In filing his tax returns, Donald Rumsfeld included a letter to the IRS stating, “As in prior years, it is important for you to know that I have absolutely no idea whether our tax returns and our tax payments are accurate.” Now critics of the former secretary of defense and member of Congress may not be sympathetic, but they overlook the fact that Rumsfeld’s problem is shared by almost every American taxpayer.
The U.S. Tax Code is currently 73,954 pages long and a few more pages are probably being added as this is written. Every year, members of the Washington, D.C. political class pay lip service to the goal of tax reform, but usually all Congress does is tinker around the edges in an effort to please special interest supporters and to increase revenue, or “raise taxes” in the language of average Americans who end up with the bill.
This seems a good time to renew discussion of several proposals to actually simplify the tax system that have shown popular support over the last several decades.
The idea of a flat tax would be to establish a uniform tax rate for all filers with no deductions except, perhaps, for mortgage interest and charitable contributions. Under this system, it would be clear to filers exactly what they owe. An additional benefit would be that it would remove distortions to the economy. The current system creates an incentive for taxpayers to put their money in tax shelters. With a flat tax, taxpayers would put their money where it would earn the greatest return.
Critics of the flat tax worry that it would be unfair if rich and poor paid the same rate. However, this problem could be substantially alleviated by providing for a large personal deduction of, say, $50,000. It would be hard to argue that low income families and individuals would be unfairly treated if the income tax didn’t even kick in until the first dollar over $50,000.
The flat tax has been supported by the Hoover Institution’s Alvin Rabushka, former member of the President’s Council of Economic Advisors Arthur Laffer and Nobel Laureate Milton Freedman. Even Jerry Brown supported this concept in his last run for the presidency. Brown went so far as to say that once the flat rate had been established, it should only be changed by a national referendum.
Another proposal that has gained traction with the popular imagination is a national sales or consumption tax that would entirely replace the income tax. Individuals would no longer have to deal with the IRS, they would pay their taxes when spending money. Many supporters are attracted to a system they believe would put the IRS out of business.
However, several important issues would have to be resolved. Would the tax also apply to services? And would it open the door to a European style value added tax, where each level of production and distribution adds an additional tax to the point where the consumer no longer has any idea how much they are paying for a product and how much of the total price is going to the government?
There are those who point out that the IRS, rather than being abolished, would continue to exist to ensure that businesses of all sizes are collecting and sending Washington the national sales tax. Critics also express concern that Congress could easily ratchet up taxes through a series of small increases over time that would result in a serious increase in the national tax burden.
There would, of course, be opposition to any simplified system and it would include those who make a good living professionally preparing tax returns. It has been estimated that Americans spend nearly $30 billion dollars annually on tax preparation. And it seems likely the only way the Washington D.C. politicians would support a simplified tax system would be if the filing form had just two instructions. The first, “Enter how much you made last year in the following box,” followed by, “Send it in.”
Any changes to our national (and state) tax system, not motivated by the avarice of the political class, that make it easier to understand and comply with would be welcomed by most taxpayers. As Rumsfeld, who is 81, told the IRS, he hopes that at some point during his lifetime, “the U.S. government will simplify the U.S. tax code so that those citizens who sincerely want to pay what they should, are able to do it right, and know that they have done it right.” Even for younger taxpayers, it might be more realistic to hope that this happens in the lifetime of our great grandchildren.