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Jewish World Review Nov. 8, 2005 / 6 Mar-Cheshvan, 5766 Tax reforms tax our basic understanding of taxes By Robert Robb
http://www.JewishWorldReview.com |
The recommendations issued last week by President Bush's tax reform panel illustrate that a simpler, more growth-friendly income tax code that raises just as much money from basically the same people as the existing code is possible.
The question is whether a tax reform so constrained is worth the political fight.
The panel advanced two proposals, the differences being basically in whether business facilities and equipment are depreciated or expensed and the individual tax treatment of investment income.
But both proposals are constructed around the same basic bargain: a limitation on deductions favoring wealthy taxpayers in exchange for lower rates and abolishing the alternative minimum tax.
The recommendations do more to achieve simplicity than to promote economic growth. The number of existing credits and deductions would be reduced, consolidated and available to all taxpayers, not just those who itemize. A variety of tax-preferred retirement options would be reduced to one. The same would happen with tax preferences for higher-education expenses.
Businesses would either get to fully expense facilities and equipment or take advantage of simpler, quicker depreciation formulas.
Simplicity is an important value in its own right. The panel estimates that compliance with the tax code costs about $140 billion a year. Anything that reduces that and allows that money to be put to more productive uses is worthwhile.
But what is achieved on the growth side is rather thin. The recommendations do attempt to eliminate or reduce discriminatory and counterproductive treatment of investment income. But marginal tax rates would be reduced only modestly. For individuals, one plan reduces the top rate to 33 percent from 35 percent. The other brings it down to 30 percent. For corporations, the rate would be reduced to 31.5 percent in one plan and 30 percent in the other from 35 percent.
The panel accepted revenue and burden neutrality as practical political constraints. But that substantially limits what can be done to bring down marginal tax rates, as the panel's recommendations demonstrate.
Simplicity comes at the expense of tax preferences carved out by various interest groups over the years. They will fight a fierce battle to preserve them. Given the modest rate reductions, there might not be anyone particularly interested in fighting back.
The current incidence of the personal income tax makes fundamental tax reform politically very difficult. The lowest 40 percent of wage earners basically pay no income tax. Those making over $100,000 a year pay nearly 80 percent of federal income taxes, even though they only make slightly more than half the money.
The top-heavy incidence of the federal income tax limits the ability to capitalize on the public's resentment about the current code. People find complexity and compliance a pain. But they aren't likely to want to pay more to relieve it.
According to the panel's report, a flat rate of just 15 percent could raise the same amount of money as the current code on a base with the following features: for individuals, only the standard deduction and personal exemptions; no double-taxation of dividend income; for corporations, no special tax preferences but simplified and quicker depreciation.
Now, that's a tax reform worth fighting for. It would be immensely simpler than even the panel's recommendations and do far more to promote economic growth and efficiency.
But it would slightly shift the income tax burden away from the affluent, although they would continue to pay a higher percentage of the income tax than their percentage of income earned.
Fundamental tax reform requires abandoning the restraint of revenue neutrality, in the belief that faster economic growth will more than make up for any theoretical shortfall from a static analysis. Or it requires most people to accept a slight, short-term increase in their tax bill in exchange for simplicity and a better-performing economy. Abandoning the restraint of revenue neutrality would be the preferred option, both economically and politically.
What people believe about the income tax, that it favors the wealthy, is simply not true. Until there is a sounder public understanding of where the incidence of the income tax actually falls, and the economically counterproductive nature of the current code, fundamental tax reform, or even modest improvements such as recommended by Bush's panel, isn't likely to happen.
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JWR contributor Robert Robb is a columnist for The Arizona Republic. Comment by clicking here.
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