Some Principles of Government: Taxes

One of the central principles of Government is that it should treat everyone as equal. That few do is equally true. Governments have traditionally used their powers to seek to redress real or perceived wrongs inflicted on one group -- at the expense of another. While these efforts may begin with the best of intentions, the fact is that it creates a privileged segment of society – one which is given title to certain benefits – paid for by another segment. Such a situation is destructive of the intellectual and spiritual cornerstone of a free society – enlightened self-interest, because that segment then will vote to maintain governments that will continue these benefits, forming a voting block that will use its special position to charge the rest of society, at the cost of the principal of equal treatment. Unequal treatment by a government of one segment of society is therefore destructive of that government.

Tax policy is one example of this behavior on the part of government, with governments creating special taxes and special tax exemptions as rewards or punishments for different segments of society. This behavior is justified by a wide range of arguments, all having at their center two key beliefs (both false): 1) the government bureaucracy (any government) has the role and responsibility to shape society (though how it acquires and maintains the vision of the society it is trying to create is never explained), and 2) the bureaucracy has an insight into how best to accomplish these goals (again, how it acquires this insight is not explained). Such experiments have had few real successes and for every supposed success there are equal arguments that the success was ‘purchased’ at as great or a greater cost.

Despite every effort to the contrary, few people have ever been happy with tax codes in any country. At its root the basis for that feeling are two simple beliefs: that you are paying too much, and that someone else isn’t paying enough. From a social stability perspective, the answer to this problem is equally ‘simple,’ rewrite the tax code so that everyone pays the same taxes.

Before doing that, however, there need to be a few restrictions on the government.

First, all allowances and exemptions MUST be indexed. Failure to do this encourages governments to promote inflation and force people into ever-higher tax brackets. This is understandable to anyone who has paid taxes for more than a few years: your salary is increased every year or so to reflect increases in the cost of living; after a few years you find that you are now making substantially more than you were just a few years earlier, but you are not living as well, and you have less real discretionary spending (cash in the bank). Furthermore, while you used to pay taxes at the rate of 15% of your adjusted income, you are now paying 18 or 20% of your adjusted income. Inflation has pushed you into a higher tax bracket. This must be avoided, and one simple way to do that is to set a start year and then continually adjust all deductions upward based on the Consumer Price Index, while holding the tax rate fixed for all taxpayers.

Second, exemptions and allowances need to be constrained to those that everyone will benefit from. Simply put, there are too many deductions for the tax code to appear fair to the overwhelming percentage of taxpayers. Each of these deductions has justification and value to the people who benefit from them. But, in as much as it makes one segment of the society appear favored to another, it is destructive of the core of the society – the social contract that each has with the society that presumes fair and equal treatment. Accordingly, we should reduce these deductions and exemptions to the absolute minimum, to a short list that either is or can be easily used by all.

Third, exemptions and allowances should reflect the most obvious issues we face, issues that do not need debate. In constructing that short list, as will be noted below, the focus should remain on the few issues that are blindingly obvious.

First, let us begin with annual Deductions:

Every taxpayer must have some place to live. Accordingly, every taxpayer should receive a full deduction of primary and secondary housing. This applies to both owners and renters. In short, you are allowed to deduct your cost of ‘living’ – your housing expense, which would include your loan payment (interest, principal, real estate tax, and loan insurance). Renters would be allowed to deduct their rent. Other costs – homeowner association fees or condo fees or the like, fees that relate directly to the residence itself, would also be included.

Every taxpayer receives a $5000 deduction himself and for each dependent. This deduction is indexed to the CPI.

Every taxpayer receives up to a $5000 deduction for health insurance, plus an additional $3000 for each dependent. Obviously, if you choose to have no health insurance (or dental, as below), you do not receive this deduction. This deduction is indexed to the CPI.

Every taxpayer receives up to $1000 deduction for dental insurance, plus an additional $500 for each dependent. This is indexed to the CPI.

Every taxpayer receives a $10,000 deduction for a retirement fund, plus another $5000 for your spouse and any permanent dependent (sick child, dependent parent, etc.) To encourage savings, 50% of all money above this initial amount to as much as $100,000 above that amount – between $10,000 and $100,000 for a single person, $15,000 to $105,000 for a couple - placed into savings would be exempted This money must remain in a saving account for 2 years or it is taxed at 20%. If the money is held in savings until you or your spouse reach age 65, it is not taxed when it is withdrawn, nor is any interest. This deduction and associated dollar figures are indexed to the CPI.

Every taxpayer receives a $5000 deduction for education for children. As with health care, this deduction must be spent on education, though it can be set aside, structured so that you can set $5000 aside per year when your child is young, or before you have children, and hold it for college. If you set aside money for a child’s education fund but then do not have children, the money could be transferred into your retirement fund up to the upper limit per year for your retirement fund. Beyond that it would be taxed as normal income. This deduction is indexed to the CPI.

There would be no other deductions.

Everyone then pays 15% of their adjusted income to the Federal government – everyone. Make 1000 dollars or 1 billion dollars, you get the same deductions and the same tax rate. The income tax amendment to the Constitution, the 16th Amendment, which now reads: “The Congress shall have power to lay and collect taxes on incomes, from whatever source derived, without apportionment among the several States, and without regard to any census or enumeration.” might be amended to read “The Congress shall have power to lay and collect taxes on incomes, not to exceed 15% of adjusted gross income, from whatever source derived, without apportionment among the several States, and without regard to any census or enumeration. Congress shall not approve a deficit except in time of national emergency or for 36 months following any national emergency. Determination of a national emergency shall require a finding by a majority of both Houses of Congress and the President.” (Ideally the tax rate would actually be less than 15%, but that subject will be discussed at a later date).

As an example: if you are a couple with no children and you gross $50,000 and you have a $1500 per month rent, your tax return would look something like this:

$5000 x 2 deduction = $10,000
Rent = 18,000
Health care = 7,500
Retirement = 15,000
Total Deductions = 50,500

Taxable income == 0
Disposable income = $9,500

A family of four with an income of $500,000
Deductions = 20,000
Housing = 80,000
Health care = 12,500
Education = 10,000
Retirement = 20,000
Total deductions = 142,500

Taxable income: = 357,500
Tax = 53,625

Inheritance Taxes

Inheritance taxes should also be eliminated. There is an argument that inheritance taxes are a benefit in that they prevent the accumulation of wealth by those who haven’t earned it and allow for that accumulation by those who have. That would make sense if somehow the money was made directly available to entrepreneurs, but it isn’t. Instead, in goes into the general treasury. Furthermore, money that represents an estate is found in two major groupings: real estate and public holdings (stocks, bonds, mutual funds, etc.). The real estate is, presumably already being used by someone. Stocks and bonds and other paper represent moneys that are already in the economy and area already being productive. Taxing them is counter productive to the society as a whole. Further, taxing any estate is to tax it twice: once when the money was earned and again when that taxpayer dies. There is little that is fair in that.

Corporate taxes for corporations headquartered in the US would be eliminated as well. Corporate taxes are, in fact, nothing more than a pass-through, collecting for the government (federal, state and local). Having corporations pay taxes is counter-productive to the health of the economy. General Motors and EXXON are well aware of the taxes they are going to have to pay and are more than capable of determining how to add to the price of their products so that the tax on their products is included as an expense to the consumer when the consumer purchases the product. The only way to prevent that would be absolute price AND wage control, which is both economically stifling and unwise and, arguably unconstitutional (though it has been attempted in the past). Accordingly, eliminate all corporate tax, but insist upon clear accounting principals for all corporate activities. On the other hand, dividends must be considered income, and all dividends would be taxed through the personal income tax of the stock holder (as would any interest income), as they are now.

It should also be remembered that the overwhelming percentage of the shares of these large corporations – such as GM and EXXON – are owned by large funds, funds that make up the bulk of the nation’s retirement funds, funds that are owned by literally millions of people. Corporate profits are what make those private retirement funds possible. Taxing EXXON is taxing those retirement funds.

On the other hand, foreign corporations that are doing business in the US should be considered as fair game for tax revenue, as those profits may otherwise leave the country. Accordingly, profits would be taxed at the same rate as personal income, to include any capital gains enjoyed by these companies. As those rates would still be lower than the rates in other countries, this wouldn’t scare these corporations away, but it would provide them with an incentive to make the US their headquarters.

Capital Gains Tax

Capital gains are the increase in value of a capital asset. A capital gains tax taxes that gain. But, in most cases that gain takes place concomitant with inflation. For example, assume you own a piece of property, which you purchased at $100,000. Assume also that there is a yearly inflation rate of 4%. You sell the property 20 years after purchasing it for $300,000. Inflation alone should have raised the price of the property from $100,000 to $220,000. Your real profit is only $80,000, not the $200,000 you would currently be taxed on. Since it is the desire (or should be) of governments to build wealth and economic stability, the right answer should be that, if you reinvest that money into other capital assets, you would not be taxed at all. If, on the other hand, you take some of that money out to use it, you should be taxed only on that amount of money (up to your real profit), and then at the standard income tax rate. In the case above, the individual who sold the property would have made $80,000 in real profit. The maximum tax would be 15% of $80,000 or $12,000, assuming they spent all $80,000 on non-capital assets. You should be given two years to reinvest in capital assets before being taxed.

Exemptions for Ideas

There is one set of exemptions that should be considered under federal income taxes, and it is directed at human creativity: eliminate all taxes on personal income derived from any patent or copyright held by a US citizen. This would not apply to the patents held by corporations. The goal here is to draw as many creative people into the US as possible: if you have an idea, bring it to the US, become a citizen, and you won’t be taxed on your earning for the idea.

Finally, a word about governments.

As a rule, governments should have no authority to spend more than they collect in revenue except in the face of true emergencies, such as a war. To raise that money government can raise funds by selling bonds, as it does now. Localized emergencies, such as a hurricane, earthquake or the like should be dealt with through a contingency fund that represents no more than 5% of the budget. True national emergencies, such as a war, would be provided for through deficit spending and the borrowing of money via the floating of bonds. Following the emergency the government should be forced to return to a positive cash flow within 36 months. Any excess beyond that which is necessary to pay off the bonds and maintain a 5% contingency fund in one year would be offset by a temporary reduction in the following year.

Next: A discussion on Energy Policy