Tax Reform – What Would I Do?

Rightwrongways

There’s a debate ongoing in Washington concerning tax reform. This was last done in 1986 and was done to simplify a tax system encrusted with special rates, exceptions, loopholes, deductions and credits for special interests. The idea was simple; close up most of the loopholes and abolish most of the special credits and deductions and in doing so raise so much revenue that one could then dramatically lower rates across the boards for all taxpayers.

It worked fairly well. The last years of the 20th century and the first few years of the 21st were the last flush of prosperity that we had as a nation. Since then, the economy has fallen into a deep pit which the Federal Reserve is trying to float it up out of by filling the pit with newly-minted money. So far, that’s not working too well, unless you view the not-so-gradual devaluation of the dollar and impending inflation as important policy achievements.

Even though the last big tax reform worked fairly well, politicians being who they are and the system being what it is, it was too much to expect that the tax system would not soon be re-encumbered by another load of chaotic special interest legislation enacted mainly to assist politicians to buy votes with public money.

And so, 25 years after our income tax system was reformed and simplified with the idea of making it reasonably fair and comprehensible, it’s once again totally out of hand. I do this stuff for a living and I hardly know what to make of it.

Not only that, but the boys in Washington are getting nervous. They’ve been running the numbers, and things don’t look too cheery. If all the taxes to which we, as Americans, are subject were to be doubled overnight, it would just about be enough to cover the deficit and our future commitments. Of course, life doesn’t exactly work like that. As an example, it’s easy to say that General Motors could become wildly profitable overnight by simply doubling the price of each car they sell, but don’t you think the price increase might have a small effect on sales? The more likely effect of an overnight doubling of prices would be bankruptcy in short order, as sales collapsed to almost nothing.

Well, saying that our government could double it’s income by simply doubling all its taxes is just about as glibly optimistic. You can safely bet that a doubling of taxes would result in some rapid and significant changes, the overall effect of which would not be to significantly increase tax revenue. We would more likely become a nation of rebels, both overt and covert, before we would quietly submit to such a monumental shearing. Remember your history, folks; the system of “from each according to his ability and to each according to his means” was tried really, really hard for about a century and really, really failed, police states notwithstanding.

So, let’s look at this as if we were politicians in Washington and had to come up with something which looked or sounded like a solution. Would would we do? We can’t just double taxes without setting off a revolt, so what other choices do we have? Maybe…….tax reform?

From the point of view of a rational economic system, we certainly could come up with a different and more effective tax system which would enable a rapid increase in our Gross National Product (GNP); enable a higher stream of tax collections out of that higher GNP; and provide for more overall prosperity for the populace, but hey, we’re elected politicians. We have to go with something somewhat familiar which all the special interests will find acceptable. So, how do we tinker up what we already got while calling it reform in order to squeeze a few more bucks out of it?

Here’s a few ideas of what I think might be likely to happen:

* Abolish the special rates on capital gains and dividend income. This is easy. We can trumpet the beneficial effect of an overall lowering of rates to those who actually have to pay the tax, which playing the “soak the rich” card to all those feeding at the public trough. We can buy enough votes to pass this one and reap higher overall taxes on investment income.

* Re-do the depreciation system for businesses. Get rid of all this current-year deduction stuff and force all assets to be depreciated in a few classes over a tightly-regulated period of years. Once again, we’d have to sell this to those who actually pay the tax by touting the overall reduction in rates, but beating the drum for simplification and rate reduction should be enough to get them to go along.

* How about reducing tax breaks for oil and gas companies? Nah…we may have some issues soon with some of our Middle-Eastern friends, and will need whatever oil can be squeezed out of American wells. We also need their dollars for our re-election campaigns.

* Abolish the current ability of American corporations to defer the taxation of foreign profits until the money is brought back into the U.S. Let’s make it all taxable now. We’d have to ignore the fact that we would become almost the only country in the world to tax the worldwide income of our domestic corporations, but that’s just a PR point. This provision would also have the effect of turning the USA into the world’s biggest “negative tax haven” and tend to drive out lots of businesses, but we can just make it illegal for them to leave. Depending on how it’s handled, the potential “profits” (can you call tax proceeds a profit?) are huge. Maybe we can phase it in gradually enough to make it (barely) palatable while promising lower overall rates, which we can just raise in a few years anyway. Brilliant.

* Let’s get rid of the ceiling on the wage base for Social Security taxes. Right now, we only tax about the first $106,000 of earned income for Social Security purposes, but the system is going broke. We need to be able to keep the promises we’ve made to generations of Americans, and if it means a moderate tax increase on a few rich people, it’s a small price to pay for our future economic security. Not only that, it’s potentially a lot of money and it should be easy to line up the votes.

* Let’s also abolish the tax break that owners of small business corporations get on the profits from their corporations. Right now, they only pay Social Security and Medicare tax on the income they earn from their actual work for the corporation, but not the profits of the corporation. Both Social Security and Medicare are in desperate need of funds, and we tend to think that all this chit-chat about small business being the biggest creators of jobs and economic activity in the country is overstated. Why should their profits only be subject to one level of taxation when the country is in a financial crisis? Plus, they’re not organized very well and probably don’t have the votes to stop us.

* Hmmmm………..while we’re on the subject, could we possibly subject corporate dividends to Social Security and Medicare tax? Oops. Too many negative votes here and too much bad press to overcome. Never mind.

* Penalties! This is a good one. After all, the country is in rough shape and needs us all to pitch in, and we’re going to make the tax system so simple a child could comply. So, let’s get serious with those shiftless deadbeats who aren’t paying their fair share (or paying it quickly enough) and impose penalties for each and every deviation from prescribed behavior, and make these penalties serious enough to cause nosebleeds. Of course, the fact that our eager tax collectors will use their newfound authority to impose penalties on almost anything that moves is simply a unavoidable side effect of the medication for the body-politic. I guess you could think of this as a sort of economic chemotherapy.

* Maybe we could abolish the mortgage interest deduction and replace it with a credit which would phase out for higher-income taxpayers. We’d have to be careful with this one and drop it like a hot potato if the PR doesn’t work and the middle class (or what’s left of it) starts getting upset. However, if we can get the public to buy off on it, maybe as part of a package of promises, we can always tinker with the thing later if we need more cash.

* Here’s another possibility – charitable donations. If you look at it for a minute, all those organizations are doing is the government’s work anyway, so why should we be handing out a tax break for funding them when we need the money more than they do? It’s already illegal for them to lobby or try to influence legislation, so they’re limited in what they can do to stop this, PR-wise. If we pitch this right, maybe allowing the deduction but limiting it to 10% of income or something reasonable, we can get most folks to go along. After all, who gives away more than 10% of their income except crackpots?

Well, there’s few money-raising ideas for you, and a few things to consider if you value your wealth. Let the taxpayer beware.

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