The Treasury Department report says it all:
- Americans spend roughly 7 billion hours a year to comply with the tax code.
- Individual taxpayers spend an estimated 3.55 billion hours working on taxes.
- Individuals spend about $27 billion on tax software or outside tax preparation services.
- 90% of American households use some sort of professional tax preparation service.
- The instruction booklet for Form 1040 is now 155 pages in length.
And they wonder why President Obama’s Treasury Secretary nominee, Timothy F. Geithner, had problems filing his taxes!
The Case for Tax Simplification
Consider the amount of time and money the American people would save, year in and year out, by reducing the US Tax Code to something that your grandmother could understand. That ought to be the standard: If granny doesn’t get it, go back and do it again. True, this would be a blow to the burgeoning tax preparation industry, but even if these services go the way of the buggy whip, a simplified tax code would be a greater good given the lower levels of stress and anxiety among the tax-paying public.
More than just feeling better, though, simplified tax systems have other things to recommend them. Since 2000, many countries around the world have undertaken the task of tax simplification and usually with very good results. Flat tax systems, where a single tax rate is charged when income reaches or exceeds a certain level, brings more people onto the tax rolls and, quite literally, takes the guesswork out of paying taxes. If you make $50,000 and the tax rate is 10%, you are liable for $5,000 in taxes. The fact that below a certain income level, there are no taxes adds a certain progressiveness to the scheme but among the taxpayers, everyone is treated equally.
The same goes for non-flat tax simplification. By having set tax rates and no credits or deductions—tax rates would be lowered to make up for the lack of credits and deductions—there would be no more guessing as to tax liability. You will know how much you owe. The only thing that would likely remain the same would be the W-2, which would show you how much you have already paid. At that point, you either write a check to pay off the tax bill or claim a refund of overpayments. As a bonus, in this way, only those who actually pay taxes will be able to receive refunds.
The Case Against Tax Simplification
Let’s face it, there are a lot of entrenched interests against tax simplification. There are the professionals, the tax attorneys and accountants and tax preparers who would see their industry, which is built on this 67,000 page monster, suffer as their client-base dried up.
Another group that is addicted to this opaque and antiquated system is our political class. Politicians use the tax code for three things: to raise revenue, to reward and punish, and to engage in social engineering. Now, it is true that governments have been doing all three of these things since Roman times. For example, we have records of tax cuts being used as an incentive to hunt down Christians—talk about social engineering!
If the tax system was taken and made sane, than none of this would be possible. The folks in Washington, as well as in State governments, would be forced to sponsor bills and face debate over their social experiments rather than hide them in the tangled mass of verbiage that is the tax code.
Then, of course, you have those who insist that “the rich don’t pay their fair share!” Really? Consider this: The rich all but support the government already. How much more would finally be fair? Knowing that their income would be subject to confiscatory taxation makes many of the wealthy dodge this tax burden by living overseas, sheltering their money or doing any number of other things aimed at lowering their liability. Moreover, there is something sinister about punishing someone’s success. If you work hard, get lucky and make a fortune, who is to say that you have too much? No one, yet that is the message of the so-called progressive tax code.
On the other hand, you have those who say that this wouldn’t be a good time to do it because of the economic crisis. To that, I can only say this: If not now, when? If not us, who? The tax code is really one of the foundations of the economy. To simplify it, to make it easy and friendly to both business and individuals, would be a large step toward turning things around. It would not cure what ails us, but it would be a start.
The Bottom Line
Obama is right, it is time for a change, a time for openness, a time for transparency in government. So, let’s start with the tax code. Here are some tax simplification ideas from Political Calculations that as taxpayers and business owners we should consider:
1. Transparency is a must. A good tax system requires informed taxpayers who understand how taxes are assessed, collected and complied with. It should be clear to taxpayers who and what is being taxed, and how tax burdens affect them and the economy.
2. Be neutral. The fundamental purpose of taxes is to raise necessary revenue for programs, not micromanage a complex market economy with subsidies and penalties. The tax system’s central aim should be to minimize distortions in the economy, and to interfere as little as possible with the decisions of free people in the marketplace.
3. Maintain a broad base. Taxes should be broadly based, allowing tax rates to be as low as possible at all points.
4. Keep it simple. The tax system should be as simple as possible, and should minimize gratuitous complexity. The cost of tax compliance is a real cost to society, and complex taxes create perverse incentives to shelter and disguise legitimately earned income.
5. Stability matters. Tax law should not change continuously, and tax changes should be permanent and not temporary. Instability in the tax system makes long-term planning difficult, and increases uncertainty in the economy.
6. No retroactivity. Changes in tax law should not be retroactive. As a matter of fairness, taxpayers should rely with confidence on the law as it exists when contracts are signed and transactions are made.
7. Keep tax burdens low. It makes a difference how large a share of national income is taken by government in taxes. The private sector is the source of all wealth, and is what drives increases in the standard of living in a market-based economy. Taxes should consume as small a portion of national income as possible, and should not interfere with economic growth and investment.
8. Don't inhibit trade. In our increasingly global marketplace, the U.S. tax system must be competitive with those of other developed countries. Our tax system should not penalize or subsidize imports, exports, U.S. investment abroad or foreign investment in the U.S. Taxes on corporations, individuals, and goods and services should be competitive with other nations.
9. Ensure an open process. Tax legislation should be based on careful economic analysis and transparent legislative procedures. Tax legislation should be subject to open hearings with full opportunity to comment on legislation and regulatory proposals.
10. State and local taxes matter. The same general principles that apply to federal taxes also apply at the state and local level. Local, state and federal tax systems should be harmonized to the extent possible, including consistent definitions, procedures and rules.