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A Fair Tax or a Simple Code?

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October 15, 2011 by Milton Jones

“Render unto Caesar the things which are Caesars, and to God the things which are God’s,” said the Master about 2 millennia ago. From this we can see that the present generation’s concern about fair taxation is nothing new. People hated taxes then and still hate them now. Many are saying things like “change the tax code,” or “abolish the IRS.” A popular sentiment is that the Income Tax should be fair and simple. My response is “do you want FAIR, or do you want SIMPLE? You probably can’t have both!”

Let me illustrate: It would be simple if everyone, rich or poor, paid exactly the same percentage of their income. The advocates of the Flat Tax say that by implementing such a system we could do away with the IRS. “Fair and simple,” they say. “Not so,” cries another. “The rich can and should pay more. The flat tax is regressive and not fair.” However, we could all agree that such a system would be simple.

On the other hand, a progressive tax system (like we now “enjoy”) establishes higher brackets for higher incomes. Alas, our present system is riddled with deductions and exemptions. Each of these tax privileges has the goal of making the system fair, or has some social objective. For example, interest on home mortgages is deductible because it encourages the socially desirable objective of home ownership. Payments to a retirement account are deductible in order to encourage people to be less dependent on the government in old age. Church and charitable contributions are deductible. If you are self-employed, you first subtract the cost of earning your income to arrive at the “adjusted gross,” which is considered the amount you really earned. Each of these variables has the goal of achieving fairness but causes the system to be endlessly complicated.

The average citizen is all in favor of cutting out all those “loopholes” which others enjoy, so long as as he doesn’t lose his favorite deduction. Also, debate rages about how to tax corporations. We have the populist sentiment which says “sock it to those evil corporations and, while we’re at it, let’s sock it to their rich capitalist owners.” A more enlightened view might be to merely tax the owners in proportion to the benefit received. In other words, don’t tax the corporation, just tax the dividends received by the owners. Then, you might get more capital formation, more jobs and more prosperity (and possible more revenue).

It is easy to overlook, in the talk about tax reform, that we have many levels of taxation. Counties and School Districts rely heavily on property taxes, the burden of which falls on landlords and property owners. The poor are impacted most heavily by sales taxes, which primarily support states and cities. Anybody noticed that sales and property taxes are rising?

“Wait a minute,” someone objects, “don’t we all pay sales taxes on everything we buy?” Yes, it is true everyone pays sales taxes. But the argument is that the poor must spend practically everything they earn for necessities of life and so they pay sales taxes most of their income. More affluent people, who do not have to spend every dollar on the essentials of life, are not as​ ​heavily impacted; or so goes the argument.

Then of course we have payroll taxes, which are dedicated taxes for Social Security, Medicare, unemployment, etc. Probably most wage earners pay more payroll taxes than income taxes. So maybe it works out like this — the poor suffer most from the sale tax, the worker bees are hardest hit by payroll taxes and the rich enjoy paying the most in income and property taxes. So you could make the case that some amount of fairness exists in a system that spreads the misery around.

Just for the record, I don’t much like the idea of a Flat Tax. I like my loopholes, although I may not care much for yours. Proposals I’ve heard involve something like a 20-percent bracket for everyone, or perhaps a 20-percent national sales tax. In either case, they propose to exempt the lowest incomes. Simple but not fair, I think. The rich (whoever they are) tend to favor that idea because they see a perceived advantage.

So what about the idea of raising taxes on high earners? The problem with that is something called diminishing returns. High income people are already paying close to half their income, when Federal, State, and Social Security taxes are added together. I recall a time in the 70’s when top Federal brackets were at 50 percent or more, and that was just the Federal Income tax. A lot of energy was spent in looking for tax-sheltered ways to invest money. Such shelters take money and energy away from more productive uses. A businessman will reason like this “why should I put on that second shift or expand the plant if taxes will take two-thirds of anything extra I make? It isn’t fair, so I’m not doing it!”

How about another quotation from the good book? “You shall not show partiality to a poor man in his dispute.” Exodus 23:3. The message I get from this and surrounding passages is that justice should be even handed without regard to whether you are rich or poor. Okay, so that’s from the Law of Moses, but it establishes a principle of justice. We have too much animus these days toward the successful people who make our system run.

Anybody want to run for Congress?

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