Updated: May 3, 2013 12:14PM
Originally published: November 18, 2004
It’s tops on the president’s agenda, and a very good idea: tax reform. Americans spend an estimated $183 billion every year just to comply with our horrendously complicated federal income-tax code.
What’s the best way to reform the tax system? There are two leading contenders. Each promises it will replace the current level of tax revenue we need in order to keep our promises to defend our country, pay interest on the national debt and try to keep Social Security and Medicare solvent. And each promises a greater degree of fairness and transparency, along with a far lower cost of compliance.
The first method is the national sales tax. Let’s just get rid of the income tax. And while we’re at it, let’s get rid of the Internal Revenue Service. The idea is so pleasing that you might be tempted to accept it at face value.
National sales tax
A national sales tax would definitely eliminate the IRS, along with income taxes and withholding and the annual agony of filing a tax return. In its place, Americans would pay a national sales tax on every purchase of goods and services.
It’s estimated that a tax of about 20-to-23 percent would be “revenue neutral.” That means the new taxes raised would equal the old taxes that would be abolished. And you’d still pay state and local sales taxes
Proponents call this the “fair tax,” because it would apply to all spending. Additionally, recognizing that poor people spend a greater proportion of their income on basic necessities, this plan would send every family an advance rebate that would be equal to spending up to the federal poverty level. That is, a family of four would be able to spend $24,240 annually tax free. They would receive a rebate of $485 every month, or a total of $5,575 annually to offset taxes they pay on their purchases.
How could Americans afford to pay this extra tax? The “fair-tax” people at www.fairtax.org say the solution is simple. First, people would have more spending money because they don’t pay income tax. Secondly, they assume that prices of everything will be lower, without the cost of taxes currently built into prices for goods and services.
That’s quite an assumption. But I have a different disagreement with the “fairness” of a national sales tax. Personally, I’ve purchased just about all the stuff I need -- clothing, home furnishings, etc.
But that’s not the situation for the younger generation. They’ll be buying houses and baby carriages and home furnishings and using services like school tuition and summer camps. While some of these items are debatable as necessities, there’s no doubt that Gen X and Y will be forced to spend a larger percentage of their incomes than I will. It seems to me a national sales tax is a particularly regressive tax on the younger generation.
The flat tax
Here’s an alternative. Take a postcard and write down how much you earned this year. Then multiply by 20 percent. That’s your tax. Send in the postcard, and use your computer to send your tax payment to the government. Lower-income families would have one simple exemption. Enough money would be collected to make up for our current complicated tax system, and huge costs would be eliminated.
There would be no deductions -- not even for mortgage interest or charitable gifts or profits on the sale of your home. No special rates for capital gains or dividends. No more complicated IRA deduction and withdrawal rules, or corporate investment tax credits.
I can hear the squealing now from all the special interests. But isn’t it tempting? No more accountants, no more tax preparers, no more agonizing over the tax implications of simple business decisions.
Flat-taxers predict the economy would boom. Robert E. Hall and Alvin Rabushka of the Hoover Institution say the GDP would increase by 3 percentage points -- doubling our current growth rate -- if we wipe away the costs of complying with the federal tax code.
Whether you’re for the national sales tax or the flat tax or some variation, I think there’s one big reason why it will result in a lot of talk but no action. Did you ever wonder why Senate and Congressional candidates spend millions to buy a job that only pays a pittance?
It’s because of the power that comes with that job, the power to dole out favoritism in government taxes and spending. A simple tax code would eliminate half that power. And that’s The Savage Truth.
Terry Savage is a registered investment adviser, and appears weekly on WMAQ-Channel 5’s newscasts. Distributed by Creators Syndicate.