I’m a proponent of a pro-growth and non-corrupt tax code.
I mostly write and talk about the flat tax, though I’d be happy to instead accept a national sales tax if we could somehow get rid of the 16th Amendment and replace it with something so ironclad that even Justices such as John Roberts and Ruth Bader Ginsburg couldn’t rationalize that the income tax was constitutional.
But since there’s no chance of any good tax reform with Obama in the White House, there’s no need to squabble over the best plan. Instead, our short-term goal should be to educate voters so that we create a more favorable intellectual climate for genuine reform in 2017 and beyond.
That’s why I’ve argued in favor of lower tax rates and shared the latest academic research showing that tax policy has a significant impact on economic performance.
But tax reform also means getting rid of the rat’s nest of deductions, credits, exemptions, preferences, exclusions, shelters, loopholes, and other distortions in the tax code.
Why? Because people should make decisions on how to earn income and how to spend income on the basis of what makes economic sense, not because they’re being bribed or penalized by the tax code. That’s just central planning through the back door.
And if you don’t think this is a problem, I invite you to peruse three startling images, each of which measures rising complexity over time.
- The number of pages in the tax code.
- The number of special tax breaks.
- The number of pages in the 1040 instruction booklet.
Today’s Byzantine system is good for tax lawyers, accountants, and bureaucrats, but it’s bad news for America. We need to wipe the slate clean and get rid of this corrupt mess.
But as I explain in this appearance on Fox Business News, we won’t make progress until we control the burden of government spending and unless we make sure that deductions are eliminated only if we use every penny of revenue to lower tax rates.
I’ve previously explained why it’s okay to get rid of itemized deductions for mortgage interest, charitable contributions, and state and local tax payments.
Let’s now take a moment to explain why the internal revenue code shouldn’t be artificially steering capital toward state and local governments at the expense of private investment.
Under current law, there’s no federal income tax imposed on interest from municipal bonds. No matter how rich you are, Uncle Sam doesn’t tax a penny of the interest you receive if you use your wealth to lend money to state and local governments.
This “muni-bond exemption” has two unfortunate effects.
- It makes it easier and cheaper for state and local governments to incur debt, thus encouraging more wasteful spending by cities such as Detroit and states such as California.
- By making the debt of state and local governments more attractive than private business investment, the loophole undermines long-term growth by diverting capital to unproductive uses.
The politicians at the state and local level certainly understand what’s at stake. They’re lobbying to preserve this destructive tax break. Here are some excerpts from a story in the New York Times.
Mr. Firestine [of Montgomery County, MD] is on the front lines of a lobbying campaign by local and state governments, bond dealers, insurers and underwriters that is trying to pre-empt any attempt to limit or even kill the tax exemption. …At present, the federal government forgoes about $32 billion a year in taxes by exempting the interest that investors earn from municipal bonds. …The National Commission on Fiscal Responsibility and Reform, known as the Simpson-Bowles commission, has suggested taxing all municipal bond interest, not just the interest paid to people in the top bracket. …Officials of some other government groups, like the New York City Housing Development Corporation, have formed a coalition with Wall Street groups like the Bond Dealers of America to lobby on the issue. But there is the sense of an uphill battle. …Capping the tax exemption would cause high-bracket taxpayers to look for higher-yielding investments, he said, and the county would have to offer more interest to lure them back.
Based on the last sentence in the excerpt, I gather we’re supposed to think it would be bad news if we got rid of this tax preference and taxpayers shifted more of their money to private-sector investments.
Needless to say, that’s misguided. Only in the upside-down world of Washington do people think it is smart to create tax preferences that lead to more wasteful spending by state and local governments, while simultaneously imposing punitive forms of double taxation on saving and investment in the private sector.
By the way, this shouldn’t be an ideological issue. If this amazing chart is any indication, leftists who want workers to enjoy more income should be clamoring the loudest for a tax system that doesn’t tilt the playing field against capital formation.
P.S. While simplicity is a good goal for tax policy, you will understand why it shouldn’t be the only goal if you check out this potential Barack Obama tax reform plan.
[…] exemption for muni-bond interest (the interest paid to people who lend money to state and local […]
[…] paid to owners of bonds issued by state and local governments. This “muni-bond” loophole is very bad tax policy since it creates an incentive that diverts capital from private business investment to subsidizing […]
[…] Tax exemption for municipal bonds […]
[…] Tax exemption for municipal bonds […]
[…] Tax exemption for municipal bonds […]
[…] clever about legal tax avoidance. They do things like invest in tax-free municipal bonds (which is not good for the economy, but it’s a very effective way of escaping […]
[…] clever about legal tax avoidance. They do things like invest in tax-free municipal bonds (which is not good for the economy, but it’s a very effective way of escaping […]
[…] clever about legal tax avoidance. They do things like invest in tax-free municipal bonds (which is not good for the economy, but it’s a very effective way of escaping […]
[…] state and local tax deduction is an obvious example, but Democrats also are big fans of the tax exemption for municipal bond interest and other provisions that primarily reduce tax liabilities for upper-income […]
[…] And it’s also based on the fact that they can shift their economic activity to tax-favored (but generally unproductive) sectors such as municipal bonds. […]
[…] explained in 2013 why it’s bad tax […]
[…] to owners of bonds issued by state and local governments. This “muni-bond” loophole is very bad tax policy since it creates an incentive that diverts capital from private business investment to subsidizing […]
[…] preferences for housing, I should point out that there are two other huge loopholes – the municipal bond interest exemption and the healthcare exclusion – that basically were left untouched. Hopefully they will be on […]
[…] Or they can choose to (mis)allocate capital in ways that make sense from a tax perspective, but might not be very beneficial for the economy. […]
[…] for mortgages and charitable contributions, as well as the fringe benefits exclusion and the exemption for municipal bond interest. And there are many other corrupt favors sprinkled through a metastasizing tax […]
[…] for mortgages and charitable contributions, as well as the fringe benefits exclusion and the exemption for municipal bond interest. And there are many other corrupt favors sprinkled through a metastasizing tax […]
[…] addition to the loophole that encourages higher taxes at the state and local level, there’s also a special tax preference that encourages higher spending at the state and local level. […]
[…] means getting rid of preferences such as the healthcare exclusion, the municipal bond exemption, the charitable contributions deduction, and the state and local tax […]
[…] states such as California, New Jersey, and Illinois. The exemption for municipal bond interest is another misguided provision since it makes it easier for states to finance spending with […]
[…] states such as California, New Jersey, and Illinois. The exemption for municipal bond interest is another misguided provision since it makes it easier for states to finance spending with […]
[…] provisions in the tax code that are clearly loopholes, such as the healthcare exclusion, the municipal bond exemption, and the state and local tax deduction (the mortgage interest deduction is misguided, but […]
[…] This also is a step in the right direction, though it’s unclear what Bush is proposing – if anything – for other big tax loopholes such as the mortgage interest deduction, the healthcare exclusion, the state and local tax deduction, and the municipal bond exemption. […]
[…] This also is a step in the right direction, though it’s unclear what Bush is proposing – if anything – for other big tax loopholes such as the mortgage interest deduction, the healthcare exclusion, the state and local tax deduction, and the municipal bond exemption. […]
[…] local tax deduction, the mortgage interest deduction, the charitable contributions deduction, the muni-bond exemption, and the fringe benefits […]
[…] I’ve specifically come out against tax preferences for ethanol, housing, municipal bonds, charity, and state and local […]
With rising income, benefits are lost, exemptions are phased out, deductions are phased out, entitlements will be means tested, energy discounts will be phased out, payment into fixed benefit Medicare increases, new tax brackets are entered, and inheritance taxes appear. All creating very-very high marginal tax rates. With the introduction of ObamaCare, refundable tax credits, and other “help” voter-lemmings are poised to demand at the polls, these very high marginal tax rates are also spilling out into the middle and lower incomes. Incentives to produce in America are finally falling across the board to levels that are more aligned with the worldwide norm — the norm of America’s competitors. They must be reflexively (though nearsightedly) rejoicing at the prospect of American decline and decreased American competition.
Meanwhile the lower growth rates of the Ranh curve are starting to seriously compound western world standard of living into convergence towards the worldwide average. The event horizon of America’s prosperity dominance in the world is approaching.
Voter lemmings are setting themselves (and western civilization) up for an interesting ride into decline. Seeing their standard of living slipping from the top fifteen percent to the top twenty percent worldwide, a lemming 60% majority will mandate suicide by desperately defaulting to copying the rest of the world into flatter effort-reward curves. The lemming 99% who think themselves of as the middle class, still ranking at the top 15% of worldwide prosperity, will find themselves ever closer to the TRUE middle class: The worldwide 50%. I guess you can call that “world fairness” after all.
Soon, even those who have enough brains to discern what needs to happen will simply turn to grabbing whatever they find while they still can.
I remain unsure whether the decline will be an orderly wretched but manageable descent, or a few uncontrolled cataclysmic crises –since the world is now moving at an ever accelerating pace — or, as I tend to think more likely, a combination thereof. In some way, the uncontrolled scenario may turn out better in the long term overall. Perhaps after a lot of short term pain some lessons will be learned.
The process is too chaotic to have an intuition into the specific mode of decline. But one thing is for sure: Without strong incentives to produce, the raw energy to prosper just simply does not exist. Paul Krugman can sell all the snakeskin oil he can but he cannot create energy from nothing. His rhetoric remains a delusion for lemming consumption, to keep them a little hopeful and distracted while they decline.
Under flatter effort-reward curves, decline is the only certain outcome. Only the mode remains to be seen.
May you live in interesting times…
Only in D.C. would it make sense to sterr money away from growth and towards waste and fraud.