Proposed Fair Tax System

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Income tax

Three (relatively) recent articles related to the issue of taxes, and taxing the rich, are: The Wall Street Journal, March 26-27, 2011, The Price of Taxing the Rich, May, 9, 2011, CEO Pay in 2010 Jumped 11%, and Newsweek, May 9, 2011, An Empty Offer from the Super Rich.

The question of, “What’s a Fair Income tax?” comes down to Flat Tax versus Progressive (graduated) Tax, and what, if any deductions should be allowed.

I propose the following as an equitable and simplified tax rate and tax system.

Income                                     Tax Rate

$0        to   $10,000                  0%

$10,001 to $20,000                 5%

$20,001 to $30,000                 10%

$30,001 to $40,000                 15%

$40,001 to $200,000               20%

$200,001 +                              33%

Discussion: Anyone making less than $10,000 per year needs every penny for necessities.  Also we don’t want the IRS spending time and money collecting minor amounts of taxes from every kid who mows lawns, baby sits or works part-time at a fast food restaurant.  Therefore, people making less than $10,000 shouldn’t pay any tax.  However it is good for all wage earners above $10,000 to be invested in the government process, therefore a gradual increase to the basic level of 20% seems reasonable.  Income tax would include Social Security.  An informal poll indicated that most people thought that 15% was about right for income tax.  If we add 5% for Social Security, (which has ranged from 4 to 6%) we arrive at 20%.  It makes sense to include SS in the base income tax because it is not limited to a savings-for- retirement plan.  It includes payments to survivors, payments to the disabled, and similar payments.  Because most taxpayers will fall into the $40, 000 to $200,000, in essence we will have a flat rate.  There are three reasons for a higher rate above $200,000.  First, people with larger incomes can afford it, and we need to start paying down the deficit.  Second, there is no point in taxing the low income wage earners; there isn’t much tax that would be collected.  Third, I agree with the theory of progressive taxes, i.e. people earning larger incomes, are receiving more of the benefits of society and therefore owe more back to the society. Additionally, they are probably making a bigger fraction of their money via the fruits of other’s labor (employees, investors).  It seems fair and reasonable to return a bigger fraction.

Deductions would be eliminated.  Individual personal choice should not shift the tax burden to others.  If I want to donate to some cause that I believe in (but others may oppose) that’s my choice, but it shouldn’t shift the tax burden to you. If you want to build a Mcmansion, that’s your choice, but the interest rate on your loan shouldn’t shift the tax burden to me. And the number of children that one family chooses to have shouldn’t shift the tax burden to another family choosing fewer children.

The WSJ, 3/26 article makes the point that many states are overly dependent on high income taxes on the rich, e.g. California receives over 40% of its revenue from the top 1% of earners.  During down turns in business, their income can drop as much as 50% leaving the state with a large shortfall.  I would counter that it’s not that they depend too much on the rich.  Rather, they depend too much on the rich maintaining their highest levels of income.  The California budget needs to have more contingency built-in, a larger rainy day fund.  The WSJ article of May 9 lists the total compensation of the five highest paid CEOs as ranging from $33 to $84 million in 2010.  With income that is several thousand times greater than their average employees, it is not surprising that these CEOs pay a large percent of the state’s taxes.   This brings us to the Newsweek article which looks at the guys that make most of their money on investments. Per the article, “When Warren Buffet talks about paying a lower tax rate that his secretary, that’s because she sees most of her pay through a paycheck, while the bulk of his compensation comes in the form of capitol gains and dividends.  In 2006, for instance, Buffet paid 17.7 percent on $43 million he booked that year, while his secretary lost 30 percent of her $60,000 salary to the government.”  Investment income is still income and should be taxed as income, at the income tax rate.  But Wait! Won’t that disincentivize the rich (and merely wealthy) to invest and reinvest, which is good for the economy?  No, it will not discourage them any more than it does for you and I.  Taxes are only paid on the money we put in our pocket.  Just as when we reinvest the profits in our IRAs, 401Ks, etc. we don’t pay taxes, neither do the rich when they reinvest. It’s only when we sell and take the profits out that we pay taxes.

I also don’t think that paying more taxes would disincentivize CEOS from working as hard at being business leaders.  “Gee, I NEED that extra $10 million in order to do my best work for the company.”  Does LeBron James need $46 million in salary and endorsements to try to win the NBA Championship any more than A-Rod needs $37 and Jeter needs $31 million in order to try to win The Series?  I think all of these people would try just as hard to be the tops in their profession.  The big checks are just a way of keeping score in the Compensation Game.   It’s an ego thing.

This entire discussion is aimed solely at personal income tax and has nothing to do with business taxes, and deductions.  While we are discussing business taxes, the US needs a business-friendly tax structure to compete internationally.  We need a business environment that encourages and promotes opportunity, which brings me to:

Inheritance tax

Businesses that are inherited/transferred as an in-tact business should not be taxed.  I will define inheritable businesses as any business with physical equipment: farms, restaurants, rental property, stores, dry cleaners, factories, etc.  The country as a whole (owners, employees, the tax base) gains when someone is able to create a business. We all gain when the business remains intact, and we all lose when a business must be closed after the owner’s death.  Thus tax laws which maintain the integrity of the business benefit all of us.  Stocks, bonds, or other funds and negotiables would be treated as cash inheritance and not eligible for the business exemption.  Businesses which are sold within five years would also be treated as cash inheritances. I propose setting the inheritance exemption limit at $500,000 on the aggregate, with the amount greater than $500,000 treated as income for the individual(s) receiving the inheritance.  Those receiving the inheritance should be allowed to income average for five years.

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One Response to Proposed Fair Tax System

  1. Jim Stewart says:

    Hi Chris,
    I read your tax ideas with interest. I’d go further and change to a pure consumption tax. See FairTax. One the biggest frustrations with trying to grow a business without outside funding is accumulating a cash reserve. When it gets taxed at about 40%, there’s not much incentive to keep the money in the company. A consumption tax would greatly encourage saving and reduce accounting and paperwork.


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