A 15% single-rate tax on all income above a livable minimum, would solve all of the tax policy issues.
To determine what a plan to permanently fix the federal income tax code would look like, let’s first look at what the goals of income tax policy should be.
The first goal should be to enact a plan that raises sufficient revenue to cover all government spending which will eliminate the annual budget deficit. The tax plan should encourage economic growth, rather than placing burdens on growth. The plan should be as easy to administer as possible so that households could easily and without the advice of professionals, calculate their tax liability.
The plan should also not distort any markets by placing special taxes or subsidies on certain expenditures. The plan should be flexible enough so that changes could easily be made when economic conditions warrant. And lastly, perhaps most politically important, the plan should be viewed by taxpayers as being fair and equitable.
This is the only tax plan that can meet all of the goals, although there will be debate about the last goal.
Here’s the plan:
A single rate tax of 15 percent on all income above a livable minimum (twice the poverty level) with no deductions for anything. All income is treated the same whether earned from wages, rent, interest, profit, dividends or capital gains. The corporate tax rate is also 15%.
The plan is easy to administer.
For a family of four, the livable minimum would be about $50,000. If that household had a total income of $70,000, they would subtract the livable minimum of $50,000 leaving a taxable balance of $20,000. Just multiple that by 15% and they would pay $3,000 in federal income tax. That’s it. Tax liability is not changed no matter how that income was earned or how that income was so disposed.
By eliminating all loopholes, this policy would treat every American exactly the same, giving no preferential treatment to anyone. Labor and capital are taxed at the same rate, so there is no advantage to capital gains. The tax liability calculation is simple. No tax preparers are needed, and we have much less need for the increasingly obtrusive IRS.
The plan would stimulate economic growth.
In the short term annual economic growth could increase to 5% or more. In the long term average annual economic growth would be at least ½% higher than the historical standard of about 3%.
The plan is approximately revenue-neutral.
The plan may result in a slight decline in tax revenue in the first year or so. But then tax revenue would increase at a faster rate than the current tax code increases revenue, mostly because of the rapid economic growth.
The plan is flexible.
If Congress determined that fiscal policy action was needed to stimulate future growth during a recession, the 15% rate could be lowered for a short time. If Congress decided some taxpayers need credits, the livable minimum could be increased for say single mothers who need help with child care expenses.
The plan is (arguably) equitable.
This is the tough part. There are many different definitions for fair and equitable. This plan recognized that households with low income are already forced to pay 7.65% (really 15.3% counting the employer contribution) of wages to social security and Medicare. They also pay a sales tax on most consumption in 45 states. They pay hidden taxes on products like gasoline, liquor and tobacco.
They pay property taxes if they own a home or higher rents to cover the property taxes if they rent a home. They pay some state income tax in 43 states. They really can’t afford to pay any federal income tax. This plan allows them to earn up to a livable minimum before they pay any income tax at all.
Above the livable minimum, each income earner will pay 15 cents of every dollar earned. The other 85 cents goes to the household.
Most people would say that for a tax plan to be fair, tax liability should increase as income increases. In other words, the highest income earners should pay the most. With this plan tax liability increases proportionately as income increases.
That means the highest income earners will pay the most income taxes. With the current progressive system today, tax liability rises disproportionately as income rises. Many argue that is not fair and equitable.
This bold, yet relatively simple tax plan meets all of the goals.