Deep in the Heart of Taxes

At the risk of triggering howling mobs of Grover Norquist-inspired anti-tax zealots waving torches, pitchforks, and signed copies of their "taxpayer protection pledge," let's discuss taxes.

I have written often enough here about the subject of taxes and tax policies. You can go back and read the last one here, and if you do you will be able to see where I'm beating the same drum and plagiarizing myself today. You can sue me. Here are my latest comments ...

Let’s go back for a moment and review Article 1, Section 8 of the Constitution, which says:

“The Congress shall have power to lay and collect taxes, duties, imposts and excises, to pay the debts and provide for the common defense and general welfare of the United States…”

That seems pretty clear to me: Congress can spend money, and impose taxes to get the money to spend. We talked last Friday about how difficult it is to cut spending. Today, let’s talk about the related problem of raising revenue (a word which sounds less ugly than taxes).

Here's the bottom line: governments need money to operate. They can raise that money in one of three ways:

1. Collect taxes (generally, the major source of government operating revenue);

2. Charge fees for government services (such as the money you pay to get a passport issued, or the stamps you buy to get your mail delivered); or,

3. Borrow against the credit of the nation (politicians like this, because it's painless ... taxpayers don't see it until it's too late).

There's a fourth option, too, which is simply to print more money, but economists (to the extent they can agree on anything at all) tend to agree that this is a bad move.

Yes, Dear Readers, taxes represent the major source of revenue that any government needs to operate. Not to put too fine a point on it, the power of a government to levy taxes, and the willingness of the population to pay them, are critical to the functioning of a nation. Problems arise when:

1. The government uses the power to tax for purposes other than generation of operating revenue … for instance, for social engineering (that is, programs or incentives intended for the benefit of a specific ethnic or religious group), or currying favor with specific business or special interest groups;

2. The population perceives that the power to tax is being used improperly (for example, to benefit – or punish – specific individuals or groups) or is being levied unfairly (for example, for the benefit of the politically well-connected or a socio-economic elite); or,

3. The government fails to communicate to the taxpayers why a given level of taxation is necessary, and does not justify this to the population. The power to levy taxes doesn’t mean much if those who are taxed don't understand why the taxes are necessary and what their stake in paying them is, giving them an incentive to avoid payment.

What should the characteristics of an ideal tax system be? Nobody will ever agree on this one, but I would suggest the following:

1. It should bring in sufficient revenue (when combined with borrowing and fees for services) to operate the government, pay its debts, and provide a reasonable cushion for unforeseen emergencies;

2. It should be fair (that is, no one segment of the taxpaying population should bear a larger burden than any other). This, of course, leads to much debate over what constitutes fairness, but we’ll get to that in a minute;

3. It should be transparent and understandable to the average taxpayer (that is, the average taxpayer should be able to calculate what he or she owes based on a set of simple instructions); and,

4. It should not be used for any purpose other than the raising of revenue to operate the government … not as a tool for social engineering, a source of political patronage or reward, or anything else.

Let’s talk about fairness as it applies to taxes. What makes a system of taxation fair? Reasonable people (if you can find any nowadays) can disagree on this, but I suggest these as yardsticks of fairness:

1. Tax rates should be as low as possible consistent with the needs of the government;

2. Every individual, regardless of their amount of income level above a minimum subsistence level, should be required to pay, and every business should be liable for a tax on its profits;

3. Taxes should not be negative; that is, no taxpayer should receive refunds or payouts in excess of taxes actually paid; and,

4. The tax rate should be progressive; that is, not based on a flat percentage of income. I believe this is reasonable, because (for instance) a rate of 10% on a taxable income of $1000 will hurt that individual much more than the same rate applied to a taxable income of $1,000,000. Yes, I know this is heresy, but I think it's simple common sense.

Looking at all of the above, it comes as no surprise that the American system of taxation is hopelessly and utterly unfair, inadequate, and useless. There would probably be no need for the tax increases that so enrage Republicans if the entire system were trashed and rebuilt from the ground up. I contend, as do people smarter than I in the arcane mysteries of economics, that if all deductions and special incentives were eliminated, tax rates could probably be dramatically reduced and still bring in far more revenue.

This is unlikely to happen, though, because I predict that the extreme Republican right will maintain that elimination of deductions and incentives will equate to a net increase in the tax burden of those who are lose those deductions and incentives. And, of course, no one will want to give up their prized and cherished tax advantages, even if the net result is that their taxes will be smaller in the long run. Because - and here's the ugly truth - Americans no longer trust their government and their elected representatives to do the right thing ... or, at least, the right thing as they define it through the prism of their ideologies.

Yes, it’s probably true that tax rates can be reduced, but only if two things happen: spending is reduced to align with income; and deductions and incentives are done away with so that a larger pool of money is subject to a smaller tax.

Good luck with all that. I’ve given up on anyone in a position of power and authority doing any serious and dispassionate thinking about this issue.

What do you think about taxes and tax reform? Remember, before you answer, that there are children who read this blog.

Have a good day. More thoughts tomorrow.

Bilbo