Taxes

The Tax Reform Mirage

Washington insiders think the stars are aligned to dramatically simplify the tax code and broaden the tax base.

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Tax reform is the new rage. It's not just the favorite idea on the campaign trail and think tank circuit these days. It's the glorious inevitability that will end the nation's fiscal crisis.

Everyone is for it, and everybody agrees on what it involves. The Simpson-Bowles deficit commission said, "The tax code is rife with inefficiencies, loopholes, incentives, tax earmarks and baffling complexity. We need to lower tax rates, broaden the base, simplify the tax code and bring down the deficit."

That panel was created by President Barack Obama, who claims he is "eager to reach an agreement based on the principles of my bipartisan debt commission." Last year, he said, "The best thing we could do on taxes for all Americans is to simplify the individual tax code." Mitt Romney agrees: "I want to bring the rates down; I want to simplify the tax code."

In a statement issued Thursday, more than 80 CEOs lined up behind "comprehensive and pro-growth tax reform, which broadens the base, lowers rates, raises revenues and reduces the deficit."

So it's clear where all this is leading. "Presidential Race Paves the Way for Tax Reform," read the headline in The Wall Street Journal. Washington insiders think the stars are aligned to dramatically simplify the tax code and broaden the tax base.

If so, we can look forward to an economically rational overhaul that will boost federal revenues while accelerating growth and improving the incentives to work and invest. The prospect shimmers like an oasis in the desert.

But like many an oasis, this one is a mirage. The emerging consensus doesn't arise from a grownup recognition of budget reality or a disenchantment with Washington's habit of catering to special interests. It stems from a powerful urge to escape the painful choices required to put our fiscal house in order.

"Tax reform" has become a magic incantation that banishes all the bogeymen the major parties conjure up in budget debates. A simpler tax code with lower rates, we are led to believe, means Grandma won't have to go before the death panel, college students won't lose federal aid, defense contractors won't starve and taxes will stay down.

The idea is appealing mainly because we hear only the positives. Would you like a tax return you can fill out in five minutes? Would you like to keep more of each extra dollar you earn? I hear no dissents.

But there's a bit more to it. Lose the deduction you take for your mortgage interest or your charitable contributions? Pay extra for health insurance because your company can no longer write it off? Not so fast.

The candidates indicate we can close the budget gap by revoking only those loopholes used by other people. Romney has been charmingly silent on what tax breaks he will scrap. Obama favors "eliminating special tax breaks for oil and gas companies; closing loopholes for investment fund managers; and eliminating benefits for corporate jet owners," none of which would offend many voters or raise much revenue.

They propose to expand the base by curbing the amount taxpayers can deduct under existing rules. Obama wants to limit the value of deductions to 28 percent, even for taxpayers in the 35 percent bracket. Romney suggests capping total deductions at $17,000 or $25,000 or something—"I'll pick a number," he said in the first debate.

These proposals are evasions, not solutions. In the first place, putting limits on the use of deductions does far less to broaden the base of taxable income and generate revenue than getting rid of them.

In the second place, this approach does nothing to simplify the tax code. The existing thicket of deductions and incentives would remain in place, slightly pruned around the edges.

For a politician to endorse tax reform is the equivalent of calling for budget cuts: It's a crowd-pleaser as long as the crowd is led to believe it will have to sacrifice nothing. But the big money is in lucrative, popular deductions that can't be eliminated without adversely affecting millions of voters.

That's why major tax reform was such a surprise in 1986. That's also why it soon unraveled, and why it is very unlikely to happen again. Politicians don't like tax reform because it gives them a way to solve our problems. They like it because it gives them a way to pretend to.

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  1. I don’t understand why you would want to broaden the base. What’s good about generating more tax revenue so that the government can spend more money more inefficiently?

    1. Because everyone needs to pay their fair share.

      Or some other empty rhetorical statement.

    2. Broaden the base, but lower the rate. Kinda like how Fair tax would get drug dealers and illegals working for cash to pay the taxes they currently avoid.

    3. Nothing, in and of itself. That said, a broader base probably would do less damage than higher rates to yield the same revenue increase. On the other hand, I’m not particularly convinced that the money wouldn’t just go to more spending.

  2. Unfortunately, America has trapped itself into a cycle that ultimately becomes fiscally unsustainable. We expect a smaller and smaller percentage of our populace to pay for a larger and larger portion of our spending. Every time they raise taxes, the burden is predominantly expected to fall on the affluent, while any time they reduce taxes, the benefit is expected to accrue to the non-affluent. That creates an increasing portion of the population for which “price is no object” when it comes to expanded government.

  3. This reforms taxes AND entitlements, and pays down the debt over time.

    The federal government shall collect no taxes other than provided in this act and make no payment except in return for goods or services rendered to it, or as provided for in this act. There shall be no federal tax any business.

    Each year congress shall set a minimum wage and tax rate which, applied to the previous year’s reported incomes determines the budget of the government.

    The following income shall be exempt from taxation:

    A year’s earnings at the minimum wage rate, for adults (age 20-65), decreasing 10% per year to 50% at age 15, and increasing 10% per year to 150% at age 70.

    Health care including pharmaceuticals prescribed by a recognized professional, vision and hearing aids. Health care insurance premiums may be deducted but not health care expense paid for by such insurance.

    Educational expense including day care, that portion of state and local taxes spent on education, that portion of parochial school expenses going for non-sectarian education, and private education

    Income saved into an account. All withdrawals from the account for the benefit of any member of the household are taxable. Withdrawals that are not for a members’ benefit are exempt from taxation.

    The rate shall be applied to any income over and above the deductions listed above. When deductions exceed income, the government shall make payment to the household equal to the tax rate times the deficiency.

  4. The Neutral Tax directly addresses the issues outlined in this article. The Neutral Tax is a general mechanism for permanent tax reform at the federal level and it lets individual states determine how they want to implement reforms. You can read more about it at: http://www.neutraltax.com.

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