Another Flat Tax Proposal
By Justin Gardner | Related entries in EconomyThis time it’s Fortune with a new plan that reinvents Steve Forbes original flat tax plan to stack the deck in everybody’s favor.
I would offer Americans an even lower flat tax rate–14% as opposed to 17%–and at the same time do more to help low-income people. Boston University economist Laurence Kotlikoff and I have put together a plan that works in the following way.First we’d get rid of the across-the-board $9,000-per-person exemption in the Forbes plan. Why should billionaires like Bill Gates get an exemption? Forbes is giving too much money away to rich people. We’d save that exemption money and give it instead, in the form of a rebate, to the bottom third of earners, those who bring home roughly less than $25,000 for a family of four.
Second, Forbes ignores the 12.4% Social Security payroll tax (split between employer and employee). Currently, income over $90,000 a year is not subject to the tax. We don’t think it’s fair that a $50,000-a-year autoworker has to pay payroll taxes on all his income while a million-dollar-a-year auto executive does not. Under our proposal all wages would face the same income and payroll tax rates.
There is just no way Forbes’ plan would ever fly in Congress. Politicians are not going to adopt a system that taxes the wages of the rich at a lower rate than the wages of blue-collar workers. Under our proposal all wages would face the same income and payroll tax rates. And these rates would be paid only once. After that all savings would accumulate tax free.
Intriguing. I especially like the idea of lifting the limit on how much of ones income you can tax for Social Security. In short, if the $90K limit is raised, Social Security becomes solvent almost overnight.
And what would this plan do for the bottom third?
The left objects to most consumption tax proposals because they are not progressive. Low- and middle-income people would pay a greater share of what they earn than rich people. What we are proposing is more progressive than the Forbes flat tax. It’s also more progressive than the current system. Using economic modeling, Kotlikoff and I found that under our flat tax the rich would bear more of the burden than they currently do.We would also use the rebate of tax dollars to the bottom third of taxpayers to solve other social problems. For example, instead of people automatically getting the 14% rebate, we would require them to show that they have health insurance and a retirement pension as a condition. Specifically, to get one-half the rebate (7%), low-income families would have to produce proof of health insurance. This would encourage millions of people who qualify to enroll in Medicaid or in their employer’s health plan. Barring that, families could apply the tax rebate to health insurance they purchase on their own. We propose making the other half (7%) contingent on proof of a pension, an IRA, a 401(k) or some other savings account.
This sounds like a pretty common sense plan. Could a Democrat propose this idea? I don’t know, but if they did I think they’d get a LOT of good will from the middle.
What do you think?
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October 11th, 2005 at 1:30 pm
I don’t like this version of the plan, even though I love the flat tax. This plan defeats the point of real, legitimate reform. We base too many policies on a class structure. We shouldn’t reward the rich, but we shouldn’t punish them, either. That’s why our current progressive system is shameful. “Succeed and you, too, can be punished!” Not wise. The perfect example is “Why should billionaires like Bill Gates get an exemption?” Because he’s a taxpayer, just like everyone else. Just because he’s seen greater fruits from his labor doesn’t mean he should be treated as a teat of redistributionist utopianism. Reforming with a foundation like that will only lead us back to where we are now.
As for removing the Social Security ceiling, that’s a bad idea, too. Again, it’s the redistributionist fantasy that Social Security is an effective safety net. Anyone who reads his annual statement outlining his future benefits should understand this. Eliminating the cap only takes more money from “the rich” and redistributes it. This, of course, takes money from the rich, who then have less to save for themselves. $90,000 is certainly a considerable sum, but $90,000 in D.C., New York, or Los Angeles is different than $90,000 in Peoria, Tulsa, or Wichita. Setting up arbitrary numbers because the number looks large is only offering the warm fuzzies.
Eliminating the cap does not make social security solvent almost overnight. The system is fundamentally flawed because it is not a funded pension. All it does is make more of today’s money available for previously-commited outlays. Those outlays aren’t changing. If the economy goes into recession and fewer dollars flow into the Treasury (emplyoment is down, salaries are down), there isn’t a reserve fund that Social Security can draw from. It must draw from current taxes not marked FICA on payroll taxes. There is no portfolio of assets to draw from. As such, no increase in Social Security taxes makes the program solvent. It is inherently insolvent.
Also worthy of consideration… As a taxpayer, I pay the same payroll taxes on my income that everyone pays. As a self-employed taxpayer, I also pay the employer portion of the payroll tax. This tax flows directly from my income. Every dollar I pay is a dollar that doesn’t get invested, either in my business or in other growth-oriented investments in my personal portfolio. While that extra push would hit me for every dollar over $90,000, it hits employers, as well. Higher taxes means lower pay, lower employment, or an increase in non-monetary benefits for higher-salaried workers. Think health insurance for the white collar workers. Did that happen just to screw poor people or did it arise as a way to provide sought-after employees with a non-taxable form of income, since business can write-off the expense and employees face no tax impact, as they would if employers offered cash and employees purchased their own health insurance? That’s essentially why subverting the free market with irrational tax policies is stupid.
Also, how does Social Security help the poor in the short term? It takes 1/8th of every paycheck, which I assume we can all agree would be better spent on immediate needs. Something must be done to help everyone have retirement funds (don’t automatically assume it’s through a government program), but the basic structure of the current Social Security system is a joke.
The best tax structure gets the government out of the way of the free market. The market understands problems and looks to solve them. Yes, because profit is involved, but profit is not a dirty word. It makes the economy move and helps to bring the poor out of poverty. Isn’t that the ultimate goal? It can’t just be a more powerful government, aiming to build an artificial social promised-land, can it?
October 12th, 2005 at 10:49 pm
Good thoughts.
To respond:
That’s a philosophical argument. Mine is numbers argument.
Taking this cap off would be more than enough to make the program solvent. Why nobody wants to touch this is it’s a fiscal conservative third rail. Lifting this would mean a $100 billion dollar tax on the rich. Nobody’s prepared to do that. I’d be in favor of a compromise where we simply raised the cap to $150,000. That would solve at least half the problem.
Come on, hardly utopian. We’re talking about fair and just redistribution, without which we would not have nearly the standard of living we have now for our poor and indigent. Does anybody really think that the rich would give these people enough money through private organizations? No way. Not until they started dying in droves in their cities and towns.
And sorry, but with success comes greater responsibility. Why is it “punishment” for somebody making over a certain amount to not get a $9,000 exemption? Is that really any punishment at all for somebody who makes over $250,000? Of course not. So let’s not treat it like it is.
You mean the free market that, among other things, will do anything it cans to make a profit? Listen, if we don’t regulate companies, they’ll run rough-shod over the environment and people’s civil liberties. It has happend TIME and TIME again. Hell, just give somebody like Ken Lay access to creative accounting techniques where you can actually make up your future profits, and you have a perfect example of what a free market economy can do.
You’re right to not put your trust in the government, but you’re wrong to put your faith in capitalism. They’re both animals that need to be starved and trained, otherwise they grow too big and become uncontrollable. A happy medium between the two is needed, and that’s what a flat tax, along with some progressive ideas about how the wealth in this country is actually distributed, may address.
Thanks for the thoughts.
October 18th, 2005 at 2:34 pm
Sorry this response is so long (and so long after the original post), but you raised some interesting points I’d like to address.
I don’t believe my social security argument is exclusively philosophical. By raising the wage cap, the program is able to make current payments out of current benefits, but what happens if the economy goes into recession and tax receipts decline sharply? Many states have seen that scenario come true over the last four years or so, and have had to implement some combination of tax increases and benefit reductions. The same could happen to Social Security precisely because the program isn’t philosophically solvent. That fundamental flaw makes it a dangerous game to play, even if we can fool ourselves into thinking that everything is fine because we have sufficient tax receipts.
Making Social Security private, either through individual accounts as President Bush suggested or through abolishing Social Security, which I’d prefer (though I admit it’s not immediately plausible), funds retirement accounts with real money. Having actual funds, with the understanding that future benefits are contingent upon that investment rather than the whim of politicians when a taxpayer retires, is a real solution. The market involves risk, of course, but there are safe(r) investments than stocks alone. Redistributing funds from one taxpayer to another doesn’t make anything solvent. The nature of the economy, especially the centrally planned economy, makes redistribution instead of funded liabilities a tenuous situation, at best.
The more fundamental problem with raising the Social Security wage cap is that it stifles employment. Every increase in employment taxes increases prices, reduces wages, and/or reduces employment. That is bad public policy, making the previous issues I mentioned worse. It doesn’t make sense to set the system on a path where the economy has to grow while implementing a recession-inducing policy to fund that path.
On a more personal note, assume my salary is the $150,000 you’ve mentioned. All taxpayers in that bracket would feel the $60,000 increase, but I feel double the impact as a self-employed taxpayer. My tax liability will now include taxes on an additional $120,000 of income. I’d still be doing well, but that isn’t an overwhelming amount given the area I live (Northern Virginia). With an increase in the Social Security wage cap, that high salary becomes no better than middle class again. There’s nothing wrong with being in the middle class, but tax policy shouldn’t punish the rich just because they can afford it.
Which gets to your next point. Redistribution may be necessary (I don’t think so), but it’s not fair and just under any situation. However, I’m not arguing for people to starve to death. I do think private organizations will help prevent that, but preventing that is a public necessity. Government must set a minimum to maintain the public good. But the system we have discourages private industry from helping. With redistributionist tax policies, government takes from the rich and gives to the poor. But why is it a basic assumption that we need government as the middle man? Perhaps I’m just not as cynical about capitalism and private industry, but I don’t think eliminating progressive policies means that people will suddenly die in the streets.
I do put faith in capitalism because I’ve seen it in action. My faith is not blind, though. I’m not suggesting zero regulation. If business can’t regulate itself and prevent harmful action, then government must regulate. (We may differ on what constitutes “harmful”, but I’m not worried about that here.) But blanket regulation because a few business people act immorally or illegally destroys innovation.
For example, jobs don’t go offshore because businessmen hate poor people. Tax policies, irrational labor laws, and union-like employment expectations (seniority instead of merit) have far greater impact in making domestic employment unaffordable to employers. But those policies, laws, and mindsets are implemented to “help the poor”, thanks to don’t-trust-business, redistributionist thinking. How is an unemployment check better for the employee and the government than a job?
(There’s no better place to put this, but business can’t run rough-shod over people’s civil liberties. Only government can do that.)
Also, I sense an underlying assumption that I disagree with, based on your statement discrediting that “the rich would give these people enough money”. There is a difference between poor and deserving poor, a distinction I’m certain is all semantics on my part. But it’s worth noting. Good government policy helps those genuinely in need but does not reward the lazy and unmotivated. It’s not my neighbor’s responsibility to support me if I lose my job and would rather watch Ricki Lake reruns on cable. Having come from a poor background, I know most people aren’t like that. Every time my mother lost her job because the company she worked for hit hard times, she immediately sought new employment. That’s all we should support.
It is punishment, though, to remove the $9,000 exemption for someone who makes over $250,000. The purpose of the exemption is that everyone has a basic financial requirement to maintain survival. How does someone making $250,000 not have that same requirement? She can certainly better afford it, but the other $241,000 will be taxed, which is how she’ll pay her “greater responsibility.” Waiving that $9,000 exemption becomes a progressive tax that acts as a disincentive. That won’t stop someone from working, but it sets a mindset within government policy that an illogical, unfair policy is okay as long as it works to “help the poor”. It may start with an “unneeded” exemption, but the mentality quickly breeds into ridiculous top tax rates.
Again, I’m not saying we should screw the poor or cater to the rich. We should create tax policies, and rethink government expenditures, with limited government as the goal. Government should address the problems it’s most suited to solving and leave the rest to state, local, and private endeavors.
April 17th, 2006 at 1:46 am
[...] Hmm, sounds like the a new flat tax proposal may gain some open ears come election time 2008. First we’d get rid of the across-the-board $9,000-per-person exemption in the Forbes plan. Why should billionaires like Bill Gates get an exemption? Forbes is giving too much money away to rich people. We’d save that exemption money and give it instead, in the form of a rebate, to the bottom third of earners, those who bring home roughly less than $25,000 for a family of four. [...]
April 17th, 2006 at 9:47 am
Making Social Security private, destroys the value of social security, opening it up to not only the corruption of politicians, but also the corruption of money managers and stock brokers.
I don’t like any flat tax proposal. It’s not redistributive enough…
What I would like to see is a tax system that begins with eliminating things like joint tax returns, etc…every individual files, regardless of marital status.
Then, eliminate depedent exemptions, mortgage exemptions, etc…Replace those with a single $24700 exemption that is adjusted every decade for the decline in monetary value. Then set the tax rate at approx. 27% for incomes up to $225,000, 38% for incomes between $225,000 and $16M, and 41% for incomes over $16M. Those numbers should be adjusted so that the over all effect is that we get a net 21% of personal income in taxes. But they are probably pretty close to where they are likely to need to be. Oh, and eliminate the seperate levy for social security and return SS and Medicare to the general budget.
March 29th, 2007 at 11:46 am
[...] However, some writers for Forbes’ magazine proposed a better flat tax plan a couple years ago and it may be something that Republicans and Democrats alike should take a look at. I would offer Americans an even lower flat tax rate–14% as opposed to 17%–and at the same time do more to help low-income people. Boston University economist Laurence Kotlikoff and I have put together a plan that works in the following way. [...]
February 28th, 2008 at 12:03 am
I understand from reading a little bit about the flat tax proposal that the problem of low-income earning families is addressed. What about low-income individuals, are they going to be helped as well? I think that 17% is too high for anybody making less than $40,000 annually. Because of the global economy and a greater number of low-paying jobs in American we need to give all lower income people a fair chance to manage their money by lowering, not raising their taxes.