Saturday, January 08, 2005

The New New Deal: Part II - Real Tax Reform

Will it be all talk and no action... again

Nothing would make me happier than seeing the end to the Income Tax as we know it. Income tax is a weapon used by politicians against us all. Other than politicians and certified public accountants I can't think of anyone who likes the current income tax pardigm. This gigantic bureaucracy of CPA's, lawyers and government revenue agencies will not go down easy. If we can dare to dream though, envision if you will what a world with out a progressive income tax would look like...

Smart people have been trying to devise the most efficient, fair and enforcable tax system for a millenia. Some say it is a flat tax while others call for a national sales tax. I have my own radical theory that would nearly dissolve the burgeoning national government and return the federal system to its original role. Since it wouldn't stand a snowball's chance in hell I'll save it for last.

The whole point of this exercise is to replace a ridiculously complicated and vastly abused federal income tax system with something fair, efficient and enforcable. How does the flat tax, where every taxpayer pays the same percentage of their income in tax, measure up against these criteria. No brackets, no loopholes and no deductions, just one rate for us all. It seems fair enough. If one man one vote is fair, then one man one tax is imminently fair. As for efficiency the flat tax passes muster here too. A simple pocket calculator would be sufficient to figure taxes owed. The mechanism for employers to funnel collected taxes into the government is already in place. A flat tax would essentially do away with overly cumbersome and expensive tax preparation, thereby saving taxpayers billions of dollars collectively. Enforcement would actually be easier since loopholes and deductions would no longer need to be scrutinized. All in all the flat tax seems ideal... There are a number of nations using the flat tax model and by most accounts very successfully.

There are going to be those that argue over the fairness of a flat tax on behalf of the poor and the downtrodden. Currently the poorest Americans pay no income tax and, in fact, many receive credits in the form of government checks. Under a pure flat tax system they would now have to start paying income taxes. As well they should. Everyone should have a stake in funding the government. A flat income tax does not mean the end of the social safety net. They will argue that the ending of deductions for charitable giving would destroy thousands of services designed to help those with limited means. That remains to be seen. The average taxpayer is likely to have far more disposable income and very possibly would increase the amount of charitable giving. Honestly, how many people are so callous that they only give to a charitable cause for the tax deduction? Corporations use philanthropy for public image reasons not necessarily for tax purposes.

There is an old truism that says if the government wants to encourge something then tax it less and inversely if it wants to discourage certain behaviors then tax it more. This will not go away under a flat tax. Presumably workers and entrepreneurs would increase their output without the yoke of bracket creep taking more of a bite out of them. More income for the individual means more revenue for the government. There is a universal disdain for the current income tax system eveytime an hourly worker sees what happens to his take home pay after putting in overtime. Some people do not see the benefit of lining Uncle Sam's pockets at the expense of the loss of their personal time.

There's a lot to like about the flat tax idea. Perhaps the best part is the neutering of politicians who have used the income tax system for social engineering and sweetheart deal making. Politicians could return to becoming statesmen instead of gladhanders.

The case for a national sales tax is harder to make for me. Admittedly the idea of no federal income tax is attractive. As with the flat tax, policy makers could not use the income tax code to tinker with social policy. But can a sales tax system be fair, efficient and enforcible?

A sales tax is a consumption tax. America is a consumption driven society. Some would say we consume too much. Who's to say we do? Clearly the consumer culture is promoted incessantly. Advertizers are contantly pushing a lot of crap on us. Who doesn't get tired of the barrage of pitches on TV, radio, magazines and newspapers. Advertizing is everywhere. Yet, we are not lemmings, we can decide for ourselves which products or services we lay down our money for. We can not minimize the good that advertizing does. The consumer driven society is a dynamo largely because of advertizing dollars. Free TV, the Internet, commercial radio, NASCAR, the Olympics, cheap newspapers and a thousand other things we take for granted in our hyper society is payed for by advertizing dollars. So what does this have to do with a national sales tax? As stated earlier, if the government wants to discourage something then they tax it more. Would taxing consumption reduce consumption? Would the reduction of consumers consuming lead to an economic downturn? These are good questions. I think it can be easily demonstrated that increasing taxes does lead to a decrease in the activity being taxed. But will a consumption tax be offset by consumers having more income?

The question of a national sales tax being fair is also tricky. Sure everyone, rich or poor, old or young would pay the same tax for the same product. Seems fair as far as it goes. The question is: would products or services be priced out of reach for those with less means? Would there need to be exemptions for basics like food and shelter? The price of a home would skyrocket if subject to a sales tax. Most people pushing for this tax system do make exemptions in their plans for these concerns. OK, by that token then wouldn't we just be letting policy makers tinker with the sales tax the way they now tinker with the income tax? There are a lot of unanswered questions here...

Collecting of a national sales tax could be efficient considering that a majority of states already collect tax at the point of sale without too much trouble. Some worry about massive fraud and black market activity, but I am less inclined to believe that any legitimate business would take a chance trying to screw the federal government. If the penalty for noncompliance is steep enough under reporting would not become a serious problem. There will always be a black market wherever people conduct business, but in a nation that relies on the rule of law and the threat of serious penalties the nusiance of a black market I believe would be minimal.

Those who would argue against a flat tax on the grounds it will hurt the poor are not going to go along with a federal sales tax. Those on the lowest rung of our economic ladder who pay virtually no federal tax now are going to hit hard by a high sales tax. I have heard the numbers of 17%, 20% and 25% thrown around. At 25 percent coupled with a typical state sales tax of 6 percent a $100 jacket at Target would end up costing $131. That's quite an increase. For those with high incomes the offset between no income tax and a high sales tax would mitigate the pain of the higher cost at the checkout line. For those with low or no real income there will be no offset, just higher prices. This will make a national sales tax a hard sale.

It seems to me that the founding fathers had a definite idea of what they envisioned for the role of the federal govenment in our lives. Where in the constitution does it call for the federal government to be involved with education, local law enforcement, housing, welfare and healthcare? In fact there are so many things the federal government does today that usurp states rights and state control that I believe everything is basically topsy turvey. I have thought for years the the way taxes are collected and monies dispursed is completely backward. If we believe that government that governs closest to the people governs best then why is this country pushing more and more resposibility to the national government instead of keeping it close to home.

I think this country would be so much better served if the tax money we sent to the federal government was sent to the states and the tax money we send to state government was instead sent to the feds. The federal government would be responsible for national security, guarding the borders, treaty making, standards and practices, weights and measures and the regulation of interstate commerce. There are thousands of federal workers and hundreds of federal agencies operating in every state and I see these people becoming state employees with a just a few retained by the federal government as liasons between Washington and the state capitols. These federal liasons would be responsible for ensuring constitutional compliance. We would make the states responsible for education, crime control and the health and welfare of its citizens. This would further the erode federally elected officials ability to pork barrel their way into permanent seats in congress. They would be forced to deal with constitutional issues and what is good for the country instead of merely bringing federal bacon back to their home districts.

The way it is today gutless local officials simply kick the can upstairs where there is even less accountability. We see it happening with school funding which is now almost completely controlled at the state capitol rather than with local school districts. It makes for convienient finger pointing when students keep performing well below those students in other developed nations. When we learn that the secret of the success of schools in Japan, India and even Europe is that they encourage and foster local control, then why are we continually going the other way?

Ideally I would envision a flat tax rate for both state and federal income tax with the larger chunck going to the states and the smaller going to Washington. Because of the massive waste and inefficiency of the federal bureaucracy we would, I believe, start to see an end to the national debt as federal liabilties decreased. State governments would likely grow but would still be 50 times more accountable to the taxpayer.

This plan, of course, makes too much sense and would never get past entrenched federal bureaucrats and politicians. Personally I don't see the down side - not even for federal workers since many would be turned into state employees anyway. As simplistic as it seems I think there is real merit in pushing responsibilities down to lowest level government as is possible, where accountability is the highest and the fingerpointing is the lowest. Please feel free to tell me what you think...



Anonymous said...

I couldn't agree more, the flat tax is the only truly fair mode of taxation. However, there currently is no great national "push" to really reform the tax code. I think "reform" is nothing but a readily available term that has in our recent past meant "simplification.” Even though our current method of tax collection and federal funds distribution has mutated and become corrupted from the intent of the founders, there is no need for it to involve the contortions we all engage in every April. Simplification could be a worthwhile endeavor. Good Piece Keep 'em coming.

Timothy Birdnow said...

The best thing about the flat tax is that the taxpayers KNOW exactly what they are paying. The spendthrifts in Congress will no longer be able to hide the taxes they impose (I hear people say all the time that they don`t pay taxes because they get a refund at the end of the year!) What they know will hurt the government.

The progressive income tax has been the engine driving all big government. Originally advocated by Karl Marx, it was imposed on the United States as a rider to another bill! Once in place, it provided the massive revenue needed to buy votes with big government programs, and has been driving the growth of government since. It is time to do away with the progressive income tax.

p.s. love your blog!