Sunday, September 07, 2008

Bilbo's Republicratic Party Platform, Plank #2: Tax Reform

Today we proceed with the second plank of Bilbo’s Reformed Republicratic Party’s Platform: 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, we’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. This is what the Constitution says about taxes:

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.

Citizens have a civic duty to pay taxes to operate government at the national, state, and local levels, each of which has different types of responsibilities. The responsibility of government at each level is 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. The Constitution spells out the responsibilities of the Federal government in articles 1 (Legislative Branch), 2 (Executive Branch), and 3 (Judicial Branch), and we’ll talk more about this in future posts.

When tax policy is used for purposes other than raising revenue, it creates a problem which cascades through the economy. 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 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, of course, causes political problems when those other groups have political power of their own;

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 figures current as of January 2004, the online version of the code is more than 24 megabytes in size and contains more than 3.4 million words; printed 60 lines to the page, it would fill more than 7500 letter-size pages. It’s no wonder that an entire industry of 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 must stop.

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.

We 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, regardless of source, is subject to taxation.

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: 5%
$50,001 - $100,000 per year: 10%
$100,001 - $500,000 per year: 15%
$500,001 or more per year: 20%

By contrast, consider that the highest federal tax bracket for 2008 (levied on incomes over $357,700) is 35%. Oh, and what's the logic of an odd figure like $357,700 as a break point, anyhow?

Under this proposal, some people in the very lowest economic categories will be required to pay taxes, which they 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 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 January, 11-20 in February, etc. This would finish up submissions with 91-00 filing in October, 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 had a spirited discussion of this in the office last Friday with three colleagues, and in the end all our heads hurt and I had to admit that some of my ideas weren't workable (see, lacochran, I can change my mind!). So discussion of that part of my economic reform plan will have to wait until I can think it all through.

Tomorrow, we'll look at energy policy...assuming I have enough energy.

Have a good day. More thoughts tomorrow.

Bilbo

10 comments:

KKTSews said...

Sounds too easy to be workable. Seriously, have you shared this with an open-minded tax specialist, or economist?

So, you'd eliminate deductions for home ownership? What about the exclusion of gains on primary residence? One of the fundamental "rights" (though arguably, this is a 20th century phenomenon" of Americans is to own a home of their own. I think those deductions may be the hardest to kill.

Good luck.

Gilahi said...

Speaking in percentages, your income tax rate appears fair, but speaking in real dollars, your income tax seems awfully regressive to me. I mean, I know that lines have to be drawn somewhere, but if I earn $49,999 in a year I basically pay $2500 in taxes, but if I earn two dollars more then I have to pay $5000? That's MUCH more painful and is a recipe for cheating on one's taxes.

Also, if I'm making, say, $25,000/year and trying to feed and clothe my family, my $1250 in taxes is going to be MUCH more painful than than than the $10,000 I have to pay if I'm earning $100,000/year with the same family.

Under a certain income level, I really do believe that allowances have to be made for necessities such as food, clothing, and medical care. Someone making $500,000/year and paying $75,000 in taxes still has $425,000 to get by on. Your proposals benefit the rich almost as much as the current tax code does.

Bilbo said...

Katherine - I haven't gotten the opinion of a tax professional or a properly-trained economist on this, partly because I don't know any of either (except Pat the nice H&R Block lady who does our taxes), and partly because I think they would probably be viscerally opposed to a plan this simple. As far as convincing everyone to give up the mortgage interest deduction...that's pretty much sacrosanct only because it's the only tax shelter that almost everyone can take advantage of. If overall tax rates are low enough that the mortgage interest deduction is no longer needed to protect low- to middle-income families, then we won't miss it. I'm waiting for some more feedback like gilahi's...

Gilahi - your points on the value of real income are perfectly valid and well-taken. The danger of any "flat tax" program is clearly that the same tax rate hurts those making less much more than those making more. As I see it, the only fair way to approach a flat tax is to make it steeply progressive so that the smallest burden falls on those least able to pay. While my proposed rates do, in fact, benefit those in upper income brackets, if we accept (1) that the purpose of taxes is to raise revenue and (2) that all deductions are eliminated, then I think that those in upper brackets will end up paying more at the lower rate than they did at the higher rate when able to shelter much of their income with tax shelters, credits, deductions, and other dodges.

I'm still open to any better idea for a simple, fair, and equitable tax system. Someone once said any tax system could be either fair or simple, but not both. I don't believe it.

lacegem said...

It looks like you've given this tax thing some serious thoughts. I don't know whether a flat tax or percentages would benefit my current situation until I sit down & crunch the numbers. Everything sounds good in theory, but what I would really like is for the state & local government to stop wasting our hard earned tax dollars.

Anonymous said...

and if one is self-employed... what of the self-employment tax that funds social security? Will that remain?

Harley the Dawg
Taxpertise

Mike said...

Damn, I left a long rambling response here and it's gone. Blogger was acting up and wasn't sure if it took. Looks like it didn't.
I guess you get what you pay for.

Bilbo said...

lacegem - let me know what the numbers tell you. As for getting the waste to stop, part of the problem is that there are lots of definitions of what "waste" is, and they depend on whose financial ox is being gored. One person's "waste" is another one's "essential program."

harley - I didn't address the Social Security tax, but if we accept that the federal government should ensure that all working people have a retirement savings of some sort, then such a tax needs to stay. And it needs to be separate from the income tax which funds basic government operation. I have a lot of thoughts on this, and will address them in a later post.

Mike - what, you can't remember what you wrote so you can redo it? I thought MY memory was bad...

Mike said...

I can remember I just didn't want to type all that crap over again! So here's what I'm going to start doing. (take note) (maybe you do this already) (maybe not) I'm going to type up my comments in a word document first. Then copy and paste. That way I'll have a real spell checker and if blogger destroys my work I'll have a back up.

Mike said...

1. For the second time (typing this) I totally agree with this one. Income is income. Period.
2. I agree with this also. The biggest tax break around is the home mortgage deduction. When tax break are first put into place they may have a good purpose. But it doesn’t take long for them to start being abused. The home deduction is a good example. In the beginning it probably helped home sales. Anymore it’s just built into the price of the home. That means once your home is paid off you’re getting screwed buy the people that are still getting it. Especially if somebody took a super long loan.
Get rid of the Home deduction over a 20 year period and no one will notice.
3. For the 0K to 50K bracket you could bust it up into 10K increments. 1 -10K 1%, 10 – 20K 2%, etc. And everyone would pay the same rate on these amounts no matter what your final total income was. As far as tax calculations it would be easy enough to come up with a single blended rate that would take all the lower brackets into account as one number. The government probably does this already with all the brackets but doesn’t publicize that fact.
4. OK with me. But there’s a catch in there somewhere. You can count on it.
5. No 5! Thank you God!!

lacegem said...

I crunched the numbers just liek you suggested, & it came out that your proposal was in my favor. Currently I am paying double the amount in taxes. So your proposal is good with me.
As far as government waste, I can recall some of the waste & abuse our gov't has done over the years since I've lived in the Washington area. How about the misuse of those government credit cards by members of the military, the prohibited sale of metro passes by gov't workers who both have designated parking spaces & the so called metro pass, unused airline tickets by both miltiary & DOD employees & so forth. Just go www.heritage.org. for more. Here's one that happened locally in our county. Last year they held a local election & the biggest platform that all the candidates were focusing about was illegal immigration. They were right about wanting to do something about it in our county, but how they implemented is was a disaster. PWC officials should have consulted with you first. It was a big blunder on their part! they wanted to please some political interest group by rounding up most of the illegal aliens. Most recent one was in Dulles Airport last month. (I guess that airport project will be delayed.) So, they rounded them up, put them in jail & is still waiting for ice agents to make their move. In the process they have run out of funds because they ddin't think through it. Now, our tax dollars are going to help feed, house & process the illegal aliens. Before all this, those illegal aliens were self sufficient, now they are a burden to society. Talk about WASTE. We have alot of PORK in the DC Metro Area.