Democracy is a difficult kind of government. It requires the
highest qualities of self-discipline, restraint, a willingness
-John R Kennedy
The individual income tax, the principal source of federal revenue
for the last half of the twentieth century and long viewed as
worthy of public support, has become something of a monster: unimaginably
complicated, frequently unfair, and an excessive drag on the economy.
Widespread agreement exists at almost every level of our society
that changes should be made. Indeed, a central issue for our nation
is whether to abandon the federal individual in come tax and replace
it with a consumption tax, such as a so-called flat tax. Missing
from public discourse, however, and desperately needed if we are
have written this book to help Americans understand the issues
and the alternatives. For example, the choice between an income
tax and a flat tax is not over the size of government revenues;
Congress always can modify the income tax to produce the same
amount of revenue that it would want from a flat tax. Nor is the
choice between a simple flat tax, which can allow tax re turns
to fit on a postcard, and our current income tax, which often
requires a tax return of many pages and attachments. The income
tax can be enormously simplified. Flat tax proposals typically
eliminate itemized deductions such as for home-mortgage interest,
state and local income taxes, property taxes, and charitable contributions;
and they disallow deductions by employers for the payment of fringe
benefits such as employees' health insurance premiums. The income
tax could be reformed in these ways and also could be rid of many
other special provisions that hugely complicate the tax laws.
Yes, income tax returns could be greatly simplified and shortened;
many could fit on a postcard. Were Congress inclined this way,
it also could substantially lower progressive tax rates for everyone
without sacrificing tax revenue; alternatively, Congress could
adopt a single, flat rate for the income tax if the public preferred.
Those who wish to replace the income tax with a flat tax argue that Congress never would have the courage to make the income tax relatively simple. They may be right. If so, we would be naive to believe that the same Congress would enact a pure, simple flat tax. To the contrary, Congress would be subjected to enormous political pressures-from the real estate industry, charitable organizations, the health-insurance industry, and countless other organizations as well as millions of individual taxpayers-to create special exceptions. As explained in Chapter 13, hopes for a simple alternative to the income tax quickly could vanish, along with hopes for a low, flat tax rate.
Whereas this book explores at great length different viewpoints about tax policy and the alternatives, it also reflects my point of view. I favor overhauling the income tax, not discarding it, with provisions for a reasonable transition to new rules. I believe that if the public insisted, Congress could reform the income tax, consistent with basic principles of both conservatives and liberals, to make the tax reasonably fair, far simpler, and far more supportive of economic growth. The reforms would allow Congress to lower all tax rates substantially without sacrificing tax revenues. Unlike principal flat tax proposals, however, I would not eliminate all taxes on capital gains, dividends, interest, and other passive income; such blanket exemptions would overly reward the rich and are unnecessary to sustain economic growth. The reforms I propose would make it far more likely that households with equal abilities to pay would pay equally and that households with greater abilities to pay would pay appropriately more.
I also recognize that the public, and Congress, may not be prepared for the overhaul that I believe would work best. Throughout this book, readers will learn about partial measures that would advance goals of a fairer, simpler, and economically sounder system.
My recommendations follow from the observation, shared by so many Americans, that Congress's decisions over many decades to offer vast patchworks of rewards for using our income as Congress deems worthy, and of penalties if we do not, too often have failed to advance tax justice or promote a stronger economy. Indeed, Congress has ignored the root explanation for the public's contempt for our income tax laws: The laws lack any overriding, sensible principles that most taxpayers can recognize and accept. Consequently, income tax laws encourage us to believe that Congress does little more than play a game of political favorites, a game that Americans increasingly distrust.
With good reason. Although we pay what is called an income tax,
one special rule after another, favoring one taxpayer over another,
carves out so many holes in the system that as critics have noted,
the system looks like Swiss cheese. Inevitably, such a system
taxes Americans very inconsistently.
Collectively, these special provisions heavily affect tax rates. When so much income is protected from tax, Congress must impose much higher tax rates on the remaining income in order to raise a given amount of revenue. If Congress greatly simplified the laws-if income tax laws more closely produced a genuine tax on income-far more income would become taxable. Then, Congress could greatly lower tax rates across the board yet collect the same amount of revenue as under the current system. These observations confront us with the central policy question: Is the complexity of the tax laws worth the price? We can answer this question only if we rigorously identify what complexity buys and at what cost.
The answers, as this book discusses, are profoundly disturbing. Although necessary at times to promote fairness or to resolve difficult technical problems, complexity in the income tax laws typically cannot be justified on either ground. Equally disturbing is our government's twofold historic reluctance to identify and publicize who among us benefits most from the special tax laws and to quantify the revenue, economic, and social outcomes. As a result, few people, including politicians, understand the consequences of the tax choices made by Congress. Most astonishing, few tax lawyers or accountants do.
My own ignorance did not dawn on me until the early 1980s. I had been in the private practice of law in Washington, D.C., since 1964, specializing in tax matters. I had worked hard to master the nuts and bolts of my trade, although the laws were growing exponentially and were making all practitioners uneasy about their expertise. Eventually, I discovered how little I understood about the role played by tax laws in our society. Worse, I never had thought about it much.
Apparently neither had my teachers, at least not in preparing their curriculums. In my college courses in U.S. history and political science, taxation was mentioned only anecdotally. In the law school where I received my basic law degree and took many courses in taxation, and in a second law school where I received a master's degree in taxation, we were armed with detailed knowledge of tax laws that would allow us to minimize our clients' tax payments. But I cannot recall a single class in which a professor discussed whether the provisions were good for the economy, which taxpayers benefited from various provisions of the Internal Revenue Code and by how much, whether they were deserving, what behavior was encouraged or discouraged by the tax taws and what behavior they produced, the revenue toss to the government from special tax provisions, or how much tax rates might be reduced for all taxpayers if these provisions were eliminated. We learned the relevance of one set of laws to another within the code but not their relevance to the society governed by the code. Never did we pause to imagine an ideal tax system. Yet the professors were distinguished, the schools highly regarded. With some notable exceptions, teaching taxation remains only marginally changed today.
Other tax lawyers with whom I practiced had similar experiences. We talked a great deal about how to interpret the laws and what our clients could or could not do under them. But although we took to railing against the growing and unnecessary complexity of the laws, we ignored their broader significance. We did not recognize what these laws told us about the kind of nation we were or were becoming. As I now look back, such inattention seems odd because we frequently debated other government policies.
My ignorance turned into a challenge. Over the past 20 years, I have attempted to educate myself about tax policy. Eventually, I began to educate others. After my family and I moved from Washington, DC, to Massachusetts in 1984, 1 realized that college students should have the opportunity that I never had: to study comprehensively the role of taxation in our society and, in particular, to study the role played by the government's preeminent tax, the federal individual income tax.
Students should understand why, if we tax income, so much income is untaxed. What good does Congress achieve by favoring one form of income over another, one form of savings over another, one form of personal expenditure over another? What harm results? Congress has littered the tax laws with behavioral incentives and relief provisions to achieve discrete social or economic objectives it deems worthy; but what do these special laws achieve-for whom and at what cost? What are the consequences for the poor, the middle class, and the rich and for the economy as a whole? Who is overtaxed? Undertaxed? Can progressive rates be justified, or should Congress adopt a single, flat rate applicable to all taxable income? How should we go about making these judgments?
Once familiar with tax concepts and data, students can recognize political rhetoric that dissembles rather than informs. They can begin to judge, as perhaps never before, what is fair and sensible independent of their or their families' income levels. Then they can test their own values against those of the tax system. By the end of such a course, they should be capable of making informed judgments about how our government could do better.
in US history, political science, sociology, American studies,
women's studies, and minority studies rarely mention tax policy
because the teachers are untrained and probably unaware of its
relevance. Undergraduate economics students tend only briefly
to consider tax policy, typically in a course on public finance.
To me, viewing the subject as at best tangential to a college
curriculum ignores that tax policies and their consequences cut
across all of these disciplines, as they cut across all of American
The idea of writing a book about the individual income tax emerged
when 1 could not find a suitable one for
Although conservatives and liberals disagree about many aspects of tax policy, I am confident that Congress could restructure the system on principles of fairness, simplicity, and economic growth that reflect far better the shared principles of conservatives and liberals. Our best bet for achieving these goals is a system that taxes income more consistently and at lower ratesa system, as I will demonstrate, that reflects more accurately the common values of our society regardless of political affiliation. Americans are entitled to demand as much.
Whether Americans will make such demands depends, in the first place, on whether our nation engages in genuine debate about tax issues in a format that informs the public. This book gives Americans the information and tools that will enable them to participate actively in that debate. I have been warned, however, that a book of this kind will interest few who are not al ready versed in tax policy. No matter how clearly presented, the issues, so the warning goes, are too complicated for most people to understand. Responding to similar arguments years ago, the distinguished tax lawyer and writer Louis Eisenstein suspected that the real difficulty "is that they might understand too well."* I am betting that Eisenstein had it right.
John 0 Fox
*A note to readers. To avoid the awkward reference to he/she or him/her when using the third person pronoun, I have alternated between the masculine and the feminine from chapter to chapter. I also assure you that the names of taxpayers, except such obvious names as William Gates or Donald Trump, are fictitious. Any similarity between the names used and any actual taxpayers is purely coincidental.