Tuesday, September 06, 2016

Bilbo's Personal Income Tax Reform Plan

Yesterday I offered my thoughts on a rational and realistic foreign policy for this country. Since I'm on a roll, why not dust off and update my post from back in 2008 on tax reform? As a result of years of political shenanigans and misuse of the power of taxation by governments led by both parties, this is an enormous, highly-charged, and vastly complicated problem to solve. For this reason, I’ll approach it in sections; today, we’ll look at personal income tax.

The fundamental problem with income tax system in this country is that we have forgotten that the purpose of taxation is to raise money to fund the operation of the government, not to implement social policy or to solve (or sidestep) other problems. The Founders knew that the government needed the power to levy taxes ... their problem was not with taxes per se, but with taxation without representation, which is why they vested the power of taxation in the legislative, rather than the executive branch of government. Citizens have a duty to pay taxes to operate government at the national, state, and local levels, and each level executes different types of responsibilities. Governments at each level have a duty to manage the people’s affairs and money in such a way as to ensure that the tax burden is the minimum required to fund necessary and efficient operations. Here's what the Constitution has to say on the subject:

Article 1, Section 7: All bills for raising revenue shall originate in the House of Representatives; but the Senate may propose or concur with amendments as on other Bills.

Article 1, Section 8: 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; but all duties, imposts and excises shall be uniform throughout the United States.

The 16th Amendment: The Congress shall have power to lay and collect taxes on incomes, from whatever source derived, without apportionment among the several States, and without regard to any census or enumeration.

When tax policy is used for purposes other than raising operating revenue, it creates a problem which cascades through the economy and the society. When, for instance, the federal government grants “tax breaks” to a particular special interest group, offers “tax credits” as a way of reducing costs of programs or services to taxpayers, or uses “tax incentives” to garner support for particular programs or activities, the revenue those taxes would have brought in is now no longer available and must be made up somehow. Popular alternatives include:

Shifting the tax burden to other groups. This is what happens when the tax code allow higher-income taxpayers to pay proportionally less tax than less-affluent citizens, either by complex and targeted deductions or more advantageous tax rates;

Increasing levies on individual taxpayers. This is the usual route, as individual taxpayers in the middle and lower economic classes generally lack the organized political power to fight the additional tax burden;

Imposing fees for services that were previously provided free of charge, or increasing fees already in existence; and,

Increasing government borrowing (includes both direct borrowing and the sale of bonds and other treasury securities). This avoids the political heat involved in taxing other industries or individuals, but pushes the problem down the road by increasing government debt and incurring the interest payments on that additional debt. It also dries up money that would otherwise be available for individuals and businesses to borrow.

The tax code as it exists today is an unworkable farce. As a result of laws which change each year, special breaks and incentives provided to special interests, and the use of the tax code as an instrument of social policy rather than revenue collection, the size of the complete code is mind-boggling: according to estimated figures provided by the Tax Foundation for 2013, the US Tax Code is 74608 pages long. It’s no wonder that an entire industry of expensive tax preparation specialists and tax lawyers has become necessary to assist citizens in calculating their taxes, filing their returns, and defending themselves against the often-draconian penalties involved when inevitable errors are made.

This, as my father would have said, is no way to run a railroad.

We must return to a tax system that, as former Treasury Secretary William Simon once said, looks as if someone designed it on purpose. We must have a tax code that is fair, easy to understand and implement, and raises just enough revenue to operate the government and provide the services that the majority of the citizens expect.

I propose completely scrapping the tax code in its present form, and replacing it with a graduated flat tax. Basic elements of the proposed new federal income tax structure are:

1. All income earned within the United States, regardless of source, is subject to taxation. The US is the only country that taxes personal income not earned within the borders of the nation. It's time to catch up with the rest of the world and limit taxation of personal income to that earned here at home.

2. All deductions and credits are eliminated. This would both tremendously simplify the tax code (most of which is designed to explain the arcane calculations of various deductions) and increase the amount of potential revenue.

3. Tax rates are low, but progressive and scaled to gross income. The initial proposal is:

$0 - $50,000 per year: 1-5%
$50,001 - $100,000 per year: 6-10%
$100,001 - $500,000 per year: 11-15%
$500,001 or more per year: 16-20%

By contrast, consider that the highest federal tax bracket for 2015 (levied on incomes over $464,850) was 39.6%. Oh, and what's the logic of an odd figure like $464,850 as a break point, anyhow?

Under this proposal, some people in the very lowest economic categories will be required to pay taxes, which they may have avoided in the past, and some people in the upper income levels will pay less. The burden is, however, spread more equitably and the elimination of deductions and credits not available to everyone suggests that lower rates overall can produce equivalent or greater revenue.

4. Income reconciliation and tax calculations are spread throughout the year, with the month for tax submission based on the last two digits of the taxpayer’s social security number. This eliminates the enormous national trauma of every taxpayer submitting their returns at once, swamping the IRS collection system and inviting the type of errors inherent in processing such a vast number of returns in a short time. Taxpayers whose social security numbers end in 01-10 would file in February, 11-20 in March, etc. This would finish up submissions with 91-00 filing in November, leave two months free for the IRS (or its successor) to work on crunching the numbers, and not require anyone to pay taxes during the November-December holiday season.

Now, I'm not an economist. You could put everything I know about economic theory into your navel and still have room for a herd of elephants and a brass band. But I have to believe, based only on some rational, common-sense thinking, that overall rates can be radically lowered for almost all taxpayers if we just return to basics: tax all income, eliminate all deductions and credits, and use the tax code for revenue generation rather than as a political tool or a means of implementing social policy.

This is my plan for personal income tax reform. Take your best shot.

Corporate tax policy is much more complicated. I'm not a businessman and don't know much about tax implications for business earnings. So discussion of that part of my economic reform plan will have to wait until I can do more research, talk to people smarter than I am*, and think it all through.

If you want to look at the comments that were made on the original version of this plan from back in 2008, the post is here (this is the same link I provided earlier in the post).

Have a good day. More thoughts tomorrow.


* There are a lot of them, so it may take a while.


eViL pOp TaRt said...

I would like a staggered schedule for when returns are due. And having more health care not subject to income tax.

Mike said...

"Taxpayers whose social security numbers..."

Which spouse? How about the spouse whose digit 6 is the lowest. Tie? Digit 5...

Elvis Wearing a Bra on His Head said...

The main improvement needed for the individual tax code is to make it equitable and easy to understand.