I am a proud liberal. I have never been a tax reform advocate. I'm not one of those people who claim "income tax is unconstitutional," or "the dollar has no value because it is not backed by gold or silver." I do believe in fiscal responsibility. I hate that my generation, the "Baby Boomers," through our own greed and selfishness will leave our posterity with a mountain of debt. This article posits a solution to our debt problem. My intention is not claim this solves the problem so much as to stimulate a dialog that encourages others to start thinking about implementing changes to achieve a solution.
For many years, regardless of the party in power, this country's government has spent more than it takes in revenue. There has been no political will to do anything about it because politically, tax increases or spending cuts are a "third rail." If a politician touches them they die. Instead, we just borrowed the money to cover the deficits. As this debt has risen, many economists have warned of the consequences of continuing to increase the national debt. People are finally beginning to understand that this deficit spending is not just bad policy, it damages the country's economy and impacts every taxpayer's own income and wealth. So why does this practice continue? The easy answer is that what we spend, is not directly related to what we collect. The government reports deficits, but a deficit has no immediate or identifiable cost to the taxpayer.
Politically, the unspecific goal of cutting spending is too painful to pursue for Congress. Everyone wants to cut spending, but no one wants it to cost them anything. Cut someone else's benefits but not mine. Cut spending and some special interest always loses. Politically, spending increases are easy to pass. Everyone wants another program to help someone out. We are in an insurmountable political quandary unless we as citizens resolve to make some changes. Reforming health care is a piece of cake compared to what it will take to pay down our debt. Perhaps we are approaching a point in time that it is politically feasible to implement changes to taxation and spending and work toward fiscal responsibility.
The current tax system does not serve the country well. It is difficult to manage. Many would say it is unfair. There seems to be too many loopholes. The worst feature of it is that it is an illogical collection of laws and policies, not constructed according to any plan, but cobbled together over decades of tinkering.
The budgeting process does not serve the country well either. The biggest flaw is that it has few control features in relation to anticipated revenue collections. Shouldn't't what we spend be guided by what we collect? If we want to pay down our debt it will have to be.
I propose that in order to control spending, the legislature modify the tax code so that taxpayers directly share the cost of funding the government. Increased spending means increased taxes. Decreased spending means lower taxes. This concept does not require a massive change in the tax code all at once. We can apply the principle to a small segment of our spending, and gradually over time increase the percentage under direct cost sharing until we fully fund the government using a direct cost sharing method.
In my proposed plan, the Internal Revenue Service estimates how much individual income the country will have for the year based on the previous year and anticipated growth or declines. We treat all types of income as part of a common pool of income. There are no deductions, no credits for investments, and no tax loopholes.
Each year the government creates a budget. The total budgeted spending for that year must not exceed the total income as estimated by the IRS.
The IRS establishes income brackets at $10,000 increments. Within each income bracket the IRS estimates the total income of all individuals in that bracket. The tax paid by an individual in any income bracket is the percentage of total income that income bracket contributes to the total income of the country divided by the number of people in that income bracket.
Suppose we want to share the cost of the interest the country pays on its debt. We currently budget approximately 8.2% of revenue for interest on the national debt annually. If the country must borrow to cover a revenue deficit then the debt increases. The following year, we add the increased interest the country pays on the added debt to the new budget. Under direct cost sharing, that additional spending results in higher taxes for individual income. Conversely if we have a surplus of revenue and pay down the debt, the following year that part of the budget is smaller and we pay lower taxes.
For example, say the IRS estimates total income of the entire country at a hypothetical $100 billion. The IRS estimates the total income of all taxpayers in the $50,000-$60,000 income bracket at a hypothetical $1 billion. That income bracket has earned 1% of the country's total income. Interest on our debt is 8.2% of the budget. We all share that cost which is $8.2 billion. The $50,000-$60,000 income bracket must pay 1% of that $8.2 billion or $82 million. The amount of tax liability estimated for the tax bracket is divided by the number of individuals in the tax bracket to calculate the estimated tax liability of each individual in that tax bracket. If the tax liability for the entire bracket is $82 million and there are 10 million taxpayers in that tax bracket then each would owe $8.20 in addition to the other taxes they owe. (Please note that these numbers are in no way related to reality but used to simplify the math.)
Individuals pay these estimated taxes quarterly or through payroll deductions just as we currently do it.
At the end of the year, the IRS tallies the revenue collected and the money spent. The IRS would then re-calculate the actual tax owed. If there is a deficit, each income bracket would owe the IRS a proportional additional sum to make up the shortfall. If there is a surplus, a proportional sum would be refunded to the taxpayer.
The IRS can adjust the standard income tax tables downward to offset the portion of revenue for which cost sharing is applied. That cost sharing tax rate would then become directly tied to the amount of interest we pay on our debt.
The government has other sources of revenue. We tax business income and many other areas of commerce. The goal of cost sharing is gradually, over time, to shift collection of this revenue to income tax alone so that individual income tax completely funds the government.
At the beginning, companies with employees and the self-employed would get tax credits for redirecting tax payments to payroll. The IRS could create a form to report a company's adjustments. If the first cost-sharing target is 8.2% of the budget, then a company would be required to redirect 8.2% of its former tax liability to payroll. The increased individual income would be paid to the IRS as individual income tax. Revenue would remain stable but the source of the revenue would change. Eventually, as the businesses reach the point where they pay no federal tax, the tax credits would be unnecessary.
Revenue from producing natural resources from government owned property should be revisited as well. Currently the government allows companies to lease federal land and sell the resources from the property paying a royalty to the government. This may not be a wise way to use these resources since they belong to every citizen. The government should accept bids from companies to produce the resource, but retain ownership, only paying the companies at the contracted price to produce the resource. These revenues go into the general spending fund and are counted as part of the country's total income thereby reducing the tax burden on all taxpayers.
This tax regime only applies at the federal level. States are free to tax in whatever way they choose although this system should work for them.
Eventually, the budget will come into balance over time as the percentage funded by direct cost sharing increases. As long as we don't keep borrowing, the Treasury bonds will mature and we will pay down the debt.
This method of taxation creates significant incentives to lower spending and shrink the size of the government. The less we spend the less we are taxed. It makes spending programs much more difficult to pass and encourages cuts to spending since spending directly impacts everyone's tax burden.
I believe this method of taxation would create other benefits. It will greatly reduce the administrative cost of running the government, as we would not be taxing multiple commercial enterprises. It would level the playing field for all income levels since there would be no more tax shelters. It lowers cost to businesses since it would simplify their bookkeeping considerably.
By implementing the regime gradually, the legislature can determine how it effects the economy and make adjustments to tax brackets for fairly calculating tax liabilities.
To get a handle on spending, we must tie it to revenue. Until every taxpayer can see a direct impact on their tax burden by a spending increase, they will never have the needed incentive to resist or eliminate that spending.
The country seems ready to stop deficit spending. This is one suggestion for how to go about it.
Charts courtesy of: http://www.whitehouse.gov/omb/assets/omb/financial/reports/citizens_guide.pdf