-term capital gain, or is held for 1 year or more.
   Capital gains are taxable, and capital losses reduce taxable income to the extent of gains (plus, in certain cases, $3,000 or $1,500 of ordinary income). Individuals currently pay a lower rate of tax on capital gains and certain corporate dividends.
   For a government, distinguishing between capital and labor incomes can be difficult. This shortcoming becomes critical when individuals shift from labor income to capital income so as to take advantage of tax differentials, as evidenced in Finland by Pirttilä and Selin (2011) and in the United States by Gordon and MacKie-Mason (1995) and more recently Gordon and Slemrod (2000). The difficulty in distinguishing labor and capital income might be the most important reason for governments' reluctance to engage in the full tax exemption of capital income. Specifically, Christiansen and Tuomala (2008) find a positive optimal tax on capital income due to the presence of the ability to shift income, while Reis (2007) demonstrates that the Chamley–Judd result does not hold when tax authority cannot effectively distinguish entrepreneurial labor income and capital income.
   A capital gains tax can be thought of as tax advantaged or benefitted. When an investor receives profit by selling a capital asset, such as the sale of stock, this is taxed at the rate of the capital gains tax, which is often lower than the income tax. Thus, business owners and investors are incentivized to make profits by making capital gains rather than a steady wage.
   Taxes on income derived from capital (e.g., financial assets, property and businesses) primarily affect higher income groups, who own the vast majority of capital. For example, in 2010 approximately 81% of stocks were owned by the top 10% income group and 69% by the top 5%. Only about one-third of American households have stock holdings more than $7,000. Therefore, since higher-income taxpayers have a much higher share of their income represented by capital gains, lowering taxes on capital income and gains increases after-tax income inequality.
   Investors and entrepreneurs have to take some risks while doing their jobs. The risk they are willing to take while investing capital or selling assets can be influenced by taxes. Taxes on capital drive away the entrepreneurs from the trade because the taxes create something like ″additional risk burden″. ""The fruits of risk taking undertaken by entrepreneurs are all around us. major inventions like the automobile, the airplane, and the computer were, in part, the result of investors and firms deciding to gamble their wealth on a new idea."" The government takes the money from successful projects but when a business fails the government doesn't help it with the costs of failure. There is an absence of insurance markets. However, even if there were more solid conditions in the sector of investment, there would still be a small percentage of entrepreneurs taking the risk.
   The fact that the long-term capital gains rate is lower than the rate on ordinary income is regarded by the political left, such as Sen. Bernie Sanders, as a "tax break" that excuses investors from paying their "fair share." The tax benefit for a long-term capital gain is sometimes referred to as a "tax expenditure" that government could elect to stop spending. By contrast, Republicans favor lowering the capital gain tax rate as an inducement to saving and investment. Also, the lower rate partly compensates for the fact that some capital gains are illusory and reflect nothing but inflation between the time the asset is bought and the time it is sold. Moore writes, "when inflation is high...the tax rate can even rise above 100 percent", as when a taxpayer owes tax on a capital gain that does not result in any increase in real wealth.
   However, comparing capital gains tax rates and economic growth in America from 1950 to 2011, Brookings Institution economist Leonard Burman found "no statistically significant correlation between the two", even after using "lag times of five years." Burman's data are shown in the chart at right.
   Economist Thomas L. Hungerford of the liberal Economic Policy Institute found "little or even a negative" correlation between capital gains tax reduction and rates of saving and investment, writing: "Saving rates have fallen over the past 30 years while the capital gains tax rate has fallen from 28% in 1987 to 15% today ... This suggests that changing capital gains tax rates have had little effect on private saving". Hungerford also studied top marginal tax rates from 1945 to 2010 and likewise found no correlation with saving, investment and productivity growth.
  
  Section::::Effects.:Factors that complicate measurement.
   BULLET::::- Transfer of ownership may be deliberately timed to occur in a year in which the investor is subject to a lower marginal tax rate, reducing the applicable capital gains tax rate compared to the tax rate saved by the initial deductions.
  
  However, in certain situations the tax rate applied to the capital gain may be higher than the rate of tax saving because of initial deductions such as for investors who have a low marginal tax rate while they make deductions but a high marginal rate in the year the capital gain is realised.
   it also means that the payers are especially able to defer or avoid the tax, as it only comes due if and when the owner sells the asset. The disproportionate incidence on high-income households means that most debate on tax rates is partisan. The Republican Party favors lower rates, whereas the Democratic Party favors higher rates.
   Similarly, gains on disposal of securities quoted on the regulated markets of the EU or EEA countries and investment certificates in EU and EEA open-end investment funds are exempt from taxation in Latvia.
  
  Gains on the disposal of other investments (like real estate properties) are taxed at regular corporate income tax rate of 15%.
  
  The inbound dividends are not taxed in the hands of Latvian company (except, the dividends received from the low-tax jurisdiction). The outbound dividends are no subject to any taxes, except the dividends payable to the low-tax jurisdiction (15%).
   Even though the incidence of the tax is on high-income taxpayers, low-income taxpayers who do not file capital gains taxes may wind up paying them through changed prices as the actual payers pass through the cost of paying the tax. Another factor complicating the use of capital gains taxes to address income inequality is that capital gains are usually not recurring income. A taxpayer may be "high-income" in the single year in which he or she sells an asset or invention.
  
  Section::::Rationale.:Existence of the tax.
   For natural persons, the tax generally follows a separate progression from income taxes, diminishes with number of years held, and often can be postponed in cases like inheritance or for buying a replacement home. The tax is levied by canton or municipality only; there is no tax at the federal level. However, natural persons involved in real estate trading in a professional manner may be treated as self-employed and taxed at higher rates similarly to a company and, additionally, social contributions would then need to be paid.
   The variable capital actually tied up by an enterprise at any point in time will usually be less than the annual flow value, because wages can in part be paid out of revenues received from ongoing product sales. Thus, the capital reserves held by an enterprise for paying wages may, at any time, be only 1/10 or so of their annual flow value.
  
  The most accurate quantitative estimates for the OCC refer to the outlays in specific sectors, e.g. manufacturing.
  
  Section::::Examples.
   Harberger's conclusion, seen as surprising at the time, is that the corporate income tax lowers the after-tax marginal product of all owners of capital equally. Since labor and new capital were free change sectors without cost, each factor got paid exactly its "value of marginal product" and because constant returns to scale are assumed, the total payment to each factor exactly equals the total value the factor contributed.
   Most jurisdictions imposing an income tax treat capital gains as part of income subject to tax. Capital gain is generally a gain on sale of capital assets—that is, those assets not held for sale in the ordinary course of business. Capital assets include personal assets in many jurisdictions. Some jurisdictions provide preferential rates of tax or only partial taxation for capital gains. Some jurisdictions impose different rates or levels of capital-gains taxation based on the length of time the asset was held. Because tax rates are often much lower for capital gains than for ordinary income, there is widespread controversy and dispute about the proper definition of capital.
   More recently, Moore has written that the capital gains tax constitutes double taxation. "First, most capital gains come from the sale of financial assets like stock. But publicly held companies have to pay corporate income tax...Capital gains is a second tax on that income when the stock is sold."
  
  Richard Epstein says that the capital-gains tax "slows down the shift in wealth from less to more productive uses" by imposing a cost on the decision to shift assets. He favors repeal or a rollover provision to defer the tax on gains that are reinvested.
  
  Section::::Rationale.:Preferential rate.
   The absence of indexation relief for transactions on assets acquired since 2003 means that the headline rate of 33% is not directly comparable and is higher than would otherwise be the case in jurisdictions where inflation is taken into account.
  
  The tax rate is 23% on certain investment policies, and rises to 40% on certain offshore gains when they are not declared in time.
   Capital was still believed to come only from savings in prior years, and no additional amount of money could be added to the production process to support more workers. Additionally, the capital used in the equation above was the macroeconomic concept of a country’s total accumulated wealth, not the wealth of individuals.
   The other factors, that might affect the tax incidence is the difference between short-run and long-run and between open and closed economy.
  
  Section::::The demand and supply for labor and tax incidence.
   The direct consequence of regulatory havens is increasing of inequality of income redistribution. Since the higher incomes are mobile, regulatory havens protect those society members that earn more and enable them to increase their net profit due to lower tax base in regulatory haven. Consequently, society members that earn less pay more in taxes compared to wealthy individuals that use regulatory havens since they can be called upon their debts more reliably. Also, is contributes to social inequality since smaller producers face paying higher taxes even though they work more and usually work in worse working conditions.
   The second wave of research on the returns differentials literature, written during pre-crisis times and published during the crisis, emerged due to criticism of how the data was handled. This criticism alleged inconsistencies in data revisions between stocks and flows, which were then (mis-)attributed to "Other changes". Consequently, it was argued that this estimation approach would not calculate capital gains, but rather the sum of capital gains and other changes. Another problem is the extent of gains in the FDI category, wherein data is estimated. The second wave addresses these issues and finds substantially smaller differentials, ranging from -0.7% to 0.6%, using the second research approach.
  