The Arguments Against a Flat Tax

Your example proves zilch. Your theory has an interesting little heads-I-win-tails-you-lose touch to it. If Microsoft spends money on political donations -- despite the existence of the progressive tax code -- and sees the government back off, well then you win because it shows a direct correlation. But you claim that Microsoft even merely making the effort to influence government -- again, despite the progressive tax code -- to little noticable effect also makes you correct.

Tell me, under what conditions would you say your theory is disproven? Because if it can't be disproven, then it's complete crap.

AGAIN, you contradict yourself. If the progressive tax system is so successful at reducing the influence of the rich and powerful corporations, why is the tool of the rich, G Dub, in power? And how could those companies wield even more power than they already do? According to a number of posters on this board we already live in an oligarchy controlled by corporations and the ultra-rich.

In the interest of not driving this even more off-topic I'm going to refrain from addressing this point.

So you think that you would find the same amount of tax avoidance in the current 3,500 page tax code as a one page tax code that uses, say, a 25% flat tax?

I'm curious how you square that with the fact that when marginal rates were made flatter in the 1980s that the percentage of income taxes paid by the upper 1 percent climbed from 17.6% in 1981 to 27.5% in 1988. For the upper 10 percent the numbers are 48% and 57.2%.

http://www.house.gov/jec/fiscal/tx-grwth/reagtxct/reagtxct.htm

 

Cute! No conflict of interest there!

My biggest problem with the 15% Flat Tax proposal is that my taxes go up. Pure and simple. I pay more money. Since I'm right around the National Median, that means that 50% of America makes more money than me, and 50% makes less.

A flat tax raises the tax in real actual dollars on the lower 50% and lowers the tax in real actual dollars on the upper 50%. I have yet to see an explanation for that. Why on earth would I assent to having my taxes raised while everyone above me gets their taxes lowered? What possible benefit could I see from that?

 

A point of clarification. One thing we can all agree on is that our current tax code is inefficient. It costs a lot for people to higher accountants and tax lawyers. I suppose that this might be good for employment, but the overall consequences are probably bad. The IRS spends a lot of money enforcing -- and merely understanding -- our current tax laws. Also, with all the deductions and loopholes, Warren Buffet pays the same percentage in federal income that his secretary does and she earns about $25,000 per year.

One interesting note: Apparently, fairly recently Russia instituted a new system in which each person just fills out a little form and pays something like 10% of his or her income in taxes. It's simple, and it’s easy to enforce. Apparently, it has been fairly successful. The Russian government has actually generated a decent amount of revenue with this system.

So, clarity and efficiency are fairly important. An ideal tax system would be one that is simple, elegant, straightforward and highly progressive.

 

Daniel,

To account for this, a number of flat-tax advocates have proposed having the tax go into effect only after exempting the first X amount of income. The flat tax proposed by Steve Forbes for example would have been a 17% tax that would have gone into affect after the first $36K in income for a family of four. Don't know how it proposed to account for individuals, however.

 

Agreed. However, as has been pointed out before, the complexity in our tax system has nothing to do w/ tax rates and everything to do with calculating taxable income.

 

Could an advocate of the flat-tax system explain how a few common things currently in the tax code would be treated?

1. Medical care paid for by insurance. Will the tax code exempt the receipt of care from income, or will I have more taxes the sicker I am?

2. Whole Life Insurance. When I pay premiums for annuities and choose how to invest the premiums, but my right to receive a distribution is limited to death and/or a certain age/time period are the earnings income? If so, when?

3. Business expenses for say a new office building. Do companies now pay income tax on all earnings without deductions, or do they deduct the cost of an item in the first year, or amortize the deduction over its useful life?

4. Swaps. If I trade property for property, do I have income? What if I trade property for services?

5. Scholarships. If I'm smart enough to have someone pay my education, do I owe income tax?

6. Inheritances. Is that all income the day I inherit property? What about life insurance?

I could go on and on, but the tax code exists for reasons that have already been well-explained. Most of it exists to define what is income, not to tax it at a flat rate. A flat tax still has to define the income it is taxing.

 

As luck would have it, the debate is the same in Iceland, where the current conservative government may be turned out of office for flat tax policies that benefit the wealthy. Curiously, the OECD has called Iceland to task for deficit spending. Sounds very familiar to another conservative administration I know.

http://services.tax.org/taxbase/ta5.nsf/WP/NewWTDFrame?OpenDocument&login

You might not be able to get to the link as it requires a subscription. Here's the text:

Published by Tax AnalystsTM


After two successive terms (eight years) in power, Iceland's right-wing/center coalition government faces some trouble in the upcoming general elections in May. One problem is the emergence of Ingibjorg Solrun Gisladottir, the popular former mayor of Reykjavik, as the Social Democratic Party candidate for prime minister. Another problem is the huge increase in the individual tax burden that has taken place during the current government's tenure.
According to calculations presented by the parliamentary opposition, taxpayers in the lower income brackets have experienced tax increases of up to 6 percent, while the highest income groups have been sheltered from tax increases or are paying even lower taxes than before. Since the early 1990s, the government has lowered the corporate tax rate from 30 percent to 18 percent and has set the tax rate on dividends and capital gains at 10 percent, which mainly favors high-income taxpayers.

Sitting Prime Minister David Oddsson has announced that his party plans to lower the individual income tax over the next election period, but has not revealed any detailed plans. The other coalition party also has made tax cuts the main issue of its election agenda. But the two main opposition parties have not promised tax cuts, saying they would negatively affect social services that already have been impaired by the conservative policies of the current government. Instead, they promise to pursue a fairer tax policy and to strive for a more equitable distribution of the tax burden.



=============== FULL TEXT ===============
Published by Tax AnalystsTM


After two successive terms (eight years) in power, Iceland's right-wing/center coalition government faces some trouble in the upcoming general elections in May. One problem is the emergence of Ingibjorg Solrun Gisladottir, the popular former mayor of Reykjavik, as the Social Democratic Party candidate for prime minister. Another problem is the huge increase in the individual tax burden that has taken place during the current government's tenure.
Gisladottir ousted the Conservative Party of present-day Prime Minister David Oddsson from the leadership of the city council of Reykjavik, Iceland's capital, nine years ago. And in a number of recent polls, Gisladottir's party now outscores or equals the Conservative Party, the biggest political party in Iceland for more than half a century.

As for the tax controversy, the ruling coalition's parliamentary opposition says that in the early 1990s, the individual tax burden in Iceland, as a percentage of gross domestic product, was one of the lowest in Europe -- about 2 percent lower than the OECD average. Now, after a decade of unequalled economic growth, the individual tax burden is about 2 percent higher than the OECD average, which has remained stable.

According to calculations presented by the parliamentary opposition, taxpayers in the lower income brackets have experienced tax increases of up to 6 percent, while the highest income groups have been sheltered from tax increases or are paying even lower taxes than before. Since the early 1990s, the government has lowered the corporate tax rate from 30 percent to 18 percent and has set the tax rate on dividends and capital gains at 10 percent, which mainly favors high-income taxpayers. Spokespersons for low-income groups representing, among others, the elderly and the disabled, and some sectors of the labor unions have expressed disapproval of the government's tax policy.

Minister of Finance Geir Haarde and other government officials have tried, without much success, to prove that the higher tax burden is a misrepresentation and have attributed tax increases to higher wages and increased purchasing power. They say that in reality, taxes have been reduced through the lowering of the individual tax rate. However, that line of reasoning, although technically correct, does not satisfy critics and does not address the biased distribution of the tax increases.

This has had some bearing on the election campaign. Oddsson has announced that his party plans to lower the individual income tax over the next election period, but has not revealed any detailed plans. The other coalition party also has made tax cuts the main issue of its election agenda.

But the opposition described those announcements as election tricks, saying that the governing parties made the same pledge eight years ago. Instead of fulfilling its promises to lower taxes on individuals, the government increased taxes, it said. The two main opposition parties have not promised tax cuts, saying they would negatively affect social services that already have been impaired by the conservative policies of the current government. Instead, they promise to pursue a fairer tax policy and to strive for a more equitable distribution of the tax burden.

Indridi H. Thorlaksson, Reykjavík, Iceland

 

This is an interesting point. First, our tax code should be much more progressive than it is. I envision the first $10,000 of someone's income being taxed 0%, and the next $10,000 of someone's income being taxed 5% or 10%. I envision every dollar a person makes over $500,000 being taxed 90%.

Second, it’s completely unclear whether our tax code’s being less progressive than the one that I am proposing had any affect on Bush's getting elected. There are so many variables.

But it is not unreasonable to believe that a much more progressive tax code would make it more difficult for economic ultra-conservatives to win. With our current system, it seems that, in general, the wealthy (in virtue of their being wealthy) have significantly greater affect on the political process than do non-wealthy people. If taxation were more progressive and federal tax dollars were used in good ways, then perhaps there would be less disparity of political opportunity between the wealthy and non-wealthy. More people would have the bare essentials such as nutritious food, a good education and adequate housing. This would most definitely enable people, in general, to get more involved in the political process. They would have more time and energy to do so. They also would have more understanding of politics, history, philosophy, literature and ideas as well as a greater capacity to attain understanding and to the think critically. These skills enable people to make a difference in politics -- to get their ideas across and to defend those ideas. Further, if more people could get involved in the political process, then perhaps wealthy people would have less sway on outcomes. And if wealthy people have less sway on outcomes, then perhaps economic conservatives would have a more difficult time winning than they do now. My impression is that the percentage of wealthy people who vote for economic conservatives is greater than the percentage of non-wealthy people who vote for economic conservatives.

Interestingly, it's not unreasonable to believe that some of the good parts of the economy that occurred under Clinton were caused by Clinton's tax increase, which made the federal income tax more progressive. That increase probably resulted in a lot more revenue being brought into the federal government than would have been brought in had that tax increase not been passed. Moreover, that extra revenue helped pay down the debt, and paying down the debt probably had some good economic consequences.

The good economy under Clinton probably helped Gore to some extent. But it may not have helped Gore to a great extent. Prehaps many people felt that we were going to have a strong economy no matter who was President.

Also, Manolo is right that economic wealth should not significantly affect the opportunity to affect the political system. Almost all humans are autonomous agents, capable of making choices. Also, our laws affect all of us. It's unreasonable for wealthy persons (in virtue of their wealth) to have a lot more power to affect the political system than non-wealthy persons.

Moreover, it does seem to be the case that, in general, wealthy US citizens have significantly more opportunity to affect the political process than non-wealthy US citizens. For example, Ross Perot versus homeless people. Perot didn’t win, but he made a pretty big impact. It would be very hard, if not impossible, for a person who is homeless to make a similar impact. Of course, Bill Clinton was born into a working-class situation, and he made a huge impact. But he was unusually talented and lucky. He is the exception.

What, if anything, should be done about wealthy people (in virtue of their wealth) having more opportunity to affect the political system than non-wealthy people? McCain/Feingold probably was a start. But a small start. It seems that we should have significantly greater public funding of political campaigns, though I don't have a particularly good sense of which specifics are good. How about using federal matching funds at lower levels? Sort of a step-by-step system. In other words, say that a middle-income person runs for the US Congress and raises $ 10,000 dollars and gets 5,000 signatures of people who say they support his candidacy. Perhaps there should be $ 10,000 in matching funds given to him. Then say he raises another $20,000. Perhaps there should be more funds given at that point.

Also, it would be great if someone polling at 2.5 percent were allowed to be a participant in at least one of the three Presidential debates.

But it also should be said that it's possible that progressive campaign finance laws and highly progressive taxation such as the kind I'm advocating may not be sufficient to significantly limit the inequality of political opportunity that comes with inequality of wealth. If that is the case, then more significant steps should be looked at.

 

This reads like it's pure insanity, but the more I think about it the more I like it.

1) I'll never make anywhere near that much money. Those rates won't effect my pocketbook one bit.

2) If you are making over 500 large a year, you have no money worries. Heavily taxing additional income results in no real harm to your livelyhood - if you were going to spend that money, it was on extra Bentleys and Benzes anyway. (I can't even imagine trying to spend that kind of money every year with out practically burning it in the fireplace. I could live very well on that bank, plus set myself up for retirement, plus save up plenty for my future kids to go to college.)

One possible scale:

Code:

              Eff% Top earner in bracket pays...
  0k- 10k  0%  0%  $0
 10k- 20k 10%  5%  $1000
 20k- 80k 15% 10%  $10000
 80k-140k 20% 16%  $22000
140k-200k 30% 20%  $40000
200k-260k 40% 25%  $64000
260k-320k 50% 29%  $94000
320k-380k 60% 34%  $130000
380k-440k 70% 39%  $172000
440k-500k 80% 44%  $220000
500k+     90%

Interesting... The effective tax rate shows that this isn't as bad as it might sound. At an income of 500k your effective rate is still only 44%. High, but not rediculously so. If you make 4 million a year, your effective rate has climbed up to 84%. 10 million, it's 87%. 1 million, 67%. It only becomes "oppressive" if you make insane amounts of money.

Sorry for the formatting. I couldn't get HTML to work. But I found this strangely intriguing.

 

I envision every extremely successful person in the country leaving the USA.

I'm all for a progessive tax system, but 90% tax rates (without a zillion deductions) is pure madness.

 

OK, Imaginary Kyle makes $1m a year. According to Fooshino, he's paying 66% of his income in tax.

So, Imaginary Kyle is still netting $333K a year during his playing years, if Foosinho's figures are correct. Say he lives on a miserly $100K a year and buries the rest in a coffee can in his back yard. He's got $1.6m in that coffee can by the end of his career. If we assume that he's going to live another 50 years, that leaves him about $32K a year. This assumes that he does not invest a penny of his savings during his playing days, which is nonsense; that his future investments merely keep up with (rather than exceed) the rate of inflation, which is nonsense, and that he never works another day in his life or gets income from any other source for the rest of his life, which is both nonsense and not necessarily something that I (as someone who likely will make less than the national median income for most of the rest of my life) do not necessarily consider something that I'd like to subsidize, thank you very much.

Even if Imaginary Kyle does not live the relatively frugal $100k/year lifestyle sketched out above, it's hard to imagine the post-playing-career lifestyle of the average player sufficently good to be paid $1m a year going catalysmically wrong.

Assuming for the sake of argument that he could not get a decent job as a professional coach, or as a scout, or as a team executive, or as a "consultant", or as a college coach, or working for US Soccer, or as the front man for a soccer camp, or running Imaginary Kyle's Sports Bar and Grille in the heart of Columbus's alleged red-light district, he could still always complete his college education, or go to community college, or trade school, and basically do what everyone else does with their lives.

If the most horrible injustice visited upon us by progressive taxation you can come up with is the inability of people making $1m a year to retire before the age of 35, you're on pretty thin ice.

 

That's not what I forsee - I see a reduction in the salary gap. I would expect the median income level to rise. Since we would no longer be paying CEOs 300 million a year, we could afford to give teachers and cops and firemen reasonable living wages.

Are scientists developing prescription drugs making 5 million dollars a year? This would be entirely feasible (I don't know if the 90% high-end number would go over) on a personal income level.

Corporate taxes, OTOH, would have to use a different scale. But really - how many corporations pay appreciable taxes now anyway?

 

But see, the thing is, if the progressive tax system is useful in preventing society from being dominated by the rich, I would like to see some evidence of this. You have done little in the way of that.

Your argument seems to be that if there is any undue influence on the part of big business and the rich then it must be because our progressive rates aren't high enough. Let me ask you this, would you contend that big business and the rich had less influence over politics in the 1970s when top marginal rates were at 70%? Was politics a cleaner business back then?

Actually I've never said anything remotely like that, and defy you to point out where I said that.

For personal income tax, I would suggest a sizeable standard deduction and then a flat tax on all remaining income.

Business would be more difficult, but to pretend that it would be just as complex as today is absurd. The Armey-Shelby proposal for example (flattax.house.gov) would allow businesses to deduct from their gross income the costs of operations, the value of land and capital structures purchased during the year, and the wages and salaries paid to their employees.

Would there be some room left to hide income? No doubt? Would it be an improvement over the current system? Unquestionably yes.

 

Does that "remaining income" include the value of medical care? Appreciation in the value of property? Gifts? Bartered services? Retirement plan accruals? Inheritances?

 

Well, you'll be glad to know that the government of Prime Minister David Oddson was re-elected last week. His opponent, Solrun Gisladottir, meanwhile actually lost her seat in parliament.

I suspect he was re-elected because despite the controversy over social spending that Iceland enjoyed six consecutive years of growth averaging 5% -- impressive numbers in a developed economy.

 

Not income.

Not income either. Shouldn't be taxed until the income is realized.

Apply the current rules, which I believe is that you are taxed after a certain amount worth of gifts.

I don't believe that is considered income. And if you think that you can dodge the tax man by getting by on barter, go for it.

Not until the income is realized.

I would suggest treating this the same as gifts.

But your larger point is well-taken. Yes, you still have to make definitions regarding what constitutes income. And plainly the flat tax is not a cure-all -- one reason why many have argued for a consumption tax to replace the income tax entirely -- but I would still contend it is better than the current system.

 

The most compelling argument against a flat tax to me is that much of the current tax code is devoted to defining what does and does not constitute taxable income, and who is responsible for that income (e.g. trusts, shareholders, partners or corporations) so the flat tax does not simplify most of the code.

I suppose you could eliminate all deductions from income as an argument to support the flat tax and that would get rid of about 1/3 of the code.

To support that, however, you have to make the argument that the tax code should not reward certain uses of income that the legislature deems desirable -- such as purchasing a home, saving for retirement, research and development, etc. For me, anyway, I just can't buy into the theory that government should be neutral towards economic behavior.

 

Well, that's a whole separate can of worms, and a debate I'm not sure I have the energy for.

 

It is overwhelmingly unlikely that the kind of tax code I'm advocating would cause more than a handful of people to leave the US. Maybe not even a handful. I personally don't know one person who would leave. Moreover, it seems that the overwhelming majority of people who live in this country like living here so much that they would stay even if they were taxed to the degree I'm advocating (as long as they earned very high incomes).

Moreover, even if the tax code that I've mentioned would contribute to some people leaving the US, that is much less important than every US citizen having the opportunity to be healthy, to be educated and to be able to make important choices. If one cannot eat nutritious food, then usually one will live a meager life, and a short one. If one is uneducated, one's actions probably are more determined by antecedent conditions than if one is educated. Meanwhile, if a few millionaires leave the US, they still will have the opportunity to live good lives. And their leaving probably would not significantly reduce the well-being of many, if any, people. Finally, there is good reason to believe that the kind of tax code I've alluded to -- coupled with increased government spending in key areas -- would result in nearly every US citizen having those opportunities. For it probably would generate a great deal more revenue than our current tax code, so we could spend more without generating massive budget deficits.

Said tax code probably also would give us the opportunity to help people in other countries live good lives, as we would have more money to give to the UN and to spend on foreign aid.

In addition, right now it seems that, in general, the non-wealthy have less opportunity to affect the political process than do the wealthy. Moreover, there is good reason to believe that said tax code would make it so that wealth is not so closely connected (as it is now) to the opportunity to affect the political system. This is partly for the reasons I mentioned in my previous post. It is more important that wealth not greatly affect political opportunity than it is that a few millionaires not leave. The ability to affect law and policy is connected closely to being a person that can shape one's life, so that one is not simply buffeted about by external factors.

Finally, it may be that this kind of highly progressive tax code would be good for employment and innovation, as it probably would make it much easier for we, as a society, to fund education and health care. And if people are more educated and have the basic necessities of life met, it clearly would significantly reduce crime and drug use. Also people would have more energy and a greater ability to develop their unique skills and talents. Also, incarceration is hugely costly.

Obviously, it is not certain that the kind of tax code I'm advocating -- in addition to greater government spending in certain key areas -- would bring about the ends I've mentioned. But it's at least worth a try. There is some reason to believe that it would help, and we could always go back to our current policies if it turned out that things didn't work out.

 

Nutmeg, what reason is there to believe that the tax code that I've sketched would result in the above consequences or similar ones?

 

Colin, I know you know a lot about these issues. So I'm interested in why, in your view, we ought to have the kind of tax that you mentioned above rather than one more similar to the one that I've been advocating?

 

Basic economic theory would posit that if you tax people too heavily, there is reduced incentive to be productive. Why try to earn $600k if you only get to keep $10k of that extra $100k? Over the economy as a whole this is a drag on productivity, and ultimately a drag on tax revenues.

This is a basic tenet of economic theory, and while the breaking point of when this negative influence occurs is debatable, it's more than likely that a 90% tax rate over 500K would be counterproductive.

Maybe a 75% tax on incomes over $2 million would have less of a negative impact, for example.