Abolish the Income Tax

This post identifies objective, non-political principles for an optimal tax system for America. There is only one system that is fair, simple and transparent.

An ideal tax system for America would contain the features listed below:

Simplicity

Taxes should be easily understandable. Most people should be exempt from filing. For the small cohort that needs to file, returns should take less than an hour and be no more than one page. Government intentionally makes taxes complex.

Transparency

The nature of the tax, method for calculating it and the amount to be paid should be crystal clear. People must know they are paying a tax and how much they are paying. Government makes taxes opaque to be more palatable. The poster child for opacity is the corporate income tax, which is 100% opaque; it is passed along to consumers as price increases. People are paying the corporate tax, but don’t realize it.

Progressivity

Taxes should not be regressive. The degree of progressivity should be determined by the political process. There should be some progressivity, but not too much.

Tax Only People

Only living, breathing humans pay taxes - except for the death tax. Businesses do not pay taxes; they collect and remit taxes, but it is not their money. All business taxes are borne by real people: customers, employees or owners. The 50% of payroll tax paid by employers is really borne by employees. The corporate income tax and payroll tax burden also fall entirely on real people and are highly regressive to boot. It is fantasy and class warfare to believe it is possible to tax artificial entities, but not real people. Taxing artificial entities hides the true cost of government.

Don’t tax me; don’t tax thee; tax the man behind the tree.

Pro Growth

Taxes should not impede growth. Taxes on capital, such as capital gains, harm economic growth by locking up capital, misallocating resources, creating under investment and loss of productivity.

Stability

Once enacted, a tax regimen should be changed only rarely and for good reason. People and businesses need long-term tax stability to plan their lives and businesses. Uncertainty is the mortal enemy of investment and productivity.

Neutrality

Taxes should impose identical burdens regardless of the size or nature of a business. Currently, businesses with fixed assets are taxed differently than service businesses and small businesses are taxed differently than big ones.

Underground Economy

Currently, the occult or underground economy (illegal and cash-based transactions) pays no taxes whatsoever. Current estimates place this between 6% and 12% of US GDP. This puts the underground economy between $2 trillion to $4 trillion per year. Taxing this at 15% would yield $300 billion to $600 billion annually. An ideal tax system would tax the underground economy.

Government Competition

When governments compete on lowering the tax burden, taxpayers always win. Both nations and their political subdivisions such as states should compete.

Social Policy and Corporate Welfare

Taxation should not be used as an instrument of social policy or corporate welfare. Taxation must be limited to raising revenue in the simplest, most efficient and transparent manner possible. Businesses should not be rewarded more for lobbying than for growing their business. The worst abuse of this maxim is the death tax; it is all about class warfare and politics and not about raising revenue.

Laffer Curve and Hauser’s Law

Tax rates should be set to maximize collections. The Laffer Curve proves that tax collections actually decrease if rates rise above a certain level - 30% for individuals and 20% for businesses. A corollary is Hauser’s Law, which states that taxes as a percent of GDP remain nearly constant regardless of the tax rate. An ideal tax regimen would comport with the Laffer Curve and Hauser’s Law.

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Ideal Tax System for America

The ideal tax regimen is one that meets all, or most of, the characteristics listed above. Fortunately, there is one, and only one, that meets all the criteria and that is (drumroll please) a consumption-based tax.

A consumption tax is added at the point of sale such as a sales tax. This is different from a VAT which embeds taxes in the cost of goods so taxpayers don’t know they are paying a tax. Following are the advantages of a tax on consumption.

• The income tax (both personal and corporate) would be eliminated along with capital gains taxes, payroll taxes and the death tax.

• Nothing could be simpler.

• It is the paradigm of transparency, clear in each transaction. If government wants to spend more, it must increase the consumption tax so that taxpayers know the true cost of government every time they buy something.

• The tax can be made as progressive as desired by giving low-income taxpayers a prebate, i.e. a monthly payment to offset the tax and to avoid regressivity.

• Paperwork and compliance would be slashed. Only taxpayers who apply for a prebate would need to file a one-page form.

• All taxes would be paid by humans and not disguised as business taxes.

• Consumption taxes are pro growth, stable and neutral.

• The underground economy would be fully taxed.

• There would be no social policy or corporate welfare.

• Privacy would be enhanced and the IRS vastly reduced. Only those applying for a prebate would need to provide the government personal data.

The case for a consumption tax is compelling. What’s not to like?