Tax Reform

It seems to me….

Tax reform is taking the taxes off things that have been taxed in the past and putting taxes on things that haven’t been taxed before.” ~ Art Buchwald[1].

There currently is considerable discussion regarding tax reform – a Trump campaign promise. Under consideration are many conflicting perspectives regarding taxes in general and many of them if approved rather than being beneficial, would adversely affect both current assessment allocations and the national deficit. There is considerable latitude for improvement but reform is being proposed by elected representatives with little knowledge of economics – many apparently unfamiliar with even basic ECON-101 – who are formulating recommendations primarily on ideology rather than advise from economists.

Taxes actually are the way individuals are able to purchase necessities; e.g., security (military, police, fire…), infrastructure (roads, bridges…), utilities (power, water, sewer…), education (schools, colleges…), healthcare (hospitals, research…), etc.; collectively which we otherwise would be unable to afford individually. There is little disagreement as to the need for these expenditures but considerably less on the amount and burden allocation. Additionally, there is very little understanding of who actually pays the majority of those taxes.

When most people discuss taxes, they tend to talk about them ideologically[2]. The right claims taxes are too high for everyone; the left worries that the rich do not pay their fair share. But facts do not support either position. Contrary to prevalent rightwing claims, the U.S. has one of the lowest tax burdens in the industrialized world (but there is little probability of that changing except in the wrong direction). The U.S. federal government derives most of its revenue from the income tax and 70 percent of those taxes are paid by the top 10 percent of Americans.

There are two somewhat conflicting principles regarding the fairness of taxes: the Benefits Principle and Ability-To-Pay Principle. The Benefits Principle is that those benefiting should bear the burden of a tax paying for that benefit – a “consumption” tax. The Ability-To-Pay Principle requires those with higher incomes to pay a larger percentage – a “progressive” tax. Many countries impose a tax on consumption rather than income called a Value-Added Tax (VAT) – a sales tax, often as high as 25 percent – that hits everyone equally. A consumption tax has high administrative costs and is difficult to make progressive.

Any tax, especially a consumption tax (sales tax, excise tax, highway tolls…), decreases unit demand (unless that demand is totally inelastic) as resulting costs must increase if the payer is to receive the same unit compensation as without a tax. Any increase in unit cost, depending upon price elasticity, is most likely to result in decreased unit demand. Taxes therefore always result in deadweight losses due to market inefficiency as some mutually beneficial transactions never occur.

The U.S. has the most progressive income, payroll, wealth, and property taxes of any developed country. There always are incentive concerns associated with taxes that are highly progressive and always trade-offs in a tax system between equity and efficiency.

The simplest comprehensive way to judge a country’s tax burden is to look at its tax revenue from all levels of government as a percentage of gross domestic product. With a tax burden of 25 percent, the U.S. has the fourth-lowest burden in the industrialized world, ranking 31st out of 34 countries in the Organization for Economic Cooperation and Development (OECD), and well below the overall average of 34 percent[3]. It ranked 17th out of 29 industrialized countries when it came to tax revenue per capita according to the OECD and its marginal effective tax rate was second to France among industrialized nations according to an analysis by the Tax Foundation[4].

The U.S.’s percentage is actually lower today than it was in 2000 while the OECD average is about the same ranking below all measured countries except Korea, Chile, and Mexico.

Trump and other Republicans are right about one aspect of U.S. taxes, however. When it comes to taxing corporate profits, at 35 percent the U.S. does indeed have one of the highest nominal maximum corporate tax rates among industrialized nations.

One thing that the U.S. does have is the world’s longest tax code. Even though the U.S. is generally more competitive than other rich countries, its taxation is much more complicated and inefficient. All the small additions and exemptions to the tax code that have accumulated over the years are adverse economically. They divert business activity into areas that might not make economic sense but provide tax benefits. They are expensive and reward people and businesses for activities they might have done anyway. And most damaging of all, they are hidden and often eternal, not requiring reauthorization. By providing a complicated tax credit, it ensures that no one realizes how much cash is being given to a company or industry. If Congress wants to fund something, it should do so openly by giving grants.

Corporations exploit research and developments conducted using public funding and employ workers educated and trained in U.S. universities but contribute a decreasing share of associated costs. Contrary to what some critics claim, while possibly detrimental to U.S. interests, this is just good corporate management. While many multinational corporations were started and incorporated in the U.S., they now include many non-U.S. personnel in their management who do not share any personal allegiance to the U.S. Any criticism should be levied at Congress for failing to cut and simplify the U.S. tax code rather than at those corporations.

U.S. corporations hoard around $2 trillion in profits overseas rationalizing that the U.S. tax rate of 35 percent is excessive even though Fortune 500 companies on average pay only 19.4 percent and a third of them pay less than 10 percent. Congress has repeatedly awarded corporations numerous loopholes over the years so that our tax code now resembles a block of Swiss cheese. Consequently, U.S. corporations are making record profits yet contributing a lower share of overall U.S. federal financing than in previous decades.

Conservatives continue to shout the mantra that reducing taxes on the wealthy results in economic growth even though the opposite has repeatedly been shown to be true. Bill Clinton raised taxes: the result was economic growth; Bush cut taxes: recession. Obama raised taxes: economic growth; Kansas cut taxes: budget crisis. California raised taxes: economic growth…. The results have been consistent. Even when a tax reduction did result in economic growth such as under President Reagan, that growth was only very moderate compared to what was experienced under either Clinton and Obama.

A national sales tax, favored by the wealthy, is the most regressive of all taxes as it impacts the middle and lower classes much harder than the wealthy. The U.S. economy has been hyper-inflated by credit-fueled consumerism. A national sales tax, however, could have at least one positive effect: anything that encourages a healthier rate of saving and investment, which a sales tax would indirectly accomplish, can’t be totally bad.

There never will be universal agreement on any issue as contentious as tax reform but any attempt at reform drafted without bipartisan support will only serve to further widen the political chasm currently dividing us. While tax reform, especially simplification, is necessary, it should be accomplished based on fundamental economic principles and bipartisan agreement rather than political ideology.

That’s what I think, what about you?

[1] Arthur “Art” Buchwald was an American humorist who primarily focused on political satire and commentary.

[2] Zakaria, Fareed. Trump’s Real Charitable Gift: Exposing The Corruption Of The U.S. Tax Code, The Washington Post, https://fareedzakaria.com/2016/10/06/trumps-real-charitable-gift-exposing-the-corruption-of-the-u-s-tax-code/, 6 October 2016.

[3] Jarass , Lorenz J., Anthony E. Tokman , Mark L. J. Wright. The Burden of Taxation in the United States and Germany, Federal Reserve Bank of Chicago, https://www.chicagofed.org/publications/chicago-fed-letter/2017/382#ftn7,

[4] Mintz, Jack and Duanjie Chen. U.S. Corporate Taxation: Prime for Reform, Tax Foundation, http://taxfoundation.org/article/us-corporate-taxation-prime-reform, 4 February 2015.

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About lewbornmann

Lewis J. Bornmann has his doctorate in Computer Science. He became a volunteer for the American Red Cross following his retirement from teaching Computer Science, Mathematics, and Information Systems, at Mesa State College in Grand Junction, CO. He previously was on the staff at the University of Wisconsin-Madison campus, Stanford University, and several other universities. Dr. Bornmann has provided emergency assistance in areas devastated by hurricanes, floods, and wildfires. He has responded to emergencies on local Disaster Action Teams (DAT), assisted with Services to Armed Forces (SAF), and taught Disaster Services classes and Health & Safety classes. He and his wife, Barb, are certified operators of the American Red Cross Emergency Communications Response Vehicle (ECRV), a self-contained unit capable of providing satellite-based communications and technology-related assistance at disaster sites. He served on the governing board of a large international professional organization (ACM), was chair of a committee overseeing several hundred worldwide volunteer chapters, helped organize large international conferences, served on numerous technical committees, and presented technical papers at numerous symposiums and conferences. He has numerous Who’s Who citations for his technical and professional contributions and many years of management experience with major corporations including General Electric, Boeing, and as an independent contractor. He was a principal contributor on numerous large technology-related development projects, including having written the Systems Concepts for NASA’s largest supercomputing system at the Ames Research Center in Silicon Valley. With over 40 years of experience in scientific and commercial computer systems management and development, he worked on a wide variety of computer-related systems from small single embedded microprocessor based applications to some of the largest distributed heterogeneous supercomputing systems ever planned.
This entry was posted in Ability-To-Pay Principle, Benefits Principle, Burden, Bush, California, Chile, Clinton, Consumption Tax, Deadweight Losses, Deficit, Deficit, ECON-101, Economics, economics, Economist, Education, Excise Tax, France, France, Healthcare, Highway Tolls, Income, Income Tax, Infrastructure, Kansas, Korea, Market Inefficiency, Mexico, Obama, OECD, Organization for Economic Cooperation and Development, Payroll Tax, Price Elasticity, Progressive Tax, Property Tax, Reagan, Sales Tax, Security, Tax, Tax Code, Tax Reform, Taxes, Taxes, Taxes, Transactions, Value-Added Tax, VAT, Wealth Tax and tagged , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , . Bookmark the permalink.

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