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Archive for the ‘Tax Reform’ Category

With tax day fast approaching, it’s time to write about our good friends at the Internal Revenue Service.

One of the new traditions at the IRS is an annual release of tax scams. It’s know as the “dirty dozen” list, and while it may exist mostly as a publicity stunt, it does contain some useful advice.

And that’s true of this year’s version. But I worry that the IRS is looking at a few trees and missing the forest.

The Washington Examiner was kind enough to let me write a cover story on the “dirty dozen” list. Here’s my effort to add some context to the discussion.

…our friends at the Internal Revenue Service have a relatively new tradition of providing an annual list of 12 “tax scams” that taxpayers should avoid. It’s an odd collection, comprised of both recommendations that taxpayers protect themselves from fraud, as well as admonitions that taxpayers should be fully obedient to all IRS demands. Unsurprisingly, the list contains no warnings about the needless complexity and punitive nature of the tax code. Nor does the IRS say anything about how taxpayers lose the presumption of innocence if there’s any sort of conflict with the tax agency. Perhaps most important, there’s no acknowledgement from the IRS that many of the dirty dozen scams only exist because of bad tax policy.

In the article, I list each scam and make a few observations.

But I think my most useful comments came at the end of my piece.

…maybe the tax system wouldn’t engender so much hostility and disrespect if it was simple, transparent, fair, and conducive to growth. And that may be the big-picture lesson to learn as we conclude our analysis. When the income tax was first imposed back in 1913, the top tax rate was only 7 percent, the tax form was only two pages, and the tax code was easily understandable. But now that 100 years have gone by, the tax system has become a mess, like a ship encrusted with so many barnacles that it can no longer function. …the bottom line is that the biggest scam is the entire internal revenue code. The winners are the lobbyists, politicians, bureaucrats and insiders. The losers are America’s workers, investors, and consumers.

In other words, if we actually want a humane and sensible system, we should throw the current tax code in the garbage and replace it with a simple and fair flat tax.

And that’s exactly the message I shared in this interview with C-Span.

Here are a few of the points from the discussion that are worth emphasizing.

The current tax code benefits Washington insiders, not the American people.

But I’m not optimistic about fixing the tax code, in part because the crowd in DC would lose some power.

We’ll never get good tax reform unless there’s genuine entitlement reform to restrain the growing burden of government spending.

The flat tax and national sales tax are basically different sides of the same coin.

If you want class-warfare tax rates on the rich, keep in mind that high rates don’t necessarily translate into more revenue.

The no-tax-hike pledge is a vital and necessary component of a strategy to restrain government.

Itemized deductions benefit the rich, not the poor.

If you care about poor people, focus on growth rather than inequality.

We should mimic Hong Kong and Singapore, not France and Greece.

P.S. I wrote last week that the Senate GOP put together a budget that is surprisingly good, both in content and presentation. A reader since reminded me that the Chairman of the Senate Budget Committee was a sponsor of the “Penny Plan,” which would lower non-interest outlays by 1 percent per year.

Since Mitchell’s Golden Rule simply requires that spending grow by less than the private sector, Senator Enzi’s Penny Plan obviously passes with flying colors.

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In my 2012 primer on fundamental tax reform, I explained that the three biggest warts in the current system.

1. High tax rates that penalize productive behavior.

2. Pervasive double taxation that discourages saving and investment.

3. Corrupt loopholes and cronyism that bribe people to make less productive choices.

These problems all need to be addressed, but I also acknowledged additional concerns with the internal revenue code, such as worldwide taxation and erosion of constitutional freedoms an civil liberties.

In a perfect world, we would shrink government to such a small size that there was no need for any sort of broad-based tax (remember, the United States prospered greatly for most of our history when there was no income tax).

In a good world, we could at least replace the corrupt internal revenue code with a simple and fair flat tax.

In today’s Washington, the best we can hope for is incremental reform.

But some incremental reforms can be very positive, and that’s the best way of describing the “Economic Growth and Family Fairness Tax Reform Plan” unveiled today by Senator Marco Rubio of Florida and Senator Mike Lee of Utah.

The two GOP senators have a column in today’s Wall Street Journal, and you can read a more detailed description of their plan by clicking here.

But here are the relevant details.

What’s wrong with Rubio-Lee

In the interest of fairness, I’ll start with the most disappointing feature of the plan. The top tax rate will be 35 percent, only a few percentage points lower than the 39.6 percent top rate that Obama imposed as a result of the fiscal cliff.

Even more troubling, that 35 percent top tax rate will be imposed on any taxable income above $75,000 for single taxpayers and $150,000 for married taxpayers.

Since the 35 percent and 39.6 percent tax rates currently apply only when income climbs above $400,000, that means a significant number of taxpayers will face higher marginal tax rates.

That’s a very disappointing feature in any tax plan, but it’s especially unfortunate in a proposal put forth my lawmakers who wrote in their WSJ column that they want to “lower rates for families and individuals.”

What’s right with Rubio-Lee

This will be a much longer section because there are several very attractive features of the Rubio-Lee plan.

Some households, for instance, will enjoy lower marginal tax rates under the new bracket structure, particularly if those households have lots of children (there’s a very big child tax credit).

But the really attractive features of the Rubio-Lee plan are those that deal with business taxation, double taxation, and international competitiveness.

Here’s a list of the most pro-growth elements of the plan.

A 25 percent tax rate on all business income – This means that the corporate tax rate is being reduced from 35 percent (the highest in the world), but also that there will be a 25 percent maximum rate on all small businesses that file using Schedule C as part of a 1040 tax return.

Sweeping reductions in double taxation – The Rubio-Lee plans eliminates the capital gains tax, the double tax on dividends, and the second layer of tax on interest.

Full expensing of business investment – The proposal gets rid of punitive “depreciation” rules that force businesses to overstate their income in ways that discourage new business investment.

Territorial taxation – Businesses no longer will have to pay a second layer of tax on income that is earned – and already subject to tax – in other nations.

No death tax – Income should not be subject to yet another layer of tax simply because someone dies. The Rubio-Lee plan eliminates this morally offensive form of double taxation.

In addition, it’s worth noting that the Rubio-Lee plan eliminate the state and local tax deduction, which is a perverse part of the tax code that enables higher taxes in states like New York and California.

Many years ago, while working at the Heritage Foundation, I created a matrix to grade competing tax reform plans. I updated that matrix last year to assess the proposal put forth by Congressman Dave Camp, the former Chairman of the House Ways & Means Committee.

Here’s another version of that matrix, this time including the Rubio-Lee plan.

As you can see, the Rubio-Lee plan gets top scores for “saving and investment” and “international competitiveness.”

And since these components have big implications for growth, the proposal would – if enacted – generate big benefits. The economy would grow faster, more jobs would be created, workers would enjoy higher wages, and American companies would be far more competitive.

By the way, if there was (and there probably should be) a “tax burden” grade in my matrix, the Rubio-Lee plan almost surely would get an “A+” score because the overall proposal is a substantial tax cut based on static scoring.

And even with dynamic scoring, this plan will reduce the amount of money going to Washington in the near future.

Of course, faster future growth will lead to more taxable income, so there will be revenue feedback. So the size of the tax cut will shrink over time, but even a curmudgeon like me doesn’t get that upset if politicians get more revenue because more Americans are working and earning higher wages.

That simply means another opportunity to push for more tax relief!

What’s missing in Rubio-Lee

There are a few features of the tax code that aren’t addressed in the plan.

The health care exclusion is left untouched, largely because the two lawmakers understand that phasing out that preference is best handled as part of a combined tax reform/health reform proposal.

Some itemized deductions are left untouched, or simply tweaked.

And I’m not aware of any changes that would strengthen the legal rights of taxpayers when dealing with the IRS.

Let’s close with a reminder of what very good tax policy looks like.

To their credit, Rubio and Lee would move the tax code in the direction of a flat tax, though sometimes in a haphazard fashion.

P.S. There is a big debate on the degree to which the tax code should provide large child credits. As I wrote in the Wall Street Journal last year, I much prefer lower tax rates since faster growth is the most effective long-run way to bolster the economic status of families.

But even the flat tax has a generous family-based allowance, so it’s largely a political judgement on how much tax relief should be dedicated to kids and how much should be used to lower tax rates.

That being said, I think the so-called reform conservatives undermine their case when they argue child-oriented tax relief is good because it might subsidize the creation of future taxpayers to prop up entitlement programs. We need to reform those programs, not give them more money.

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Genuine tax reform would be the second-best fiscal policy reform to boost economic growth.*

With a simple and fair tax system, we could get rid of high tax rates that penalize productive behavior. We could eliminate the double taxation that discourages saving and investment. And we could wipe out the rat’s nest of deductions, credits, exemptions, preferences, exclusions, and other loopholes that bribe people into making economically unwise decisions.

When pushing for tax reform, I normally cite the flat tax, but there are many roads that lead to Rome. I’ve also pointed out that other tax reform plans have similar attributes. Here’s what I wrote, for instance, when comparing the flat tax and national sales tax.

In simple terms, a national sales tax (such as the Fair Tax) is like a flat tax but with a different collection point.the two plans are different sides of the same coin. The only difference is that the flat tax takes of slice of your income as you earn it and the sales tax takes a slice of your income as you spend it. But neither plan has any double taxation of income that is saved and invested. And neither plan has loopholes to lure people into making economically irrational decisions.

And even though I’m so hostile to the value-added tax that I almost foam at the mouth, I’ve even acknowledged that it would be a good system if you could somehow permanently eliminate all taxes on income.

…like the flat tax and national sales tax, it’s a single-rate system with no double taxation of income that is saved and invested

Some folks think my ecumenical attitude about tax reform is misguided. They argue, from a political perspective, that we won’t make progress unless we unify behind one plan.

That’s probably true at some point in the future, but I would argue that we first need discussion and debate about the principles of tax reform.

And that’s why I’m happy to see that the Heritage Foundation has published a new paper, authored by David Burton, that explains why the major tax reform plans are economically interchangeable.

The four leading conservative tax reform plans are the Hall–Rabushka flat tax, the new flat tax, a national sales tax, and a business transfer tax. Each is a consumption tax with an equivalent tax base. Except for secondary design choices and the choice of which taxes to replace, each would apply the same tax rate to raise a given amount of tax revenue. They would also have the same economic effects. The choice among them, therefore, rests on non-economic grounds.

Perhaps the most important part of that excerpt is where David asserts that all of the big tax reform proposals are consumption taxes.

This point deserves some elaboration. Here’s some of what I wrote on this same issue.

For all intents and purposes, a “consumption tax” is any system that avoids the mistake of double-taxing income that is saved and invested. Both the national sales tax and the value-added tax, for instance, are examples of consumption-based tax systems. But the flat tax also is a consumption tax. It isn’t collected at the cash register like a sales tax, but it has the same “tax base.”

Another way of saying the same thing it to point out that a “consumption tax” is simply a system where income is taxed only one time.

And that’s also true of the subtraction-method VAT, which David refers to as a BTT, along with the “new flat tax,” which is similar to the traditional flat tax except for the method used to prevent double taxation.

In his paper, David has some flowcharts to illustrate the similarities of the various tax reform plans.

Here’s the one for a national sales tax.

And here’s the one for the flat tax.

Let’s close by reminding ourselves about what’s wrong with the current system. Here’s a video produced by Professor Murray Sabrin at Ramapo College in New Jersey. I make a few appearances, beginning about 10-1/2 minutes into the film.

*The best fiscal policy reform would be dramatically shrinking the size of the federal government so that a far greater share of labor and capital in our economy could be allocated by market forces rather than by politicians and bureaucrats.  Ideally, the federal government could be reduced to the limited “night watchman” functions envisioned by the Founding Fathers, in which case there would be no need for any broad-based tax.

P.S. Switching to another topic, regular readers know that I enjoy mocking politicians.

Well, I think if there was a “Politician of the Year” contest, we would have a winner. His name is Joe Morrissey. Here are some details from a Richmond newspaper.

Del. Joseph D. Morrissey, D-Henrico, preserved his legislative career for now but could find his license to practice law again in trouble after a dramatic plea Friday regarding his relationship with a 17-year-old office assistant. …Morrissey was being housed Friday night in Henrico Jail East in New Kent County, where he will be allowed to engage in a work-release program and maintain his legislative and legal duties, one of his lawyers said.

So he’s going to jail, but will still be a state lawmaker as part of a work-release program. Gee, his constituents must be proud.

By the way, you may be wondering about the “relationship” that the 57-year old Morrissey had with the 17-year old. Here are some of the details.

…the special prosecutor in the case told reporters that the now-18-year-old former associate of Morrissey is pregnant, “perhaps” with Morrissey’s child….Morrissey said he entered the plea to preserve his legislative duties, spare the alleged victim the difficulties of trial and to maintain his care of a 2-year-old child that he had out of wedlock.

So one illegitimate kid already and maybe another on the way. What a model citizen.

But there’s more.

As Richmond’s prosecutor in 1991, Morrissey punched a rival attorney in the face and wound up in jail. Two years later, he was indicted on a bribery charge for reducing charges in a rape case in exchange for a $25,000 payment to the victim. The charges were dropped, but his law license was suspended. He again had his law license suspended in 1998 and was put in jail for 90 days for improperly speaking to reporters during a drug case. He got into another fight in 1999 and was sentenced to 300 hours of community service. He tried to fake the number of hours he served, and was given another 90 days in jail, before finally being disbarred. He then practiced law overseas in Ireland and Australia before authorities discovered he had been disbarred, and he came back to Virginia, where he was elected to the General Assembly in 2007.

With a resume like that, no wonder he got elected. No need for on-the-job training!

P.P.S. I don’t know if I should admit this, but I dated a girl back in the 1990s that used to date Morrissey. I don’t know if that says something about her or something about me. But maybe after the PotL casts me aside, I should try to connect with one of Bill Clinton’s former paramours?

P.P.P.S. If you like mocking politicians, you can read about how the men and women in DC spend their time screwing us and wasting our money. We also have some examples of what people in Montana, Louisiana, Nevada, and Wyoming think about big-spending politicians. This little girl has a succinct message for our political masters, here are a couple of good images capturing the relationship between politicians and taxpayers, and here is a somewhat off-color Little Johnny joke. Speaking of risqué humor, here’s a portrayal of a politician and lobbyist interacting. Returning to G-rated material, you can read about the blind rabbit who finds a politician. And everyone enjoys political satire, as can be found in these excerpts from the always popular Dave Barry. Let’s not forgot to include this joke by doctors about the crowd in Washington. And last but not least, here’s the motivational motto of the average politician.

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I don’t pretend that tax reform, by itself, will create economic Nirvana.

After all, the experts who measure economic policy and economic performance say that only about 20 percent of a nation’s prosperity is determined by fiscal policy.

Nonetheless, I’m a big fan of simple and fair tax systems such as the flat tax. Not only because I think we will get more growth, but also because I want to rein in the power of the IRS and reduce corruption in Washington.

So did the Republican wave in the mid-term elections make reform more likely?

Interestingly, the normally left-leaning Washington Post editorial page seems to have the right attitude about the issue.

There is broad agreement that the Internal Revenue Code is an unfair, inefficient mess and that the solution is to lower marginal rates and apply them to a broader base of income. A simpler code, purged of its market-distorting loopholes, would foster economic equality and economic growth, both of which the United States desperately needs.

So does the election make reform more likely?

Does the rise of a newly elected Republican Senate change that calculus? We’d say that it might… To be sure, Democrats want tax reform to raise money; Republicans want cuts. Still, a good deal of work has already been done on basic principles of a tax overhaul by Democrats and Republicans in both houses of Congress. …With a strong push from Mr. Obama, early in the new Congress, they might just be willing to finish the job their predecessors started.

I suspect the Washington Post is being far too optimistic about bipartisan compromise.

Not only would lawmakers have to overcome the big divide over whether reform should produce more revenue for Washington or less money for Washington, but there’s also a big divide on how to properly measure income.

And don’t forget that Obama (unlike the Washington Post) wants higher marginal tax rates because of his class-warfare ideology.

But maybe I’m just being a pessimist.

Scott Hodge of the Tax Foundation, for instance, also offers a semi-optimistic assessment about the possibility of reform.

One of the most obvious questions from Tuesday’s election results is: what does this mean for tax reform? I think it certainly enhances the prospects of Congress and the president reaching a grand bargain on overhauling the tax code… Starting in January 2015, expect the new chairmen of the House Ways and Means Committee and the Senate Finance Committee begin holding a series of hearings on various aspects of reforming the tax system and the numerous “off-the-shelf” options available to them—such as the Flat Tax, X-Tax, FairTax, Cash Flow Tax, and the Camp draft. …Considering the energy to reform the tax code in both the House and Senate, it is quite possible that lawmakers could deliver a comprehensive tax reform bill to President Obama’s desk in 2015.

Scott makes several other points, including the long-overdue need to reform the biased revenue-estimating methodology of the Joint Committee on Taxation.

However, he also acknowledges that President Obama very likely would veto good tax reform. So even though our economy needs a less-destructive tax code, folks shouldn’t hold their breath expecting it to happen in the next two years.

I also addressed the topic as part of a recent forum at the Heritage Foundation, and I outlined several issues that have to be addressed if there is a serious effort to pursue tax reform. Here’s my part of the presentation.

But if you don’t want to watch me pontificate for ten-plus minutes, particularly since the video quality isn’t that great, here are my key points:

1. The tax base matters. If you don’t fix the double taxation of saving and investment, you may as well not even bother.

2. Bold beats timid. This is why I think a pure flat tax actually is more realistic than a proposal, such as Lee-Rubio, that makes compromises in hopes of being more politically realistic.

3. Highlight international competitiveness. Simply stated, globalization increases the benefits of good policy and increases the costs of bad policy.

4. International bureaucracies hinder good policy. Good tax reform is based on taxing income only once and only taxing income earned inside national borders, yet the OECD wants to impose global rules based on extra-territorial double taxation.

5. Good tax reform is good health reform. The biggest genuine loophole in the tax code is for fringe benefits, and this is a big reason for the third-party-payer crisis in healthcare.

6. Fix the biased scorekeeping of the JCT. The Joint Committee on Taxation uses methodology that it farther to the left than Paul Krugman.

7. Growth trumps fairness. The left will always use class-warfare arguments against good policy and the only effective counter-argument is that economic growth benefits all taxpayers.

One final point. Folks often ask me about plans – such as the Fair Tax – that would abolish the income tax and instead collect revenue with a national sales tax.

That approach is theoretically sound, but I have some practical concerns based on my distrust of politicians.

P.S. Here’s some humorous fallout from the election. Hitler learns that Democrats lost the Senate.

Hitler parody videos have appeared many places in recent years. Here are my favorites.

The head of the National Socialist Workers Party gets a double-dose – here and here – of bad news about Obamacare.

Here’s Hitler learning about Europe being downgraded.

And here’s the Fuehrer finding out that Scott Walker prevailed in his fight against government bureaucrats in Wisconsin.

P.P.S. I shared some cartoons before the election with the theme that Obama has been bad news for the Democratic Party.

Now that the election is over, that theme is even more appropriate.  Here’s Glenn McCoy’s assessment of the change Obama delivered.

Robert Ariail has a similar perspective.

In other words, as I suggested back in 2012, lots of non-leftist people should be happy that Obama got reelected.

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Some folks on the right in Washington, generally known as reformicons (short for reform conservatives), want the Republican Party to de-emphasize marginal tax rate reductions and instead focus on providing tax relief to parents.

There are many leaders in this movement and, if you want to learn more about the tax proposals being discussed, I specifically recommend the writings of Robert Stein, James Capretta, James Pethokoukis, Ramesh Ponnuru, Yuval Levin, Charles Blahous, Jason Fichtner, and Reihan Salam (and I’m sure I’m unintentionally leaving off many other worthy contributions).

I explained last year what I like (and don’t like) about reform conservatism, but I haven’t specifically analyzed the tax agenda of the reformicons.

Time to rectify that oversight. The Wall Street Journal was kind enough to give me some space so I could share my thoughts on this topic.

I start by outlining the debate, albeit in simplified form because of space constraints.

There’s a policy debate among conservatives in Washington about the best way to cut taxes and reform the tax code. The supply-siders want to replicate the success of Reaganomics with lower marginal tax rates. But there’s also a camp who call themselves “reform conservatives” who want income tax credits or payroll tax cuts explicitly for the purpose of reducing tax liabilities for middle-class parents. The supply-siders argue that if you want to encourage more work, saving, investment and entrepreneurship, then it is a good idea to reduce marginal tax rates on productive behavior. …Those in the other camp…don’t necessarily disagree with the supply-siders. They note that it was important to lower marginal tax rates in 1980 when the top personal tax rate was a confiscatory 70%. But now that the top rate is “only” about 40%, they argue, lower tax rates won’t deliver nearly as much bang for the buck.

The reformicons are right. Dropping the top tax rate from 40 percent will help the economy, but the pro-growth effect won’t be enormous. At least not compared to what happened during the Reagan years when the top tax rate was slashed from 70 percent to 28 percent.

And, as this leftist cartoon suggests, many Republicans act as if across-the-board tax rate reductions are an elixir for every ill.

But can reformicons suggest a better way of cutting and/or reforming taxes?

I’m not convinced that their agenda of child-oriented tax relief is the right answer.

In my column, I note that many of their policies have already been implemented, yet there’s little if any evidence that these tax cuts have generated positive outcomes.

…reform conservatives say it’s time for new ideas. That’s a nice concept, but Republicans already have enacted many of their proposed policies. The child tax credit was adopted in the 1990s and expanded during the Bush years. The earned income credit also funnels a lot of money (in the form of tax relief or cash payments) to families with children, and that provision also has been significantly expanded over the years. These policies have worked, at least in the sense that households with children now face lower tax liabilities. There is little evidence, though, to suggest positive economic or social outcomes. Were families strengthened? Did the economy grow faster? Did middle-income households feel more secure?

The reformicons often argue that their tax proposals are politically more appealing.

That may be true, but that doesn’t mean they are political winners, particularly if reformicons are trying to appease the class-warfare left, which will simply argue that tax cuts targeted at families making less than, say, $100,000 will be even “fairer” if they are targeted at families making less than $50,000.

Or maybe targeted at households who pay no tax, which means more transfer spending through the tax code!

The tax-credit reformers also argue that their proposals are much less susceptible to class-warfare demagoguery that is the supply-side approach, since tax relief flows to lower- and middle-income voters. …But here’s the downside: Conservatives can bend over backward to appease the class-warfare crowd, but they can never outflank them. …Once conservatives have accepted the left’s premise that tax policy should be based on static distribution tables, they won’t have a ready answer for the left’s gambit.

But as far as I’m concerned, the real issue is how to raise take-home pay.

The reformicons want to make families more secure by reducing how much the IRS takes from their paychecks.

I certainly like the idea of boosting post-tax income, but I contend that it would be even better to focus on policies that increase pre-tax income.

The most commonly cited reason for family-based tax relief is to raise take-home pay. That’s a noble goal, but it overlooks the fact that there are two ways to raise after-tax incomes. Child-based tax cuts are an effective way of giving targeted relief to families with children… The more effective policy—at least in the long run—is to boost economic growth so that families have more income in the first place. Even very modest changes in annual growth, if sustained over time, can yield big increases in household income. … long-run growth will average only 2.3% over the next 75 years. If good tax policy simply raised annual growth to 2.5%, it would mean about $4,500 of additional income for the average household within 25 years. This is why the right kind of tax policy is so important.

In other words, our economy is under-performing and that is the greatest threat to the financial security of families.

Folks on the left say it is the fault of “secular stagnation” and that the burden of government should be further expanded, but both reformicons and supply-siders agree that we’ll get far better results by focusing on tax cuts.

But which tax cuts?

I end my column with some glass-half-full analysis. The reformicons may not be thrilled by lower income tax rates and the supply-siders may not be excited by child-oriented tax cuts, but both camps are quite sympathetic to tax reforms that address the punitive double taxation of income that is saved and invested.

While the camps disagree on lower individual income tax rates vs. child-oriented tax relief, both agree that the tax code’s bias against capital formation is very misguided. The logical compromise might be to focus on reforms that boost saving and investment, such as lowering the corporate tax rate, reducing the double taxation of dividends and capital gains, and allowing immediate expensing of business investment. These reforms would have strong supply-side effects. And since more saving and investment will lead to increased productivity, workers will enjoy higher wages, including households with children.

To be sure, some critics will say this type of tax agenda is too “business friendly,” which is an indirect way of saying that average voters may not understand how they benefit from tax reforms that don’t have a big and fast impact on their paychecks.

So maybe the right answer is to rip up the entire tax code and replace it with a simple and fair flat tax.

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I like to think that very few people despise Obamacare more than me.

I don’t like Obamacare because it’s a fiscal boondoggle.

I don’t like Obamacare because it’s bad healthcare policy.

I don’t like Obamacare because it generated an embarrassingly bad decision by the Supreme Court.

I don’t like Obamacare because it is driving people out of the labor force and into government dependency.

I don’t like Obamacare because it has increased corruption in Washington.

And I don’t like Obamacare because it further enriches and empowers Washington’s political class.

But I also like being honest and that means I’m willing to acknowledge that there’s one small part of Obamacare that will have a positive impact.

More specifically, the so-called Cadillac tax on expensive employer-provided health plans will slightly reduce the distortion in the tax code that encourages over-insurance and exacerbates the healthcare system’s pervasive third-party payer problem.

Indeed, we’re seeing some signs of this already, even though the tax preference isn’t capped until 2018. Here are some excerpts from a story published by Fox News, starting with a description of the law.

…companies desperate to avoid a 40 percent ObamaCare “Cadillac tax” are finding ways to shift the costs to workers. The so-called “Cadillac tax,” now four years away, will affect health plans that spend more than $10,200 per worker. “The excise tax, when it hits in 2018, will affect both employers and employees,”said Brian Marcotte, president of the National Business Group on Health.

Allow me to make an important correction before sharing other parts of the story.

Companies aren’t shifting costs to workers. The money currently spent on health insurance policies is part of total employee compensation.

Think of it this way. If a company hires you for a salary of $50,000 and also includes a $10,000 health insurance policy, what’s your total compensation?

If you give an answer other than $60,000, you’re either very bad at math or you have the logic skills of a politician.

So the story should have stated that the Cadillac tax is merely making workers more aware of costs that already exist.

Thanks for letting me vent. Now back to our main point, which is that the Cadillac tax discourages overinsurance, and this is already leading to some positive changes in the marketplace.

Employees will get incentives to reduce costs through such arrangements as wellness programs, including losing weight or stopping smoking. Meanwhile, employers are shifting workers into plans with higher deductibles, just as ObamaCare does in the health care exchanges, and using health savings accounts to help defray the costs.

I’m particularly happy that employers and employees are shifting to plans with higher deductibles. As I’ve explained before, health insurance should cover large, unanticipated costs, such as the onset of cancer or getting injured in a car wreck.

But it shouldn’t cover annual checkups, elective surgery, and other routine and/or predictable expenses.

And we have one other bit of good news. The tax isn’t going to raise nearly as much money as the politicians wanted!

The “Cadillac tax” was originally intended to take effect sooner, but unions and other groups convinced officials to delay it until 2018, reducing the anticipated income from $137 billion to $80 billion over ten years. But many analysts predict it will be far less than that. Henry Aaron of the Brookings Institution said, before then, it’s expected that most of the businesses that offer that form of insurance will back off and make the insurance less generous, so the tax won’t bite.” …if employers are able to avoid it and less than expected is collected, ObamaCare could fall tens of billions short in paying for itself as promised.

I should hasten to add, by the way, that I’m glad that Obamacare isn’t paying for itself since that simply means lots of taxes to accompany all the additional spending.

I’d be even happier, of course, if we could figure out how to get rid of all the spending as well.

Just in case folks are thinking I’ve gone soft, let’s close today’s post with some humor directed at the rest of Obamacare.

Since the IRS is a big part of Obamacare, here’s a particularly good bumper sticker that shares a line with the above poster.

Here’s a poster mocking the delightful fiscal impact of the law.

Though whoever put this together should have been careful of using The Joker.

I like this next poster since it highlights how politicians have exempted themselves from the law.

Last but not least, here’s Dr. Obama making a cameo appearance.

Ah, the IRS shows up again. Do you sense a theme?

And don’t forget the IRS bureaucrats want to be exempt from the law as well.

P.S. If you’re a glass-one-tenth-full person, here’s some other good news about Obamacare.

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I’m a long-time proponent of the flat tax for three simple reasons.

1. It replaces the discriminatory “progressive” tax with a single tax rate at the lowest possible level, thus reducing the tax penalty on productive behavior.

2. It gets rid of all forms of double taxation, such as the death tax and capital gains tax, meaning economic activity is never taxed more than one time.

3. Other than a family-based allowance, it gets rid of all loopholes, deductions, credits, exemptions, exclusions, and preferences, meaning economic activity is taxed equally.

Some people say that these are also three reasons to favor a national sales tax.

My response is that they’re correct. In simple terms, a national sales tax (such as the Fair Tax) is like a flat tax but with a different collection point.

If you want more details, I often explain the two plans are different sides of the same coin. The only difference is that the flat tax takes of slice of your income as you earn it and the sales tax takes a slice of your income as you spend it. But neither plan has any double taxation of income that is saved and invested. And neither plan has loopholes to lure people into making economically irrational decisions.

Instead of class warfare and/or social engineering, both plans are designed to raise money is the least-damaging fashion possible.

So even though I’m mostly known for being an advocate of the flat tax, I have no objection to speaking in favor of a national sales tax, testifying in favor of a national sales tax, or debating in favor of a national sales tax.

With this bit of background, you can understand why it caught my attention that an economics professor at the University of Georgia (Go Dawgs!) wrote a column for Forbes with the provocative title of “I Will Support The Fair Tax When Its Backers Tell The Truth”.

Professor Dorfman writes that “such a consumption tax has much to recommend it from an economic point of view” but then warns that he “cannot support the Fair Tax as long as its backers continue to make implausible claims for their proposed reform.”

So what are the implausible claims? Let’s check them out and see if his friendly criticism is warranted.

He first expresses skepticism about the claim that take-home pay will rise to the level of gross pay under a Fair Tax, particularly given the assertion that prices won’t rise.

…the odds are that your gross pay will shrink over time under the Fair Tax. …employers can offer workers lower pay because of the lower cost of living (same prices, but higher take home pay). Because workers evaluate pay offers based on the purchasing power of that pay, the same competitive forces that will lower prices after the removal of business taxes, will lead to lower pay for employees in the long run as the labor market adjusts.

I suspect Professor Dorfman’s critique is correct, but I don’t think it matters. Workers understandably care first and foremost about the purchasing power of their paycheck, and that won’t be negatively impacted.

The Professor than looks at whether the Fair Tax gets taxes the underground economy.

…let’s tackle the claim that the Fair tax will do a better job of collecting taxes on criminals, the underground economy, and those who underreport their income. The idea is that people may hide some of their income or that drug dealers and others in the underground economy do not report their income, but that everyone spends money so the Fair Tax will tax everyone. Unfortunately, this claim is not true… Retailers are just as capable of underreporting revenue and not sending in the corresponding Fair Tax as people are of underreporting their income. …The incentive to avoid such consumption taxes will only increase when the rate is four or five times what it is now. If you don’t believe consumption taxes suffer from collection problems, go ask Greece.

And he looks specifically at taxing criminal activity.

Another reason that the Fair Tax will not capture extra revenue from illegal activities is that it only switches which side of the transaction is missed by the tax system. Currently, while drug dealers may not report their income, the people who buy drugs are paying with after-tax income. Under the Fair Tax, the drug dealers will pay tax when they spend their drug profits. However, unless the drug dealer sends in the Fair Tax on their sales, the drug buyers will now avoid tax on their purchases. Under either tax system, one side of the underground transactions will be paying taxes and one will not.

I think Professor Dorfman is correct, particularly in his explanation that drug dealers and other criminals will not collect sales tax when they peddle their illicit goods.

And he’s also correct when he says that the Fair Tax won’t collect all taxes on legal products.

But that doesn’t mean the Fair Tax is somehow flawed. Indeed, it’s quite likely that the underground economy will shrink under a national sales tax since the incentive to evade tax (on legal products) is a function of the tax rate. So if we replace the punitive high-rate internal revenue code with a low-rate Fair Tax, there will be a higher level of compliance.

But not zero evasion, so Fair Tax supporters exaggerate if they make that claim.

The next point of contention is whether the IRS can be repealed under a Fair Tax.

…some agency needs to collect all the sales taxes, ensure retailers are sending in the full amount, and handle all the mechanics of the prebate. The prebate requires this federal agency to know everyone’s family size and have a bank account or other method of sending out the prebate each month. So while individuals will have less interaction with the federal tax agency, there will still be some. For retail businesses, their interactions with federal tax officials will be at least as much as now, if not more.

The Professor is right, though this may be a matter of semantics. Fair Tax people acknowledge there will be a tax collector (the legislation creates an incentive for states to be in charge of collecting the tax), but they say that the tax authority under their system will be completely different than the abusive IRS we have today.

Last but not least is the controversy over whether everyone benefits under a Fair Tax.

…while Fair Tax proponents often act like nobody loses under the Fair Tax that is simply not possible. If the Fair Tax is implemented in a revenue neutral manner (collecting the same amount of total revenue as all the taxes it replaces), and some people win then other people must lose. Poor people pay roughly no tax either way, so the Fair tax would be neutral for them. The very rich will assumedly pay less since they spend a lower percentage of their income and spend more overseas. Thus, the suspicion is that the middle class will be paying more. One other group pretty sure to pay more is the elderly. The elderly have paid income tax while earning income, and under the Fair Tax would suddenly pay high consumption taxes right when their income drops and their spending increases. In the long run, this is not a problem, but early in a Fair Tax regime, the elderly definitely are losers.

Once again, Professor Dorfman is making a good point (and others have made the same point about the flat tax).

My response, for what it’s worth, is that supporters of both the flat tax and national sales tax should not be bound by revenue neutrality. Especially if the revenue-estimating system is rigged to produce bad numbers. Instead, they should set the rate sufficiently low that the overwhelming majority of taxpayers are net winners.

And in the long run, everyone can be a net winner if the economy grows faster.

And that, as Professor Dorfman agrees, is the main reason for tax reform.

The Fair Tax really has much to recommend it. It is simpler than the current system. It causes fewer distortions in the daily economic decisions that people make. The main distortion it does introduce is positive: to encourage saving and discourage consumption which would make the country wealthier in the long run.

Though I would quibble with the wording of this last excerpt. I don’t think the Fair Tax creates a pro-savings distortion. Instead, it removes an anti-savings bias. Just like the flat tax.

Now let me add a friendly criticism that Professor Dorfman didn’t address.

Advocates of the Fair Tax correctly say that their proposal shouldn’t be implemented until and unless the income tax is fully repealed. But as I explain in this video, that may be an impossible undertaking.

To be blunt, I don’t trust politicians. I fear that they would gladly adopt some form of consumption tax while secretly scheming to keep the income tax.

P.S. Actually, what I really want is a very small federal government, which presumably could be financed without any broad-based tax. Our nation enjoyed strong growth before that dark day in 1913 when the income tax was imposed, so why concede that politicians today should have either a flat tax or Fair Tax? But that’s an issue for another day.

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