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| Source: Wall Street Journal |
Paul is sure to be pilloried about the 14.5% rate and whether it will generate enough growth to sustain tax revenues and pay for 20% of GDP spending.
But the structure of the tax code is far more important than the rate. It is refreshing to hear a serious presidential candidate stand up to say
"...repeal the entire IRS tax code—more than 70,000 pages—and replace it with a low, broad-based tax of [rate deliberately deleted] on individuals and businesses. I would eliminate nearly every special-interest loophole. The plan also eliminates the payroll tax on workers and several federal taxes outright, including gift and estate taxes, telephone taxes, and all duties and tariffs.
It's not exactly the structure I would advocate, but close enough. And close enough even if 14.5% becomes 20%. Or adds higher brackets at higher incomes. We should talk about the structure separately from the rates to avoid all these distractions.
More deeply it's refreshing to hear a serious candidate start from the premise that the first purpose of the tax code is to raise revenue for the government, in a way that hurts growth as little as possible. As opposed to first and foremost subsidize various activities, people, or businesses.
I also appreciate
every year the Internal Revenue Code grows absurdly more incomprehensible, as if it were designed as a jobs program for accountants, IRS agents and tax attorneys.As if? We know who it was designed by!
Polls show that “fairness” is a top goal for Americans in our tax system. I envision a traditionally All-American solution: Everyone plays by the same rules. This means no one of privilege, wealth or with an arsenal of lobbyists can game the system to pay a lower rate than working Americans.We don't need polls to know this. Our tax system is still based on voluntary compliance. An increasing sense that there are special rules for special well-connected people can send us to Greek levels of compliance if we're not careful. And high statutory rates have always led inexorably to complex ways for rich and well-connected to get out, a sad lesson that our friends advocating for 70 or 90% statutory rates seem to wish away.
But I don't think Paul goes far enough.
All deductions except for a mortgage and charities would be eliminated.Et tu, Rand? If we're going to "blow up the tax code and start over," then why would we put in deductions for mortgage interest and charities?
OK, mortgages taken out under the current tax law should get to keep the interest deductibility. We don't change rules in the middle of the game. But why should new mortgages get an interest deduction?
Any deductions are strongly regressive -- If you're paying a 40% marginal rate, you get your interest payments effectively cut by 40%. If you pay a 10% rate, you get a 10% subsidy. And after a huge financial crisis, what in the world is the US government doing subsidizing debt anyway?
The right answer is to get all subsidizing out of the tax code. If the government wants to subsidize rich people's mortgages, fine, let it pass a spending bill, and send people checks, on budget. It is exactly the same as a matter of economics. If that subsidy would be an unseemly political act that must be hidden as a deduction, then perhaps it is not wise policy.
Similarly, two words should be enough to consider the "charitable" deduction: Clinton Foundation. I'm not complaining here that this institution exists. But why should it be subsidized by the tax code, and why should that subsidy be given preferentially to rich people? Two more words: "Lois Lerner." Recall, she got her power by being in charge of handing out non-profit status.
(Yes, I work for a non-profit university, whose mission I believe is a public good and worthy of philanthropic support. But if we get rid of all special treatment, institutions doing good work, transparently and not funneling money to friends and relatives, should come out ahead.)
Why open the negotiations with a breach in the wall? The best way to negotiate a broaden the base, lower the rate negotiation is with the firm principle that nobody gets special treatment. There is no better way to get a big base of voters on board than, "look, you're going to lose your mortgage interest deduction. That's the price for wiping out the rest of this mess, and in return I'm going to lower your tax rate so much you're going to come out far ahead. Now, lend me your support to make sure we keep all the other deductions and loopholes out." It is commonly claimed that shared sacrifice builds support for a war. A war this will be.
Totally nuts? When Dick Thaler and I agree wholeheartedly on something, perhaps it has some merit.
I absolutely agree with this, and not only for the excellent reasons cited above."Show me the man and I'll find you the crime" is rather easy with 70,000 pages of regs.
ReplyDeleteReversing the distortions won't be fun. Eliminating the mortgage interest deduction will hit real estate prices causing decreased realtor commissions, tax revenues on home sales, property taxes, and loan collateral valuations, just to name a few. That's a lot of toes to step on.
Phase it out or just rip the Band-aid off?
Rip the band aid off. We're all in this together. If you lost yours, you're darn sure sure going to make sure the other guy loses his. $7,500 to buy a Tesla? No way if I'm losing my interest deduction.
DeleteThe middle class still has a lot of its savings in real estate. Eliminating the mortgage deduction will probably have a one time permanent impact on house prices. Even middle aged homeowners with no mortgage will feel that pain.
DeleteNihilism is easy to advocate, hard to do. It makes more sense to start with the most obvious abuses and whittle away at them. I would start with "carried interest" and transfer pricing arrangements.
Who has the charisma, gravitas, credibility, or whatever to convince the American people to cooperate like that? How would you convince the predators in the FIRE sector to go along?
DeleteJB,
DeleteIt goes beyond that. One individual does not have the credibility to maintain a consistent tax code of any sort - unless you want to move toward an imperialist state.
The best you can hope for in a democracy is legally enforceable contracts. Meaning a Congress elected 10, 20, 50, etc. years from now cannot re-nig on a contract agreed to by a previous Congress.
John (in a previous article) indicates that coupon payments on government securities should be adjusted by the federal government in response to crises. The same argument can be made that tax policy should be adjusted by the federal government in response to crises.
I don't agree with his position - changing one fiscal position as a crisis management tool without changing the other - after all, we are trying to be "fair" aren't we?
John,
Delete"Rip the band aid off. We're all in this together. If you lost yours, you're darn sure sure going to make sure the other guy loses his. $7,500 to buy a Tesla? No way if I'm losing my interest deduction."
So are you ready to lose yours and pay full taxes on your tax deferred savings?
Yes. People like me who are too lazy to spend all day meeting with lawyers come out way ahead in a flat consumption tax regime.
DeleteBut I also would happily lose personally in return for a simple fair and pro growth tax regime. I do care about my country.
John,
DeleteSee:
http://www.treasurydirect.gov/govt/reports/pd/gift/gift.htm
Last year, the U. S. Treasury accepted over $5 million in gifts as a means to reduce the federal debt.
Have you cared enough about your country to contribute?
There you go again, confusing "the country" with "the Federal Government."
DeleteWho exactly is this guy named "my country" you speak of? We are talking about tax policy, yes? The direct recipient taxes of is the Federal Government, not some guy named "my country".
DeleteIf you are talking about your fellow countrymen (me and everyone else), then you are barking up the wrong tree with a nihilistic approach to bargaining - I'll cut off my arm if you cut off your leg - when in the history of man has that ever led to anything but misery.
John,
DeleteVoluntary tax payment has a long history in the United States - what could be more fair?
And so, in the spirit of fairness, good of the country, etc., why shouldn't taxes be totally voluntary? We are able to raise a volunteer army to put life and limb at risk in defense of this country, is voluntary payment of taxes such a tremendous leap?
Nice post. One question about the Paul plan- is it correct to say this "business activity tax" he's talking about basically sounds like a value added tax? As for the charitable deduction, for whatever reason this seems to be untouchable. Even when Warren Buffett says he wants the rich to pay higher taxes, he still leaves this deduction in his tax proposal.
ReplyDeleteBeautiful!
ReplyDeleteCreating public support for a reform is MUCH more important (for its success) than the logical/internal consistency of the plan, so appealing to the sense of fairness and equality is the critical element here. Even so, it takes real courage for a candidate to go against a lot of special interest groups ...
Presumably, the mortgage interest deduction stays in for two reasons: first, it's absurdly popular, and second, you need it so that you're not "raising taxes on middle class families." I'd bet the math on that second point doesn't work out if you junk the mortgage deduction.
ReplyDeleteWhile you're obviously right, I think the plan is a real-world non-starter if those deductions go, which means no reform (or worse, bad reform). As it is, it's only a probable non-starter. As McCloskey likes to say, we live in a second-best world.
I agree with John Cochrane! And I go further---why not cut federal outlays to 15% of GDP?
ReplyDeleteSurely, we can eliminate the USDA, the HUD, the Department of Labor, the Department of Commerce, and cut "national security" spending in half.
Have the Fed gun the presses for a few years, do some QE and Fat City here we come.
Oh, and slap on a nickel a gallon Fed gas tax hike every year....
Several things:
ReplyDelete1. The rates are not independent of the structure. Progressive tax rates and the various deductions are interdependent - they allow lea-way for various interest groups to manipulate the nominal personal rate. The new law, on the personal side, should be clear: One rate for everyone, no deductions for anyone. (I'm not sure this could be made to stick, though, without a Constitutional amendment.)
2. The business side will be the hard one to get done. Things are much more complicated, and will take some time to work out. Unlink the personal side from the business side - they don't have to both be reformed at the same time. (Yes, there are some loose ends concerning things like dividends, and subchapter S. Ignore them.)
3. Refundable credits present a problem. They represent a use of the Internal Revenue Code not contemplated by the 16th Amendment to redistribute income. Should they be retained or eliminated?
4. There will inevitably be winners and losers under the new system. A rough estimate on my own taxes suggests an increase of 10 to 20%. One way to deal with this is to grandfather everyone in to the old system for X years, allowing anyone to opt in to the new system at any time, but with no option to return to the old system once they've opted in. Under this mechanism, no one will pay more under the new system than they would have under the old (at least for X years) and everyone will have the opportunity to plan for the change over a decent period of time.
5. Grandfathering the mortgage interest deduction will tend to paralyze sales of existing houses, or to drive up the price of existing houses, or both. Who knows what effect it would have for new construction? It could crash the housing industry, or cause a recession. Paragraph 4. above would ameliorate the problem. But an alternative, or perhaps a companion to 4, would be to gradually decrease the value of the deduction, by reducing the deductible amount by X% a year.
6. The Republicans need to be careful here. We don't need a Republican version of the Obamacare debacle, where one party passes a law the other does not support at all.
Harmon,
Delete"There will inevitably be winners and losers under the new system."
https://www.stephencovey.com/7habits/7habits-habit4.php
"Think Win-Win isn't about being nice, nor is it a quick-fix technique. It is a character-based code for human interaction and collaboration."
As soon as you start using tax policy to create winners and losers, you have already lost the argument.
I have gotten tired of reading Presidential Candidates tax plans. Very few of them would make very much difference. Most of their promises are simply bogus.
ReplyDeleteGet rid of the IRS. As long as we have a national government, and we don't want it to renege on its commitments (interest and principal on bonds, social security and medicare to old folks), and we insist on protecting the nation from foreign enemies, and we want some level of service on important issues, such as Federal Courts to protect our rights, and embassies and consulates in foreign countries, when we travel abroad, The Federal Government will need to spend about 18% of GDP. Say: 8% on Social Security and Medicare, 5% on debt service, 4% on Defense, and 1% on everything else. Lemonade stands won't produce that kind of revenue. Unless we adopt tax farming, like France before the Revolution, we will need to have taxes imposed and collected by a bureaucracy. You could rename it, but it will be the IRS.
Flat rate taxes will be simpler. Rubbish. We have a flat rate income tax called the Alternative Minimum Tax, I dare you to read the forms and instructions. It is one reason why I caved in and hired an accountant to do my taxes. Progressive rates do introduce some inter-annual issues, that need to be handled in the code, like refunds of state taxes that were deducted when paid in previous years. But, that is not the major source of complexity.
Much of that complexity is due to the conceptual difficulties of taxing some organizations such as business corporations and exempting other like Hospitals and Universities from taxation. Different types of arrangements like partnerships, trusts, and corporations receive different treatment on creation, operation, and dissolution. There are 11 Subtitles to the Internal Revenue Code. Only one of them sets forth the income tax. That subtitle has 7 chapters, of which one contains the income tax. The Chapter with the income tax has 25 subchapters. Most issues of individual taxation are dealt with by 5 of them. Of course ordinary individuals can be impacted by the provisions of these other subchapters. Employee Benefit plans occupy Subchapter D, but, unless you are a professional who works in the area, their head-spinning complexity will never cross your visual field. Rather, your boss, will tell you what his accountants, lawyers, and actuaries told him. This is taxable or not taxable.
Next up: The big tax benefits.
I agree with almost every word in this post - and would have probably have agreed twenty years ago. I don't, however, have any sense of whether this view - separating the question of structure from that of rate(s) - has gained any substantial number of adherents over the intervening period.
ReplyDeleteSo should I write my check now for my tax deferred savings (401k, IRA, etc.)? If we are getting rid of all the loopholes then surely tax deferred accounts should be at the top of the list?
ReplyDeleteHow long would the mutual fund industry last when it's sacred cow is slaughtered at the altar of "fairness"?
John,
ReplyDelete"More deeply it's refreshing to hear a serious candidate start from the premise that the first purpose of the tax code is to raise revenue for the government, in a way that hurts growth as little as possible."
Except when that premise is ill founded.
https://en.wikipedia.org/wiki/Article_One_of_the_United_States_Constitution#Enumerated_powers
1. To lay and collect Taxes, Duties, Imposts and Excises, to pay the Debts and provide for the common defense and general Welfare of the United States; but all Duties, Imposts and Excises shall be uniform throughout the United States
2. To borrow Money on the credit of the United States
3. To coin Money, regulate the Value thereof, and of foreign Coin, and fix the Standard of Weights and Measures
Perhaps Mr. Paul can explain why taxation is needed at all when Congress has the power to coin money?
The purpose of taxation is not to raise revenue for the government. The government, if it so choses, is given the direct power by the Constitution to coin money AND define the standard of weights and measures for that coined money.
John,
ReplyDelete"It's not exactly the structure I would advocate, but close enough. And close enough even if 14.5% becomes 20%. Or adds higher brackets at higher incomes. We should talk about the structure separately from the rates to avoid all these distractions."
The question you need to ask yourself is should the rate be fixed for all time or adjustable? Should tax policy be flexible in the same way that monetary policy is flexible? If one fixed interest rate over time is not sufficient, then why should one tax rate be sufficient?
In your article on perpetual, fixed value, floating rate bonds you recommend having the federal government adjust the coupon in response to crises. The same recommendation would need to be applied to the single tax rate you advocate if we want coupon payments to be paid from tax revenue.
I think it would work better to have a firm and very simple structure, and adjust the rates. An annual fight over spending more/less and raising/lowering the tax rate is fine. Fill in the blanks. Removing the rates from the structure discussion would produce a much cleaner tax code. Pretending we know what rate now we'll need in 10 years is a bit silly anyway.
DeleteJohn,
DeleteIf the success of capital investment is sensitive to tax rates as well as interest rates, then a single adjustable tax rate may not be sufficient. There is a time aspect that must be contemplated as well.
For instance, with Mr. Paul's simple, flat tax code, are long term capital gains taxed at the same rate as short term capital gains? Is there such a thing as tax deferred savings plans (401k, IRA, etc.) under Mr. Paul's plan?
I know I am late to the party. Saw the Rand Paul article in the WSJ.
ReplyDeleteAll fine and dandy - love the idea.
But... guys... I do not mean to be a party-pooper or interrupt a love-fest about blowing up the tax code: *reality check*: does any of you REALLY, REALLY think it is politically feasible? Does any of you really, really think that blowing up the tax code and putting a nice simple flat tax of 14.5% or 20% or whatever percent will pass Congress and its lobbyists that feed off the tax code?
It is beautiful to think normatively - "the tax code should be blown up..."; another thing is to think positively, meaning "what is".... There is a whole industry (lobbyists, K-street, the US Chamber of Commerce, etc) that pours gazillions and bazillions of dollars to keep things just like they are now.
Sorry guys, all nice talk. A flat tax idea has been around for decades (Hall-Rabushka, Steven Forbes, the Fair Tax, etc etc etc). It will never pass. Ever. Never. Ever. Too many lobbyists, too many vested interests, too much money invested in the current code. And too many politicians purchased by such interests. Sorry for being so gloomy, but that's how it is.
As I am a lef-twinger I am naturally against flat tax rates unless you libertarians actually want to tax labour as well as capital income equally. Then I would be for it (plus the elimination of all exemptions and special rules) as right now the effective tax rates of upper class folks (in the US) is below those of middle class people.
ReplyDeleteSo yeah, flat tax plus no exemptions is better than a nominally progressive income tax rate system which is de faco made regressive by all those exemptions and low capital tax rates.
The crucial question though is capital tax avoidance. Laws are one thing, the political will to enforce them is another. And somehow I doubt that any libertarian really want to enforce the hypothetical laws they might implement to the full degree.
Anonymous,
DeleteThe market value of capital goods and labor are established when they are sold. Labor is sold on (typically) an hourly basis while capital goods might be held for a life time before they are sold.
Should the government be able to make you sell your stake in a company so that a market price can be obtained for that stake so that the government can collect a tax on it? How about your house? Should you have to sell your house every year to determine the capital gains tax you should pay?
Also, if your bug is that labor and capital income should be treated equally, then fine - would you feel better if all labor income was contingent on the profitability of the employer? Capital income is contingent on a company remaining profitable. Should labor income bear that risk as well?
Should minimum wage laws be stricken down to put labor income on an equal footing with capital income?
One reasonable approach would be to introduce a graduated system of capital gains tax rates over a significant time frame (say 30 years).
DeleteIt makes little sense to say that "long term" capital gains is anything held longer than one year.
https://en.wikipedia.org/wiki/Capital_gains_tax_in_the_United_States
Short term (less than 1 year) capital gains are taxed as ordinary income (anywhere from 10% to 39.6%).
Long term (greater than 1 year) capital gains are taxed at a reduced rate (anywhere from 0% to 20%).
Instead, put the low end of long term capital gains out further (say 30 years) and then graduate it up to short term.
If a government can sell 30 year interest paying securities, then it should be able to make the same type of long term commitments on the tax side as it does on the spending side.
Anonymous 12:08
DeleteThere is a long-standing literature in Economics that labor and capital should be taxed differently - capital should be taxed at zero rate.
John Cochrane has blog entries to this effect.
Manfred,
DeleteGovernment doesn't tax capital (equipment, buildings, ownership stake in a company). Government taxes gains in the market value of that capital (capital gains) and only requires that those gains be paid after that capital has been sold and be paid in the means of exchange (dollars).
Of course a government should not tax capital. The last thing we want is the government to own a majority share holder stake in private businesses.
Frank - which government are you talking about? Local government routinely tax property (equipment, buildings), which is capital. The Feds may not, but the locals do.
DeleteManfred,
DeleteIn regard to John's article, I believe the scope is limited to federal taxation.
Yes, local (and some state) governments tax the value of capital assets including land and buildings.
Determining the value of that capital without requiring the owner to sell it into the market is of particular concern and subject to debate. Property taxes can be assessed using a number of metrics including (but not limited to) last sale of same property, market value of similar properties that have recently been sold, etc.
You indicated that there is literature stating that capital (on the state level) should be taxed at a rate of 0%.
There is also a very good reason for taxation of capital - to more closely align the taxpayer with the service being provided by government in question.
For instance, in Pennsylvania, property taxes are utilized to fund the state's public education system. The reason is so that out of state visitors, travelling workers, etc. are not paying for Pennsylvania's education system through higher income and sales taxes.
There is nothing worse than paying a tax without receiving any benefits from that taxation. See American Revolution.
"There is a long-standing literature in Economics that labor and capital should be taxed differently - capital should be taxed at zero rate."
DeleteSo what, there is a lot of nonsense in economics. The only reason to not tax capital income are tax incidence reasons. If capital is more mobile than labour we obviously gotta change our laws, open our borders for migration and reintroduce capital market restrictions to level the playing field.
If this political distortion did not exist standard optimal taxation arguments imply that labour and capital income should probably be taxed at roughly equal rates.
If you add distributional goals to all this (reducing income and wealth inequality reduced the risk of oligarchy and has postive effects on democray) it is reasonable to tax capital income even more than labour income.
Of course we all know why you and other folks argue for low/zero capital tax rates. RIght-wingers care little about democracy and the 99%.
"Labor is sold on (typically) an hourly basis while capital goods might be held for a life time before they are sold."
DeleteEhm, nope. Labour and capital are both inputs. We tax capital and labour income for obvious reasons. You seem to confuse wealth taxes with capital income taxes. I never argued anywhere for a wealth tax.
Anonymous,
DeleteYou do argue that capital income should be taxed the same as labor income. The federal government already does this with the short term capital gains tax.
The difference in tax treatment comes from the long term capital gains tax that is set lower than the short term.
Are you arguing that long term capital gains should be taxed the same as short term capital gains?
Anonymous,
ReplyDeleteFrom what I can tell the Paul plan does tax capital income at the same rate as labor income. And I don't know where you get the idea that "as right now the effective tax rates of upper class folks (in the US) is below those of middle class people." On average upper income households pay significantly higher rates than middle income households, and middle income households pay higher rates than lower income households.
http://www.cbo.gov/sites/default/files/cbofiles/images/pubs-images/49xxx/49440-Land-Figure2.png
One can agree that this idea is a good one, but also believe that it is a) not going to happen and b) probably impossible to implement.
ReplyDeleteAlso, c) probably being proposed by people who aren't very serious or believable (i.e. Rand and company).
Sweeping "smash everything down" approaches are universally doomed to fail simply due to their impracticality in implementation, their unrealistic goals, and the people in charge of doing so.
The GOP would benefit by finding serious economists (not necessarily those affiliated with think tanks of any sort), to have public debates on this. You need to convince people...but only when they're ready to be convinced.