Junk the Income Tax

By Donlon, J. P. | Chief Executive (U.S.), July/August 1996 | Go to article overview

Junk the Income Tax


Donlon, J. P., Chief Executive (U.S.)


House Ways and Means Chairman Bill Archer doesn't believe in tax "reform," he says, because the current system isn't reformable, Better to wipe the slate clean and create something that works. But what? And how do we to get from here to there?

BILL ARCHER ONCE CONSIDERED HIMSELF AN ARDENT TAX REFORMER. NOT ANYMORE. HAVING SERVED ON THE tax-writing House Ways and Means Committee for 25 of his 26 years in Congress, most of them as a minority leader, the Republican congressman from Houston now thinks the current tax system is a drag on economic growth and beyond tinkering. Once a flat taxer, he now disagrees with friend and fellow Texas Republican Dick Armey over what should replace it. Armey vociferously argues for a flat tax. Archer thinks the flat tax died with Steve Forbes' failed bid for the nomination. He allows that a flat tax would be simpler than the current system, but argues that it would leave in place the iniquitous IRS and the burden of record keeping that intimidates ratepayers.

In the following CE forum, held in partnership with Deloitte & Touche LLP, Archer outlined the prospects of tax restructuring. The Institute for Research on the Economics of Taxation's Stephen Entin, a former deputy assistant secretary of the U.S. Treasury, detailed the technical challenges in attempting such a switch and its implications for business.

Under discussion are four proposals (see table below for a summary comparison). One is Majority Leader Dick Armey's flat tax, which would abolish all loopholes and deductions; eliminate withholding, capital gains, and estate taxes; and institute a 17 percent flat tax. A variant is the USA Business Tax put forward by Sens. Sam Nunn (D-GA) and Pete Domenici (D-NM), which has two parts: a low, flat tax on all businesses including corporations, partnerships, and proprietorships allowing unlimited deductions for capital investment; and a progressive personal income tax allowing large exemptions, a deductible family living allowance, and an unlimited deduction for personal savings. Archer favors a consumption tax, such as a national retail sales tax, which eliminates the role of the IRS and helps savers at all income levels accumulate wealth. It is a first cousin to Sam Gibbons' (D-FL) value-added tax idea, which is closer to the system used widely in the European Union.

Whatever the alternatives, a fundamental issue revolves around determining the purpose of a tax system beyond paying the government's expenses. The current system, some economists and politicians argue, penalizes saving and redistributes income. The flat and consumption taxes are criticized for regressivity. Yet, those who earn wages and spend them are taxed twice. If the same wages are invested in a risky business, they are taxed a third time. And because capital gains are not indexed for inflation, they are taxed a fourth time. Is this system fair?

Although neither Archer nor Entin reckons any of the current proposals will see a vote in the 104th Congress, they both underline the public's growing dissatisfaction with the current system's cost and complexity. A Reader's Digest poll showed that most Americans think the maximum fair "take" of their personal income going to the state, local, and federal governments should be no higher than 25 percent of personal income. This was true of all respondents, regardless of income level.

In the coming national election, the tax system's effect on economic growth will be an issue with more heat than light. As Entin implies here, one should not confuse tax rates with tax revenues. In both the Kennedy and Reagan administrations, a lowering of rates produced more revenue, a fact that was proven when West Germany, Hong Kong, and the U.K. followed that program. Even socialist Sweden realized that increasing marginal rates yielded less revenue, as people chose to exchange income for leisure. Louis XIV's finance minister, Jean Baptiste Colbert, once remarked that the art of taxation was plucking the goose with a minimum of complaint from the bird. …

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