As the USA edges closer to the “fiscal cliff”, an automatic mechanism that eliminates Bush tax cuts and mandates across-the-board spending cuts under the Budget Control Act of 2011, a lot has been said on taxing the rich as a possible solution to the $1 trillion US budget deficit. But taxing the rich, this article will argue, is at most 15% of the solution. The rest has to either come with higher taxes for all, or lower expenditures in all key government spending categories. Let’s start with the current situation of the rich in the USA today.
A rich person in the San Francisco or New York City, say with an income of a million dollars a year and capital gains of another million, pays around 52% income tax and around 27% capital gain tax. On top of that, a rich person pays taxes every time he/she consumes: sales taxes, taxes on certain luxury goods. And then there are other special taxes on real estate transactions over certain amounts such as the ones in NYC.
It is hard to argue that rich people in America don’t pay enough taxes in terms of proportion of their income, even though there are some circumstances under which they pay less taxes. For example, there are some rich people who pay less taxes because they buy tax exempt securities, but tax exempt bonds were created by governments to pay less interest on them– the government pays less interest but in exchange collects no taxes. It’s a wash, not a gift to rich people. A person who derives most of his/her income from this will be seen as paying no taxes but this is not really so.
Then there are others in the private equity and hedge fund industry that have special treatment of their income as capital gains and a LOT has been said about this because of Romney’s position at Bain Capital. But if this is indeed a loophole and it were closed, it would raise around $2 billion a year– hardly a dent on the $1 trillion dollar 7% of GDP yearly deficit that the USA has.
And then some rich people in America, many in the technology sector for example, reinvest everything they make in their companies, go for capital appreciation, grow their businesses, don’t pay dividends and therefore pay no taxes on income nor on capital gains (because they don’t sell their shares). But society has concluded that reinvesting in jobs and growth is good, and that charging taxes on assets you don’t sell (like Spain does, for example) is counterproductive. And of course these tens of thousands of new employees pay all sorts of taxes and the USA needs a lot of those to close the deficit gap.
So the more we look into this the more we see that the US budget deficit can’t be solved by taxing rich people. Even President Obama’s plan shows that taxing the rich will only go 20% of the way to solving the budget gap. How will the current budget deficit will be solved?
A tool that was developed by the New York Times, the budget puzzle tool, provides a series of spending cuts and tax increase options that will help you understand the problem. Here are the steps I took to eliminate the deficit (and I encourage you to do the same exercise to understand how complex the problem is and how there is no magic bullet solution for it):
- I eliminated earmarks and farm subsidies. I opted to reduce various military spending and programs. I enacted medical malpractice reform and increased the Medicare eligibility and Social Security retirement age to 68. I reduced Social Security benefits for those with high incomes. In all, these spending cuts generated $570 billion in savings by 2030.
- I returned the estate tax and capital gains tax rates to their level under President Clinton and yes, these are more taxes for the rich as part of the solution. I eliminated tax breaks for companies and individuals while marginally cutting corporate and individual taxes rates for all brackets. I imposed a value added tax on consumption and taxed carbon emissions. Overall, these tax increases and revisions resulted in over $800 billion in savings by 2030.
And what percentage of this $1.4 trillion in combined savings qualifies as taxing the rich? With the return of Clinton-era taxes, which would enact a 20% tax on capital gains for middle and high-income earners, as well as an estate tax of 55% on estates worth above $3 million, savings amount to $150 billion by 2030, or less than 11% of the total solution.
In other words, as we head for the fiscal cliff, relying on to the rich is only part of the solution. The real solution involves many other moving parts. Now to end on an optimistic note, the Obama administration has already reduced the deficit from a high of $1.4 trillion to $1 trillion but much more is needed. Hopefully there will be economic growth accompanying this and the deficit reduction effort will be a bit less painful.
(Photo: mith_y, Flickr)
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I lived in NYC for 18 years, then in Madrid, Spain for 17 years and as of three weeks ago I have been back in New York City. While I started my life as the middle class son of a university professor, I was lucky enough to become a serial entrepreneur in the telco, internet and alternative energy sectors, and enjoy a life that I would not have dreamed of when I was a student at Columbia University.
This has put me in a privileged position to observe the life of my successful peers on both sides of the ocean, people who are well off, otherwise known as “the rich.” And while the rich are frequently disliked in the USA they are many times simply hated in Europe. In the beginning of my life in Europe, I thought this was because equality is highly valued in Europe, not only equality of opportunity as in the USA, but also equality of results. But upon my return to the USA, I have come to realize that this is only part of the reason why rich people in Europe face disdain from the public. That when you look into how the rich behave in Europe vis-a-vis their peers and society in general, you realize that there are more reasons to dislike the rich in Europe. Especially in continental Europe, where rich people rarely lead public lives, are reclusive and only occasionally generous when it comes to sharing their wealth to improve the world.
Many wealthy people in Europe come from old money, so they’ve never had to face the difficulties that the average person on the street faces. These people often don’t realize how privileged they are. They frequently have no living relatives who can recall tough times. They can only remember wealth. And this old wealth, the wealthy German, Italian, French and Spanish families for example, families that I have come to know in my business dealings and social life, behave differently from their American counterparts who are more commonly self-made and greatly aware of the precariousness of their condition as wealthy.
In contrast, the rich in the US, the majority who are many times self-made, are much more sensitive to the realities faced by the rest of society. For a lot of them, life was tough just a few years ago. Or because they are more commonly risk takers, they also identify with loss in the sense that they see that they too could be broke in the future should business prospects go seriously wrong.
This awareness of risk, and recent memory of adversity, makes the wealthy in the US more sensitive, and more willing to share – from making more charitable donations to sharing wealth with friends and acquaintances. Since we moved from Madrid to New York, we have experienced this largesse first-hand. My wife and I have received invitations to wonderful vacations, as well as offers to share planes, homes and yachts. This is something that I rarely experienced in Europe where splitting bills is very common even among the very rich.
The result is that in America the rich are more often admired and emulated than in Europe. Take Warren Buffet and Bill Gates, for example, and their pledge to donate half of their wealth in a program known as The Giving Pledge and see all the American billionaires who have gone along with this pledge. These men are very wealthy but at the same time sensitive to the serendipitous nature of their economic success. I’m not sure I could name their European counterparts. Amancio Ortega for example, the fifth wealthiest person in the world with a net worth of $37 billion, is unknown around the world in part because he has avoided philanthropy.
Is the hatred of the European rich justified?
Oftentimes, yes. In Europe, people are used to dealing with rich people who are self-absorbed, insensitive and out of touch with reality. They see rich people who bask in their wealth, but do little to improve the world – philanthropy is rare in Europe, especially when compared to the USA. And as I mentioned before, Europe has huge egalitarian aspirations, so having wealth and not sharing it in any way does create animosity. What people in Europe want to see is a new crop of wealthy people who care about the world, and are willing to share their wealth beyond their immediate families.
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As Europe falls apart financially and otherwise, the start up scene in Europe thrives. This new era of start ups makes sense because the new European survival strategy must rely on entrepreneurship, and now it is up to every individual in Europe to be at least an entrepreneur of their own lives. In this new world two winning cities emerge: London and Berlin. They are great for different reasons.
Berlin has low rents, low housing costs, lower salaries, a high quality labor force, great engineers and it is a fun and creative place. It would probably lead Europe if it weren’t for some key drawbacks. Compared to London, Berlin has two big negatives: access to funding and a tax/labor framework that fails to recognize the uniqueness of start ups.
The natural aversion of Germans to risk makes it hard for their financial system to find a good way to consistently finance failures. And as Silicon Valley has shown, you need a financial industry willing to finance failures until the successes come. While the British themselves do not have amazing VC firms willing to take American style risks, the largest US VCs go to London and pump the eco system up. Even the Continental European VCs like Atomico go to London because the UK also has the best tax/legal regime for start ups. Moreover, the new tax and labor law in the UK makes it easier to give stock options and hire and fire, which is in the nature of start ups. Start ups try talent out as frequently as they try themselves out. So even if salaries and rents are higher in London, financing and the ability to “try things out” make London a more favorable place. And as cosmopolitan as Berlin is, the German language is still a barrier for many who have not grown up with it.
I see good prospects for both cities but if I had to bet on the winner, I’d choose London to follow Silicon Valley and NYC as the third best start up hub. While Berlin has some of the qualities that a city needs to attract start ups, London, although behind the USA, still has more of what it takes to compete with its American counterparts.
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While not all Americans love Europe, many do. Quite a few people in San Francisco or New York City dream of spending part of their life in Italy, France, the UK, Spain and other European countries, and some do make it over. This is what I did in 1995 when I left NYC and moved to Madrid. As a tech entrepreneur, I found Europe, in general, and Spain, in particular, to be very fertile ground for me. The European market is huge, bigger actually than the US market in terms of GDP. This has not changed with the crisis. While in Europe, I built Viatel: a company that I started in NYC, but later on moved to London and in which I invested a few hundred thousand dollars to start in 1991. When I sold my shares in a public offering in 1999 the company was worth $1.2bn. In Madrid, I built Jazztel: Spain’s second largest publicly traded telco (now worth around $1.8bn), and Ya.com, in which we invested around $50M and sold for $700M to DT. I also co-founded Eolia Renovables, an alternative energy company now worth around half a billion. And for the last six years I have been building Fon out of Madrid and London and it’s become the largest WiFi network in the world, still private. I also started one of the first European cloud computing companies called Einsteinet where I lost about $50M mostly for being too early in the cloud-computing world.
So much for my credentials, now let’s go to what it’s like to build tech companies in Europe and how this is different from doing the same in the USA where I live now.
Europe is great for an American tech entrepreneur because wealth is better distributed. More consumers can buy your products and services, people are more educated on the average so you can find very good employees and there are less competitors, less people wanting to be entrepreneurs (Europeans have ambivalent feelings towards entrepreneurs and being an entrepreneur is not as well regarded). But the European market is less homogenous than the American market. While in theory employees and goods can move anywhere in Europe and most of Europe has the euro as a common currency, cultures are very different and that in itself is a barrier to building a pan European venture. And there are also other pros and cons that I will now describe.
There are very important legal and cultural differences that make it harder to work in Europe. The first one is the legal interpretation of business failure that gives entrepreneurs less of a limited liability. For example, in Europe, and this is everywhere in Europe, there are very high social charges associated to every job. While in the USA you have to add say 8% to a salary of $50K in social charges, in France, Spain, Italy a salary of $50K means at least $75K or more in costs to the entrepreneur. But if you fail to pay these social charges because your start up is doing poorly, and you are the administrator or person responsible for your start up, you are personally liable and indebted for the rest of your life for these charges should you fail to pay. Not paying them is considered a crime from which you are not protected. In most of Europe there is no concept of personal bankruptcy and unlimited personal liability, or even of shielding your home from personal bankruptcy that exists in some states of the USA. So beware of personal liability when you establish a start up in Europe and should it go badly give up before you run out of money to pay social charges and mandated severance pay.
Another legal obligation that is very common in Europe and unheard of in the USA is state-mandated severance pay packages. This is a direct impediment to start ups, the reason being that most start ups fail and in the USA there is an understanding of this. In the USA employees demand stock options as upside should the start up succeed knowing that there will be no severance package should the start up fail. But I have yet to find a place in Europe where employees or governments truly understand this. Not only are forced severance pay packages a problem because most start ups fail and they still have to pay them, but also because start ups are constantly trying out people and the concept of trying out people is very costly in Europe. In some countries like France, forced severance packages of people who have been with you say only half a year can be as high as double their earnings during that time. For most Europeans stock options are considered a scam to pay them less. Now the laws vary throughout Europe, Germany and Spain for example have lowered mandated severance pay packages.
When starting a company in the US, informality rules, we all know the story that HP was started out of a garage. Now in Europe work is so regulated that you can’t start a company out of a garage because you can’t legally work in a garage. I did not know this at the time and started Jazztel out of my garage in La Moraleja, Madrid, fortunately nobody filed charges against me and soon we had an office in La Castellana. But in general, the intense regulation of work is something that I found extremely annoying as a US-trained tech entrepreneur. In Germany, where I built Einsteinet, for example, there are rules that state how many meters an employee has to be from a window. Many of the workspaces that are used in NYC are illegal in Germany because these employees are far from windows and in very small desks—prohibitively crowded environments by German law. In Berlin there are many start ups who break these rules but I don’t know how long this is going to last. I hope Germany goes the way of Berlin in adopting further flexibility for start ups. There is no formal way to start a company and start ups in Europe have to live by the rules of old and established companies. This can’t go on. Europe needs to deregulate companies with less than three years of age, less than 20 employees that are not yet profitable. While I am not against many of the European labor laws as applied to large profitable companies, they are a clear obstacle for start ups.
Now on the positive side. There are two areas that I find wonderful in Europe compared to the USA. One is that lawyers cost much less and do much less. Especially in Continental Europe. The UK and Ireland are more like the US in this case, but in the rest of Europe legal costs for a start up can be 90% less, and I really mean 90% less than in the USA. Lawyers are needed less, are used less and charge less. Savings can be enormous. There is much less frivolous litigation. There are few legal minefields while operating in Europe. The rules are tough, but they are clear. Also there are less types of patents allowed.
Another positive is in health care. Most Europeans have state sponsored health care or plans that make health care for start ups a non issue. In the USA a start up can pay up to $800 per employee for health insurance. Or not offer it, but that is pretty sad should anything happen to an employee. In Spain, France, Italy, health care is free. Employers generally provide no insurance. Now on the negative side: in many places in Europe, and I would say this is more common in Southern rather than Northern Europe, medical care is used as a bargaining tool in labor relations. Spain for example is one of the countries with the longest life expectancy and yet one of the countries with the most sick days in the world. You could argue that it is healthy to take sick days but unfortunately what happens here is that patients ask doctors for medical justifications for paid leave of absence. A friend of mine was fed up with an employee who worked poorly and told him that if he didn’t work harder he would fire him. This employee went to see a doctor, told the doctor that work depressed him and he was declared a mental patient; as a result, my entrepreneur friend had to pay him for a year of doing nothing. So while health care is free or almost free by US standards, in many places in Europe, there is some abuse of the health care system to work less. In the USA, by the way, the opposite happens: many times there are employees who are truly sick, but continue to work because they fear for their jobs. This is just as bad.
Then there are issues related to taxation. In the USA the general concept is that people should be rewarded with lower tax rates when they put their savings to work or invest. And gains on investments have lower tax rates. This is the same in Europe. But in the USA it is also understood that the same is true of stock options, which are taxed at capital gains rate. In most of Europe (except recently in the UK), on the other hand, capital gains are taxed as ordinary income, and what is worse many times out of the money stock options are deemed as income, with both implications towards taxation and part of forced severance pay packages. So if an employee cashes out on stock options in one year it may become unaffordable for the company to fire him or her the following year. Forced severance pay packages in Europe are not based on average earnings but on the last year earnings of employees. This makes it hard to give stock options if only for that reason, the same thing happens with bonuses.
Bonuses in Europe are a very tricky subject. Again this concerns how incredibly regulated the labor market is. So if you pay a bonus either you have a very specific contract that explains how that bonus was earned or the employee can demand the same bonus next year even if he or she did not do what he or she did the year before or even if the company is doing much worse. It was a shock to me to find this out and it cost me dearly. In the end what many European employers do is not give out stock options and give tiny bonuses. What these laws do is make employers go for low fixed compensations and not expect outstanding work. This is bad for the European economy in a world in need for excellence, but it is the way it is. Less overall pay and less overall results. Related to this are regulated work hours and forced vacations. In Europe there is a common belief that work is punishment and that the role of government is to protect people from overworking. As if working in a start up was akin to working in a coal mine. So there are many rules that make it hard to work the 12 hours per day that a start up may need in its initial months. To work hard, to work long hours, is actually illegal in Europe. Yes, I know, it sounds strange, but it is illegal not only for an employer to ask an employee to work long hours and not take vacations but it is illegal for an employee to do that even if this person truly prefers to be at work rather than at home or on vacation. Again there is a problem here between what start ups need and what Europe regulates. Without counting stock option earn outs, engineers in the USA earn between two and three times what they earn in Europe. So it is hard to see how engineers are protected by European labor laws, and especially engineers in start ups.
In the USA there is a great deal of conversation about equal opportunity, but Europe goes further–in Europe equal opportunity is not enough, instead what Europeans expect is equal results. Surprisingly the educational system in European nations is highly competitive and discriminatory, based on grades. Much tougher than the US high school system for example. So as students, Europeans are ranked and divided, but once they reach adulthood they are expected to mostly work the same and earn the same even if their performance is different. So from this perspective there is something anti-European about the Silicon Valley culture of personal reward. I experienced this at Ya.com where in two years we distributed around $70M in cashed stock options among 20 employees. Later on these employees told me that it was culturally tough to get rich. That being the richest person in your family, or among your friends created a backlash that affected their personal lives. So if being rich is frowned upon what is the driver of success? Fortunately in Europe there are many people who have a tremendous work ethic and pride in what they do. To me the best testimonial of this is the open source movement. Europeans were and are the major driver between open source software development, a work many times done for free but with enormous sense of pride. So if you are an American entrepreneur going to Europe you have to understand that Europeans are different and learn to live with their mentality. Focus less on making your employees rich, which they will appreciate but rarely say that their aim in life is to get rich and, instead, focus more on creating an environment of excellence where people can be proud of what they do and get a higher than average but near average take home pay. And you also have to understand and respect that Europeans have a life outside work, and that may actually partly be why on average they live four years longer than Americans. And that may be why you, yourself, the American entrepreneur, may actually enjoy your life in Europe. I did not move to Europe from NYC looking for work. I moved there looking for a life. And I found one. And that’s why many Americans move to Europe. Even in the USA now I am not the person who left. Europe changed me for the better.
And lastly there is the “can-do” attitude of Americans that is hard to replicate in Europe, that Europe truly needs but rarely gets. Americans believe that they can conquer the world with their products and services. Some Europeans do as well but that is less common. In all of Europe only one company has emerged among the most valuable in the world in the last 30 years and that is Spanish Inditex, the fashion company behind Zara. Other than that, most European companies among the world’s most valuable are very old. Contrast this with Google, Facebook, Amazon, all new companies among the world’s most valuable. And the problem with this is that it is harder to convince a group of Europeans that they are out to conquer the world in their field. It is cultural. That is why many world-class European tech companies like Skype end up in American hands. Spotify will probably soon follow. It is easier for Americans to believe and bet on them. Also there are very few world-class European VCs (exceptions Index Ventures and Atomico); there are no European companies with piles of cash as Google, Apple and Microsoft have, thus providing a string of exits for start ups. The last company who did that and bought two of my angel investments was Nokia, now on the ropes. Bottom line is that a company in Berlin is likely to be worth less than an identical company in Silicon Valley. Sad but true.
So if you are an American entrepreneur, should you move to Europe? Well some did and did quite well. My friend Zaryn Dentzel founder of Tuenti is one of them. But do not make a significant move before truly understanding how different Europe is from the USA. Other than France, which seems to be moving in the opposite direction, Europe is changing for the better. It is making it easier to be an entrepreneur, and in a Europe in crisis, entrepreneurs are finally getting more respect.
(Photo: Drive-In Mike, Flickr)
As the year ends you think about your life, your accomplishments, your failures. In my case, as a tech entrepreneur, I was thinking not about the thousands of people I hired in my life through my companies and who did well (and sometimes very well), but about the people I have had to fire. These people come in two distinct groups. The ones I had to fire because they were incompetent and the ones I had to fire because I was incompetent.
With the first group I am at ease. But this post is dedicated to the second group. The ones I had to fire because my start up didn’t take off as planned. Like the first employees at Fon, we had to fire half of them only to hire others three years later. Fon really took off and now is the largest WiFi network in the world, but it took off much later than planned, it took off after the iPhone became huge and people started needing WiFi, and Androids, and iPads and so on. So for us at Fon, it was hire big, fire big then hire big again.
And years before when I was building Jazztel, the same thing happened: we hired too many employees, we then had to lay off hundreds but over time Jazztel has gone to an employee count that is at its highest ever by now. For both companies I founded, Fon and Jazztel, 2012 was the best year ever, but this is little consolation to the people I had to fire at the time. To those employees I owe an apology. A big one. My only excuse really is that the life of an entrepreneur is one of trial and error, and in my quest to build great companies I have to give my vision a try. But in these two cases my timing was dead wrong. And many people lost their jobs because of me. And they had families, mortgages, plans, and they suffered. And until today I never really apologized for this.
So here it is: this is an apology to all of those I had to fire in my life because I screwed up, because I failed to execute my strategy well, because I was incompetent. I am really sorry.
After years of organizing the Menorca TechTalk I am interested in organizing the Co Working Menorca TechHub. If you don’t know what co working spaces are read this article about them and you will get a good picture. The idea is simple: to make deals with all the TechHub type work spaces around the world, places like General Assembly of NYC, or TechHub in London and its many counterparts in cities around Europe and the world, and to offer exchange programs so developers can work for weeks or months in an extremely relaxed/different environment that can allow them to focus on their work. It is the concept of work and vacation but applied to start ups where people are never really on vacation but can like the possibility of leaving say the London winter and spend 6 months working out of Menorca to see finish that beta version.
Menorca is a beautiful island, a perfect work environment off season for Northern Europeans and Americans, with direct flights to London and other European cities and connecting flights via Madrid, Palma, Barcelona and London to anywhere around the world. Start ups operating out of co working spaces around Europe can work in Menorca for a few months or as long as they need and have their seed money last longer. Have a longer runway. Desks in Menorca TechHub will go initially for €150 euros a month, electricity and internet included, and accommodation can be found in Menorca for as little as €650 euros a month including health insurance which is free in Spain, room, board (food) and monthly mobile service. So an engineer can live in a great environment, leading a simple life focused on work and recreation, riding her or his bike for less than €900 euros a month. This is unimaginable in the North of Europe, especially if you give a price to hours of sunlight 🙂
After trying unsuccessfully with the government of the Island to promote this initiative I am now seeing if this project can take off as a private initiative, whether it be profit or not for profit.
So the first thing I need is 500m2 to get this project going. Possibly with expansion space available. Possibly already furnished and ready to go from offices that some company has vacated. Could be anywhere in the island. Has to be reasonably priced. I can also offer the owner of this space a revenue share. Please write to claire(at)fon.com with ideas. Let’s see if the private version of TechHub can get going!