Research on Optimal Taxation of Capital Income by Aart Gerritsen, Bas Jacobs, and Alexandra Rusu has been published in The Economic Journal

Their study determines the optimal mix of taxes on labour and capital income if people differ in the rates of return on their savings. They find that optimal taxes on capital income are increasing in the degree of return heterogeneity. An empirically plausible degree of return heterogeneity implies positive and substantial optimal tax rates on capital income.

Abstract

We derive the Pareto-efficient mix of non-linear taxes on labour income and capital income if people differ in their rates of return on capital. We allow for two reasons why rates of return differ: because individuals with higher ability are better able to invest their capital or because wealthier individuals enjoy scale effects in wealth accumulation. In both cases, a strictly positive tax on capital income is part of any Pareto-efficient tax system. We derive a condition for the Pareto-efficient tax mix that relies solely on empirical sufficient statistics—not on social welfare weights—and find that Pareto-efficient taxes on capital income increase with the degree of return heterogeneity. Numerical simulations for empirically plausible return heterogeneity suggest that Pareto-efficient marginal tax rates on capital income are positive and substantial.

Article citation

Gerritsen, Aart, Bas Jacobs, Kevin Spiritus, and Alexandra V Rusu, 2025. "Optimal Taxation of Capital Income with Heterogeneous Rates of Return" The Economic Journal, 135(665), pp. 180-211. doi.org/10.1093/ej/ueae083