Flat Tax Rate In the US

[Darth Wong]

This is highly misleading. All the flat tax proposals I've ever heard of impose a flat rate, not a flat figure. In other words, everyone pays the same percentage of his or her income, not the same amount of money. People with no income obviously would pay no tax, since any percentage of zero is still zero.

Who the hell has zero income? Anyway, if you would prefer a more complex weighted calculation, feel free to do the math. That was what I rattled off in a few seconds; I make no pretenses about it being the be-all and end-all of economics calculations.

[HemlockGrey]

The second reason listed in the OP strikes me as dubious because, by the same unproven, unsupported logic, we can say that if the tax rate has exemptions for poor people more people will remain poor in order to dodge taxes (sorta like how lots of conservatives say we have poor people who remain poor in order to remain on welfare, am I right?).

Oh, and, Perinquus, regardless of the merits of a flat tax rate, Hawkins is a raving loony (albeit an entertaining one). This is a man who supports school vouchers, admires Ann Coulter, and thinks the fundementalist wing of the GOP comprises only a handful of individuals.

[The Dark]

A flat tax ends up working as a regressive tax unless you place so many loopholes that it's a Swiss cheese tax. This is because the essentials of life (food, water, shelter) at a basic level are a fixed cost. Anything over and above that, including the amount spent on better food, shelter, et cetera, is luxury goods. The rich, by definition, spend a lower percentage of their income on basic needs. The poor, with their higher percentage going to needs, will also be taxed a higher percentage of their discretionary income than the rich.

Want a mathematical run of it? OK, Let's say the necessities of life cost $5,000 per year, and we have a flat 25% tax rate.

Person A makes $11,000 a year (they make slightly above the minimum wage). They pay $2750 in taxes, and $5000 on basic needs. With no taxes, they would have had $6000 to spend on luxury goods; thus, 45.8% of their discretionary income was taxed away.

Person B makes $80,000 per year...not rich, but upper middle class. They are taxed $20,000, and must spend the same $5000 on basic needs. They now have $55,000 remaining. Without the tax, they would have had $75,000. Their discretionary income is taxed at a 26.7% rate.

Person C makes $1,000,000 per year, placing them in a current high tax bracket. They pay $200,000 in taxes, and have the same basic needs as all other human beings. They have $795,000 remaining, rather than $995,000. Their discretionary tax rate is 20.1%.

Despite all the talk of a "fair" flat tax, it ends up leading to higher effective tax rates on the poor. It is one of the worst ideas in circulation right now, and would greatly increase the tax burden on the poor, effectively acting in direct opposition to economics' goal of at least partially redressing the gross imbalance of wealth in the United States, the worst in the First World.

[Perinquus]

This is highly misleading. All the flat tax proposals I've ever heard of impose a flat rate, not a flat figure. In other words, everyone pays the same percentage of his or her income, not the same amount of money. People with no income obviously would pay no tax, since any percentage of zero is still zero.

Who the hell has zero income? Anyway, if you would prefer a more complex weighted calculation, feel free to do the math. That was what I rattled off in a few seconds; I make no pretenses about it being the be-all and end-all of economics calculations.

Zero income? Well,perhaps I should have said zero earned income. People living on welfare would obviously fall into this category. I can't see any point in giving people welfare money and then taxing it, as opposed to simply witholding the equivalent amounto fo money in the first place - though who can say, as nutty as the government is?

[Darth Wong]

Despite all the talk of a "fair" flat tax, it ends up leading to higher effective tax rates on the poor. It is one of the worst ideas in circulation right now, and would greatly increase the tax burden on the poor, effectively acting in direct opposition to economics' goal of at least partially redressing the gross imbalance of wealth in the United States, the worst in the First World.

Question: why don't most Americans seem to think that the huge imbalance of wealth between rich and poor in the US is a problem? I don't know if any surveys exist on this subject, but it seems to me that when you complain about the huge gap between rich and poor in the United States, you are immediately labeled as a "socialist" and attacked on that basis (because as we all know, economics are a matter of white vs black, on vs off, good vs evil, capitalism vs socialism). Even a great many well-educated Americans seem to think that a huge and growing disparity between rich and poor is perfectly acceptable and does not bode ill for the country at all. Even the CIA's factbook entry on the United States indicates that virtually all income growth in the last 30 years has gone to the top 20% of the population, yet no one bats an eyelash.

[Perinquus]

A flat tax ends up working as a regressive tax unless you place so many loopholes that it's a Swiss cheese tax. This is because the essentials of life (food, water, shelter) at a basic level are a fixed cost. Anything over and above that, including the amount spent on better food, shelter, et cetera, is luxury goods. The rich, by definition, spend a lower percentage of their income on basic needs. The poor, with their higher percentage going to needs, will also be taxed a higher percentage of their discretionary income than the rich.

Want a mathematical run of it? OK, Let's say the necessities of life cost $5,000 per year, and we have a flat 25% tax rate.

Person A makes $11,000 a year (they make slightly above the minimum wage). They pay $2750 in taxes, and $5000 on basic needs. With no taxes, they would have had $6000 to spend on luxury goods; thus, 45.8% of their discretionary income was taxed away.

Person B makes $80,000 per year...not rich, but upper middle class. They are taxed $20,000, and must spend the same $5000 on basic needs. They now have $55,000 remaining. Without the tax, they would have had $75,000. Their discretionary income is taxed at a 26.7% rate.

Person C makes $1,000,000 per year, placing them in a current high tax bracket. They pay $200,000 in taxes, and have the same basic needs as all other human beings. They have $795,000 remaining, rather than $995,000. Their discretionary tax rate is 20.1%.

Despite all the talk of a "fair" flat tax, it ends up leading to higher effective tax rates on the poor. It is one of the worst ideas in circulation right now, and would greatly increase the tax burden on the poor, effectively acting in direct opposition to economics' goal of at least partially redressing the gross imbalance of wealth in the United States, the worst in the First World.

Even if this is all true, and I don't dispute it, if the flat tax can be shown to stimulate the economy as a whole, and raise income across the board, what does it matter? If the flat tax goes into effect, and you end up keeping more of your income, so that you keep, let's say hypothetically 15% more of your income than you did before, you are better off. So who cares then if someone richer than you keeps 30% more of his income? You're still better off.

I haven't really looked into this deeply, so I can't say if this would happen or not, but one of the arguments that proponents of the flat tax use is that it would benefit everybody in the end. For example, I do know of one study, based on the 17% flat tax proposed by Representative Dick Armey (R-TX) and Senator Richard Shelby (R-AL) that concluded under a flat tax, every production sector of the economy would grow faster than otherwise except for subsidized agricultural crops, which would lose their tax subsidies. And the lowest income group gains the most, because it pays no income tax with the advent of the flat tax. Therefore, this group's aftertax wage rate increases despite a decrease in before-tax wages of one-third of 1 percent. Morever, the expansion of virtually all the sectors in the economy means that the lower-income group is able to supply more labor and therefore earn more income.

[Darth Wong]

I haven't really looked into this deeply, so I can't say if this would happen or not, but one of the arguments that proponents of the flat tax use is that it would benefit everybody in the end.

Trickle-down economic theory, right?

For example, I do know of one study, based on the 17% flat tax proposed by Representative Dick Armey (R-TX) and Senator Richard Shelby (R-AL) that concluded under a flat tax, every production sector of the economy would grow faster than otherwise except for subsidized agricultural crops, which would lose their tax subsidies. And the lowest income group gains the most, because it pays no income tax with the advent of the flat tax. Therefore, this group's aftertax wage rate increases despite a decrease in before-tax wages of one-third of 1 percent. Morever, the expansion of virtually all the sectors in the economy means that the lower-income group is able to supply more labor and therefore earn more income.

Do they produce any evidence for these correlations between tax cuts on the rich and immediate economic growth which they are obviously using as premises?

[Patrick Degan]

Ahem:

Flat tax
A flat tax, also called a proportional tax is a system that taxes all entities in a class (typically either citizens or corporations) at the same rate (as a proportion on income), as opposed to a graduated, or progressive, scheme. The term flat tax is most often discussed in the context of income taxes.

(Poll taxes, in contrast, are not flat taxes, because they usually refer to a fixed amount per individual, which is a decreasing percentage of income for higher-income individuals.)

Advocates say that a flat tax system may arguably have most of the benefits of a progressive tax, depending on whether the flat rate is combined with a significant threshold. Usually the flat tax is proposed to kick in at a certain income level, or to exempt income below that level, so that the lowest-income members of society pay no income tax. Technically, this is a two stage progressive tax rather than a flat tax.

Advocates of a flat tax claim that it will end unfair discrimination. They also argue that flat taxes are easier (and cheaper) to administer and comply with than complex, graduated taxes. Most political parties that advocate the introduction of a flat tax are on the right of the political spectrum.

Those who oppose a flat tax claim that it will benefit the rich at the expense of the poor. One argument is that, since most other taxes (sales taxes etc.) tend to be regressive in practice, making the income tax flat will actually make the overall tax structure regressive (i.e. lower-income people will pay a higher proportion of their income in total taxes compared with the affluent). Another argument can be made by looking upon the value of money to various groups and not simply the rate of taxation. While the monetary value of a dollar (or other unit of currency) is the same for everyone, it is clearly "worth" a lot more to someone who is struggling to afford food than to a millionaire. Taxing everyone at the same rate ignores the fact that richer people can give up more of their income without ill effects. Arguably, the complication of a tax system resides in the accounting of one's taxable income and in the possibilities for deductions, so that a flat tax would not substantially simplify a tax system — once the taxable income is determined, the tax amount can be computed automatically by a computer or looked up from a table, no matter how complicated the formula.

The amount of income the government receives from a flat tax depends entirely on the level of the tax. Usually flat taxes are advocated by parties that also believe in a tax cutting agenda, but a flat tax can also be used to increase government revenue by simply raising the tax rate.

An example of a flat tax proposal is that advocated by Canada's right wing Canadian Alliance party. The party's policy calls for the elimination of Canada's three separate tax brackets for low, medium, and high incomes with a single 17% income tax on everyone. (This was not in fact a pure flat tax as the very poor were in a separate bracket where they had to pay no taxes.) This new tax structure would have greatly reduced average tax burden of Canadians and also shrunk government revenues considerably. The proposed flat tax turned out to be unpopular among Canadians, however, and the party dropped it at the beginning of the 2000 general election.

It's hard to take seriously a proposal easily rebutted by simple mathematics.

[Perinquus]

I haven't really looked into this deeply, so I can't say if this would happen or not, but one of the arguments that proponents of the flat tax use is that it would benefit everybody in the end.

Trickle-down economic theory, right?

Actually, no. As economist Thomas Sowell said:

Liberals claim that those who favor tax cuts and a free market want to help the rich first, hoping that the benefits they receive will eventually trickle down to the masses of ordinary people. But there has never been any school of economists who believed in a trickle down theory. No such theory can be found in even the most voluminous and learned books on the history of economics. It is a straw man...

The real effect of a reduction in the capital gains tax rate is that it opens the prospect -- only the prospect -- of greater future net profits. But that is enough to provide incentives for making current investments. Reductions in the capital gains tax rate tend to draw money out of tax shelters like municipal bonds and into creating jobs and productive capacity...

As with all taxes, a distinction must be made between tax rates and tax revenues. Tax revenues went up while tax rates went down in the 1980s. Similarly in the 1960s and the 1920s. That is because incomes rose more than tax rates fell.

For example, I do know of one study, based on the 17% flat tax proposed by Representative Dick Armey (R-TX) and Senator Richard Shelby (R-AL) that concluded under a flat tax, every production sector of the economy would grow faster than otherwise except for subsidized agricultural crops, which would lose their tax subsidies. And the lowest income group gains the most, because it pays no income tax with the advent of the flat tax. Therefore, this group's aftertax wage rate increases despite a decrease in before-tax wages of one-third of 1 percent. Morever, the expansion of virtually all the sectors in the economy means that the lower-income group is able to supply more labor and therefore earn more income.

Do they produce any evidence for these correlations between tax cuts on the rich and immediate economic growth which they are obviously using as premises?

Empirical evidence. The tax cuts of the 20s, 60s, and 80s all benefitted the wealthier people more than they did the poor. But the poor still ended up being better off than they were, because the economy as a whole improved, and they ended up seeing an increase in their incomes also, just not as high an increase as richer people did.

[Darth Wong]

Actually, no. As economist Thomas Sowell said:

Liberals claim that those who favor tax cuts and a free market want to help the rich first, hoping that the benefits they receive will eventually trickle down to the masses of ordinary people. But there has never been any school of economists who believed in a trickle down theory. No such theory can be found in even the most voluminous and learned books on the history of economics. It is a straw man...

Albeit one which is publicly promoted, even by name, on a regular basis.

The real effect of a reduction in the capital gains tax rate is that it opens the prospect -- only the prospect -- of greater future net profits. But that is enough to provide incentives for making current investments. Reductions in the capital gains tax rate tend to draw money out of tax shelters like municipal bonds and into creating jobs and productive capacity...

And they can demonstrate that this actually occurs, or will occur and be beneficial, even in industries which are already suffering from overcapacity?

Do they produce any evidence for these correlations between tax cuts on the rich and immediate economic growth which they are obviously using as premises?

Empirical evidence. The tax cuts of the 20s, 60s, and 80s all benefitted the wealthier people more than they did the poor.

That is "ad hoc" assumption of causality, not empirical evidence for a mechanism that is guaranteed to work under all circumstances. I would agree that massive, near-punitive taxes on the wealthy can be counterproductive, but the notion that reductions will always produce positive net benefits is just as absurd as the notion that increased taxes will always produce an exactly proportional increase in revenue.

But the poor still ended up being better off than they were, because the economy as a whole improved, and they ended up seeing an increase in their incomes also, just not as high an increase as richer people did.

According to the CIA's own world factbook entry on the US, real income growth for anybody below the top 20% of people in the US has been flat since 1975, contrary to this claim.

[Symmetry]

The flat tax is also often justified by arguing that it will create more incentive to get rich. This implies, of course, that there is so little incentive under the current taxation system that a significant number of people who would otherwise be ambitious decide to just forget about it, and that quite frankly sounds like a gigantic steaming pile of bullshit. Who are these people? Upon what data are these legions counted?

Its not a matter of "little" incentive now, but rather increasing the incentive so people find that its in their best interest to continue working rather than take that vacation. Life is always about tradeoffs, so its not a matter of people deciding "oh, I think I have enough money" but rather "Actually, the money I'd make working those extra hours can be used to do things that are worth more to me than this other thing I had been going to do in my spare time." Labour, blue collar or white, fits supply and demand curves just like any other commodity.

[Darth Wong]

The flat tax is also often justified by arguing that it will create more incentive to get rich. This implies, of course, that there is so little incentive under the current taxation system that a significant number of people who would otherwise be ambitious decide to just forget about it, and that quite frankly sounds like a gigantic steaming pile of bullshit. Who are these people? Upon what data are these legions counted?

Its not a matter of "little" incentive now, but rather increasing the incentive so people find that its in their best interest to continue working rather than take that vacation. Life is always about tradeoffs, so its not a matter of people deciding "oh, I think I have enough money" but rather "Actually, the money I'd make working those extra hours can be used to do things that are worth more to me than this other thing I had been going to do in my spare time." Labour, blue collar or white, fits supply and demand curves just like any other commodity.

That's a lovely theory, but I have seen little evidence that it can be relied upon in practice, particularly when tax rates for the wealthy in America are already among the lowest in the first world. Do you understand the concept of an optimum point?

[Symmetry]

A flat tax ends up working as a regressive tax unless you place so many loopholes that it's a Swiss cheese tax.

Every flat tax scheme I've ever seen has a single loophole, excepting the first $20,000 or soy a person makes a year from the tax. This does mean that matching revenue to expenses does involve some politicing with those who want to raise or lower the tax rate versus those who want to raise or lower exeption, but its still a lot better than "swiss cheese."

Question: why don't most Americans seem to think that the huge imbalance of wealth between rich and poor in the US is a problem?

Why should I care how much rich people make, so long as my own income rises? I think part of the difference is that its generally easier to gain or lose money in America, relative to other places in the world.

Its not a matter of "little" incentive now, but rather increasing the incentive so people find that its in their best interest to continue working rather than take that vacation. Life is always about tradeoffs, so its not a matter of people deciding "oh, I think I have enough money" but rather "Actually, the money I'd make working those extra hours can be used to do things that are worth more to me than this other thing I had been going to do in my spare time." Labour, blue collar or white, fits supply and demand curves just like any other commodity.

That's a lovely theory, but I have seen little evidence that it can be relied upon in practice, particularly when tax rates for the wealthy in America are already among the lowest in the first world. Do you understand the concept of an optimum point?

Which "Optimum Point" do you mean? Its a pretty overloaded economics term. The one the crops up most commonly in discussions about taxes only relates to optimising the governments tax revenue, instead of optomising economic growth. Of course there's also another Optimum Point that has to do with tarriffs, and antoher that has to do with sales tax, but I don't see how any of these would relate to a flat tax. Maybe its true that I haven't heard of the one you're talking about.

In any event, a flat tax rate with income exemption has wokred quite well for the Estonians, so much so that many of the formerly communist countries in Eastern Europe are rushing to follow them. I have to admit, though, that there isn't any proof that Estonia's success was due to the flat tax rather than other reforms they've undertaken.

[Darth Wong]

Every flat tax scheme I've ever seen has a single loophole, excepting the first $20,000 or soy a person makes a year from the tax. This does mean that matching revenue to expenses does involve some politicing with those who want to raise or lower the tax rate versus those who want to raise or lower exeption, but its still a lot better than "swiss cheese."

False dilemma fallacy. Every taxation system taxes taxable income, not gross income. The difference between the two can be huge, particularly for a self-employed person with business expenses. And that's where most loopholes are found: in the reduction of taxable income. To say that the "swiss cheese" would be eliminated with a flat tax is simply wrong.

Question: why don't most Americans seem to think that the huge imbalance of wealth between rich and poor in the US is a problem?

Why should I care how much rich people make, so long as my own income rises? I think part of the difference is that its generally easier to gain or lose money in America, relative to other places in the world.

So you're saying that as long as the powers-that-be can convince you that it's not your personal problem, you don't give a shit.

Which "Optimum Point" do you mean?

Obviously, the one above which increased taxes hurt revenue, and below which decreased taxes hurt revenue.

Its a pretty overloaded economics term. The one the crops up most commonly in discussions about taxes only relates to optimising the governments tax revenue, instead of optomising economic growth.

The two are related; if a further decrease in taxes reduces government revenue, then obviously it is not creating enough economic growth (if at all) to offset the tax cut itself. And ignoring the question of government revenue is absurd; if the government can't pay its bills then you just end up sliding into debt, increasing your debt-servicing expenses, and hurting yourself in the long run.

In any event, a flat tax rate with income exemption has wokred quite well for the Estonians, so much so that many of the formerly communist countries in Eastern Europe are rushing to follow them. I have to admit, though, that there isn't any proof that Estonia's success was due to the flat tax rather than other reforms they've undertaken.

I hope I don't need to explain that former communist countries are coming from a vastly different situation than yours.

[The Dark]

According to the CIA's own world factbook entry on the US, real income growth for anybody below the top 20% of people in the US has been flat since 1975, contrary to this claim.

Actually, a journal article (will look for which journal, since I was browsing quite a few) published this year re-examined income from 1970-2000. Over that 30-year span, real income declined by 0.1% for the bottom 90% of income earners, and increased by a large percentage (~30?) for the top 10%. Basically, the average wage earner has seen no real increase in standard of living for 30 years, while the wealthy have gotten large increases in their income. The top 0.1% have had their real income increase over 300% in the last 30 years.

As with all taxes, a distinction must be made between tax rates and tax revenues. Tax revenues went up while tax rates went down in the 1980s. Similarly in the 1960s and the 1920s. That is because incomes rose more than tax rates fell.

I assume he talks about the mid-80s and later, not the recession of the early 80s. So we are left with the Golden 20s (or Roaring 20s), the post-war expansionism of the 50s-60s, and the tech boom of the 80s, the three periods in which the American economy was growing at its fastest rates ever. You could've done anything with the tax rates then and increased revenue. What we need to do is examine how tax revenues increased compared to how incomes increased; if real tax revenues grew quicker than real income, then the drop in the capital gains tax was justified. If not, then it decreased government revenues at a time when a surplus could be accumulated to draw down the debt, thus passing a greater tax burden to future generations.

[Patrick Degan]

Another problem with using Reagan as an example of the efficacy of tax cuts is the fact that while he cut income taxes, he showed no reluctance to raise tax rates in other areas:

Linky

Reagan Could Admit Mistakes

Paul Krugman, in the NYT (June 8, 2004):

Over the course of this week we'll be hearing a lot about Ronald Reagan, much of it false. A number of news sources have already proclaimed Mr. Reagan the most popular president of modern times. In fact, though Mr. Reagan was very popular in 1984 and 1985, he spent the latter part of his presidency under the shadow of the Iran-Contra scandal. Bill Clinton had a slightly higher average Gallup approval rating, and a much higher rating during his last two years in office.

We're also sure to hear that Mr. Reagan presided over an unmatched economic boom. Again, not true: the economy grew slightly faster under President Clinton, and, according to Congressional Budget Office estimates, the after-tax income of a typical family, adjusted for inflation, rose more than twice as much from 1992 to 2000 as it did from 1980 to 1988.

But Ronald Reagan does hold a special place in the annals of tax policy, and not just as the patron saint of tax cuts. To his credit, he was more pragmatic and responsible than that; he followed his huge 1981 tax cut with two large tax increases. In fact, no peacetime president has raised taxes so much on so many people. This is not a criticism: the tale of those increases tells you a lot about what was right with President Reagan's leadership, and what's wrong with the leadership of George W. Bush.

The first Reagan tax increase came in 1982. By then it was clear that the budget projections used to justify the 1981 tax cut were wildly optimistic. In response, Mr. Reagan agreed to a sharp rollback of corporate tax cuts, and a smaller rollback of individual income tax cuts. Over all, the 1982 tax increase undid about a third of the 1981 cut; as a share of G.D.P., the increase was substantially larger than Mr. Clinton's 1993 tax increase.

The contrast with President Bush is obvious. President Reagan, confronted with evidence that his tax cuts were fiscally irresponsible, changed course. President Bush, confronted with similar evidence, has pushed for even more tax cuts.

Mr. Reagan's second tax increase was also motivated by a sense of responsibility — or at least that's the way it seemed at the time. I'm referring to the Social Security Reform Act of 1983, which followed the recommendations of a commission led by Alan Greenspan. Its key provision was an increase in the payroll tax that pays for Social Security and Medicare hospital insurance.

For many middle- and low-income families, this tax increase more than undid any gains from Mr. Reagan's income tax cuts. In 1980, according to Congressional Budget Office estimates, middle-income families with children paid 8.2 percent of their income in income taxes, and 9.5 percent in payroll taxes. By 1988 the income tax share was down to 6.6 percent — but the payroll tax share was up to 11.8 percent, and the combined burden was up, not down.

Nonetheless, there was broad bipartisan support for the payroll tax increase because it was part of a deal. The public was told that the extra revenue would be used to build up a trust fund dedicated to the preservation of Social Security benefits, securing the system's future. Thanks to the 1983 act, current projections show that under current rules, Social Security is good for at least 38 more years.

But Bush has made clear that he intends to renege on the deal. His officials insist that the trust fund is meaningless - which means that they do not feel bound to honor the implied contract according to which the revenue generated by Reagan's payroll tax increase was dedicated to paying for future Social Security benefits.

I did not and do not approve of Reagan's economic policies, which saddled the nation with trillions of dollars in debt. And, as others will surely point out, some of the foreign policy shenanigans that took place on his watch foreshadowed the current debacle in Iraq.

Still, on both foreign and domestic policy, Reagan showed both some pragmatism and some sense of responsibility. These are attributes sorely lacking in the man who claims to be his political successor.

Paul Krugman is a columnist for The New York Times.

In addition, he also was the driving force, along with Dan Rostenkowski, for the 1986 tax reform act which eliminated many of the loopholes and deductions existing in the tax code for decades:

Linky

Tax Reform Act of 1986

The United States Congress passed the Tax Reform Act (TRA) of 1986 to simplify the income tax code, broaden the tax base and eliminate many tax shelters and other preferences. The top tax rate was lowered from 50% to 28% while the bottom rate was raised from 11% to 15% - the only time in the history of the U.S. income tax (which dates back to the passage of the Sixteenth Amendment in 1913) that the top rate was reduced and the bottom rate increased concomitantly. In addition, capital gains faced the same tax rate as ordinary income. Moreover, interest on consumer loans and state and local sales or income taxes was no longer deductible. The law increased the personal exemption and standard deduction.

While often referred to as the second of the two "Reagan tax cuts" (the Kemp-Roth Tax Cut of 1981 being the first), the official sponsors of the bill were actually two liberal Democrats, Richard Gephardt of Missouri in the House of Representatives and Bill Bradley of New Jersey in the Senate.

The Tax Reform Act of 1986 also increased incentives favoring investment in owner-occupied housing relative to rental housing by increasing the Home Mortgage Interest Deduction. The imputed income an owner receives from an investment in owner-occupied housing has always escaped taxation, but TRA86 changed the treatment of imputed rent, local property taxes, and mortgage interest payments to favor homeownership, while phasing out many investment incentives for rental housing. Since low-income people are more likely to live in rental housing than in owner-occupied housing, this would have decreased the new supply of housing accessible to them. The Low-Income Housing Tax Credit was hastily added to TRA86 to provide some balance and encourage investment in multifamily housing for the poor.

Linky

The Tax Reform Act of 1986

The Tax Reform Act of 1986 was one of the major accomplishments initiated by the Reagan Administration, passed by a Democratic House and Republican Senate. One of the most important pieces of tax legislation since WWII, it sought to "level the playing field" by curbing tax shelters, lowering corporate tax rates, and eliminating special treatment for capital gains. Thereafter, capital gains, earned income, and unearned income were all taxed at the same rate. In economists' language, it brought the average marginal tax rates on labor and capital income closer together.

Since 1986, other tax legislation has again increased taxation on earned income to a higher rate than that on capital gains, which again received preferential status. While the top rate on capital gains remained at 28%, the top earned income tax rate was increased to 31% in 1991 in a package endorsed by President Bush as a tactic for addressing burgeoning federal deficits. This violated his "Read my lips...No new taxes." campaign pledge as was thought to be a factor underlying his defeat in the 1992 elections. In 1993, under President Clinton, the earned income rate climbed even higher, to 39.6%.

Other features of the Tax Reform Act of 1986:

* Tax cut. The top marginal tax rate on wealthiest individuals was reduced 44% (from 50% percent to 28%). The marginal rates for leass wealthy individuals were also reduced, but not by as high a percentage. Tax reductions were said by some critics to underly the massive mushrooming of the federal deficit during the Reagan administration.

* Tax base. The tax base was broadened as fewer individuals and businesses were allowed to escape taxation.

* Tax simplification. Tax laws were simplified.

* Investment tax credit repeal. The investment tax credit for purchase of depreciable assets was eliminated. Both short term depreciation schedules and the use of accelerated depreciation were eliminated, setting new cost recovery periods of 27.5 years for residential rental property and 31.5 years for nonresidential property. This, along with new passive loss limitation rules, caused a sharp decline in the use of tax shelters by the wealth. (The passive loss limitation rule disallowed losses from activities in which the taxpayer did not materially participate as a current deduction against all sources of income except for other passive activities. )

* IRA deductions. The tax deduction for contributing to an Individual Retirement Account (IRA) was eliminated for high-income taxpayers.

* Bank deductions for bad debts. From 1969 to 1986, for corporate income tax purposes banks could deduct from their income allocations to loan-loss reserves. The Tax Reform Act of 1986 allowed this practice to continue for banks with $400 million or less in total assets but larger banks were restricted to deducting only actual loan-loss charges during a given year.

Tax reform is technical and complex, giving rise in the debate over the Tax Reform Act of 1986 to the following well-publicized quote: "Very frankly, Madam Speaker, I respectfully submit there is not a person alive who knows what is in this bill." -- Rep. Stan Parris (R-VA), Congressional Record, 25 Sep 1986, p. H-8375

One of the dirty little secrets of the cheerleaders for endless tax cuts and their enshrinement of St. Reagan is how conveniently the history of Reagan the tax-collector is forgotten. Particularly by the crew in the present White House and their shills in the media.

[Symmetry]

Every taxation system taxes taxable income, not gross income.

As I understand it the whole point of a flat tax is that taxable income is a simple linear function of gross income, and that the tax is a percentage of gross income. That might very well not be true of Bush's current tax proposal - I dont knowk I haven't read it - but then using the term "flat tax" is really just empty showmanship on Bush's part.

In any event, I have heard that Bush is trying to reduce or get rid of capital gains tax, which sorts of flies in the face of the whole idea of a flat tax - that the governemnt shouldn't be trying to choose winners and tell people how to earn, invest, or spend their money.

Why should I care how much rich people make, so long as my own income rises? I think part of the difference is that its generally easier to gain or lose money in America, relative to other places in the world.

So you're saying that as long as the powers-that-be can convince you that it's not your personal problem, you don't give a shit.

No, I'm saying that as long as its not my personal problem I don't give a shit. And I expect everyone else to vote on the same basis too.

Which "Optimum Point" do you mean?

Obviously, the one above which increased taxes hurt revenue, and below which decreased taxes hurt revenue.

Its a pretty overloaded economics term. The one the crops up most commonly in discussions about taxes only relates to optimising the governments tax revenue, instead of optomising economic growth.

The two are related; if a further decrease in taxes reduces government revenue, then obviously it is not creating enough economic growth (if at all) to offset the tax cut itself. And ignoring the question of government revenue is absurd; if the government can't pay its bills then you just end up sliding into debt, increasing your debt-servicing expenses, and hurting yourself in the long run.

Um, no. The idea behind the optimum point is that if you tax at 0% you obviously won't have any revenue, and if you tax at 100% nobody will have any incentive to work at all, and you won't have any revenue. How you find the point of optimal income between these two poles is outside my knowledge of economics, but its a matter of balancing people's incentives work against the rent the government makes on that work. In fact, the time and resources people invest in making money is a stricktly decreasing fuction of taxaction, but also a highly nonlinear one, which is why the Optimum point isn't at 50%. Economic growth is, of course, strongly correlated with how much time and resources people invest in the economy. According to the efficient market hypothesis economic growth is at a maximum at zero taxation, but that hypothesis is only an approximation and isn't even accepted as an approximation by eveyone. However, I doubt you'd find any mainstream economics proffesor, sweatwater or saltwater school, who would say that the optimum point for governemnt revenue is the same as the optimum point for economic growth.

Of course it would be a bad in the long term if the government can't pay its bills, and personally I don't think we should be having tax cuts now. However, because, as you pointed out, the taxes in the US are generally low right now we can reasonably maintain our present level of governemnt income while switching to a flat taxation system.

In any event, a flat tax rate with income exemption has wokred quite well for the Estonians, so much so that many of the formerly communist countries in Eastern Europe are rushing to follow them. I have to admit, though, that there isn't any proof that Estonia's success was due to the flat tax rather than other reforms they've undertaken.

I hope I don't need to explain that former communist countries are coming from a vastly different situation than yours.

Of course it better evidence would be nice, but I would hope that if something works in theory and works well the one time the theory is tested the theory at least deserves further consideration. Maybe if you have a theory that would predict the results from Estonia and the other Eastern European countries, but says that a flat tax would fail in the US we could try to find further situations to compare them and see which is right?

[Symmetry]

A side point:

One effect of a flat tax may actually be to reduce pressure for tax cuts, since some of the current anti-tax feelings in the US are due to the complexity of the tax code rather than the amount of money it takes in from people. As someone who thinks the US governemnt should start biting bullets and trying to solve looming problems with things like social security, I'm against any tax cuts at this point in time. Much better simply restucture the tax system, like that 1986 tax reform bill another poster pointed out.

[Darth Wong]

Every taxation system taxes taxable income, not gross income.

As I understand it the whole point of a flat tax is that taxable income is a simple linear function of gross income, and that the tax is a percentage of gross income. That might very well not be true of Bush's current tax proposal - I dont knowk I haven't read it - but then using the term "flat tax" is really just empty showmanship on Bush's part.

Are you serious? A self-employed person might have gross income of $250,000 but expenses of $150,000 depending on what kind of work he's doing. Taxing him the same way you'd tax an executive making $250,000 in salary would be simply batshit insane.

In any event, I have heard that Bush is trying to reduce or get rid of capital gains tax, which sorts of flies in the face of the whole idea of a flat tax - that the governemnt shouldn't be trying to choose winners and tell people how to earn, invest, or spend their money.

Elimination of the capital-gains tax has long been a desire of the wealthy, since a lot of them (especially those who were born into money) make pretty much all of their income from capital-gains, not salary.

No, I'm saying that as long as its not my personal problem I don't give a shit. And I expect everyone else to vote on the same basis too.

So the fact that the lowering of the taxes on the wealthy automatically means tax rates must increase on the lower and middle classes in order to make up the shortfall doesn't bother you at all? Oh wait, we can cut out the very lower classes, thus further increasing the burden on the middle class! What a brilliant idea!

Don't tell me; you figure that the flat tax will automatically produce a huge economic boom which will make this question moot. The fact remains that a flat tax would shift the tax burden away from the wealthy no matter how you slice it, and that means it ends up on you unless you figure you're rich. And if you're rich, then quite frankly, where do you get off whining about taxes when you're not the one who has to worry about whether you can even make the mortgage payment at the end of the month?

Um, no. The idea behind the optimum point is that if you tax at 0% you obviously won't have any revenue, and if you tax at 100% nobody will have any incentive to work at all, and you won't have any revenue.

Wrong, that is not a definition of an optimum point. That is an explanation of the reason why neither extreme works. The optimum point is as I said; if you were to plot a function of tax rates and revenues and simply find the peak, that's the optimum point.

How you find the point of optimal income between these two poles is outside my knowledge of economics, but its a matter of balancing people's incentives work against the rent the government makes on that work. In fact, the time and resources people invest in making money is a stricktly decreasing fuction of taxaction, but also a highly nonlinear one, which is why the Optimum point isn't at 50%. Economic growth is, of course, strongly correlated with how much time and resources people invest in the economy. According to the efficient market hypothesis economic growth is at a maximum at zero taxation, but that hypothesis is only an approximation and isn't even accepted as an approximation by eveyone.

That is fucking stupid; at zero taxation the government would be unable to meet any of its commitments, there would be no infrastructure money, no social programs at all, and the nation would slide into disaster.

However, I doubt you'd find any mainstream economics proffesor, sweatwater or saltwater school, who would say that the optimum point for governemnt revenue is the same as the optimum point for economic growth.

Please quit playing with your strawman and address the point. I never said the two points were the same; I said the two concepts were related. If economic growth is insufficient to offset the tax rate decrease, then it's a bad deal in the long run. So maximizing economic growth with no regard for government revenue would be fucking stupid.

Of course it would be a bad in the long term if the government can't pay its bills, and personally I don't think we should be having tax cuts now. However, because, as you pointed out, the taxes in the US are generally low right now we can reasonably maintain our present level of governemnt income while switching to a flat taxation system.

No, you can't. If you don't believe me, I have a number for you: $500 billion deficit.

Of course it better evidence would be nice, but I would hope that if something works in theory and works well the one time the theory is tested the theory at least deserves further consideration. Maybe if you have a theory that would predict the results from Estonia and the other Eastern European countries, but says that a flat tax would fail in the US we could try to find further situations to compare them and see which is right?

The theory is simple: there's an optimum point, and if you decrease taxes below that revenue point you are only fucking yourself in the long run. It is not a problem with the theory; it is a problem with your failure to recognize that the theory produces recommendations completely opposite to yours when the tax rate is already low.

[tharkûn]

A couple of points:
1. Yes relative incomes have been gaping widers over the years, however the quality of life has been rising. Today the average individual buys a computer, prescription drugs, and all manner of goods that simply didn't exist in 1970. Prices for goods and services that existed in 1970 have fallen in real terms. The best measure of how people are doing is not how much money they have, but what goods and services can they buy with that money? By and large the answer keeps being more and more stuff.

2. The savings in paperwork alone would be ludicrious, tax preperation is currently a multi-billion dollar industry. Granted just about all of this would result from the simplification of the taxcode inherent to most flat tax proposals, not due to switching from progressive to flat taxes.

3. A flat tax will not bring the horsemen of the apocalypse. Russia and Estonia both have flat taxes and seem not to have massive problems. In Russia's case the wealthy are actually footing more of the tax burden, again mainly due to making it harder to cheat.

All told I'd prefer to see a progressive tax defined off a bell curve and for it to be relatively impossible for politicians to tinker with one group's taxes without fiddling with them all. First the government would need to adopt some poverty criteria, everyone below that level of income would be dropped from further calculation. Next the government would compute the median income and standard deviation between incomes. After that the tax base is divied up based on std and the ratio of tax rates are fixed. Run of the mill government action would not have the power to dick with these rates, in response to normal budgetary concerns they could either raise or lower the whole apparutus (preserving the steepness of the graduation); but not give handouts to any particular group. Most likely such a system would operate off the preceeding year's numbers and suffering a one year lag; but it seems to have most of the benifits of the flat tax without most of its drawbacks.

At the bare minimum tax code simplification is a MUCH overdue step to be taken.

[Darth Wong]

At the bare minimum tax code simplification is a MUCH overdue step to be taken.

Just how complicated are your tax forms, anyway?

[Jalinth]

Every taxation system taxes taxable income, not gross income.

As I understand it the whole point of a flat tax is that taxable income is a simple linear function of gross income, and that the tax is a percentage of gross income. That might very well not be true of Bush's current tax proposal - I dont knowk I haven't read it - but then using the term "flat tax" is really just empty showmanship on Bush's part.

The main (unavoidable) problem with the income tax is computing taxable income. I'm in the field (Canada), and spend some of my time dealing with what is/is not deductible, how to place certain capital assets in depreciation categories. I can calculate your corporate tax bill within $50 on my calculator in under 2 minutes once your taxable income is computed. Personal might require about 5 due to some Canadian weirdness.

A flat tax doesn't change these questions

1. Are golf dues deductible? (they are used for business after all)
2. Meals/entertainment.
3. Capital assets (do you expense them, capitalize them, if so how much),
4. I can go on and on (I'm paid by the hour after all )

Also, a country's tax system includes much more than the income tax. Commodity taxes (mostly sales, but also your "sin" taxes, gas tax, tariffs, etc...) play a big part. These taxes (especially in the US) tend to be regressive - they are only on physical goods, not services. So you end up with a regressive tax system overall. The income tax is a progressive piece of the puzzle - it isn't the puzzle itself.

[tharkûn]

Just how complicated are your tax forms, anyway?

Personally, because I have overseas income of a variety of types, overseas and domestic expenses, and a sizeable number of deductions ... bad enough I just have an accountant do them for me and fork over a nice roll of cash for her time. It also doesn't help that I owe taxes in multiple countries.

In general it comes down to what type of income do you earn and how many deductions you claim. Bare bones is only a page or two I think.