by T. R. Reid
For the U.S. personal income tax, fixing the whole damn thing means that the whole boatload of exemptions, exclusions, and tax-free income clauses should be jettisoned. If the employer pays part of a worker’s health insurance premium, that’s a fine thing, but the payment should be taxable income to the worker. If a taxpayer decides to buy a $105,000 electric-powered sports car, that’s great, but we shouldn’t give her a $7,500 tax credit to honor this indulgence. This is the “broad base” element of BBLR—broad base, low rates—which is the essential formula for successful tax reform.
Would American taxpayers go along if Congress eliminated all their deductions and credits? That’s where the “low rate” side of the BBLR equation sinks in. To win support for eliminating the giveaways, Congress cuts everybody’s tax rates. As we saw in this book, the Treasury Department says every individual and corporate tax bill could be cut by 37% if all the exemptions and such in the tax code were eliminated. Beyond that, getting rid of all the exemptions and such would make filing taxes vastly easier. So the average American would get a much lower tax rate and wouldn’t have to pay H&R Block to fill out all the forms.
Moving to BBLR is an area where purity is essential; we need to get rid of all the “tax expenditures” in the code—not just some of them—no matter how widely used they are. Then the tax writers in Congress can say to any lobbyist pushing for a particular loophole, “We don’t do that anymore. If you want to keep that deduction, we’ll have to raise the rates for everybody.” To emphasize this point, we should eliminate the two most popular deductions in the personal income tax: (1) the deduction for mortgage interest, which reduces revenues some $100 billion each year and provides the most benefit to taxpayers who need it least, and (2) the deduction for contributions to charity, which costs the government $50 billion per year and is even less defensible. It gives the biggest breaks to the richest taxpayers and assumes, incorrectly, that Americans won’t give money to good causes unless they get a tax break for it.
The same principle—BBLR—must apply to a revamp of the corporate income tax. As we’ve seen in this book, this tax just doesn’t work. American corporations that abide by the law end up paying a higher rate of tax than their competitors in other rich countries. Eliminating the hundreds of special provisions in the corporate tax code that benefit particular industries—or, sometimes, single companies—would broaden the base. The Government Accountability Office reported that the lost revenue from the eighty biggest corporate tax preferences in 2011 was $181 billion. Eliminate those, and the United States could bring in more corporate tax revenue with significantly lower rates. If the tax rate were lower, corporations would not find it worthwhile to indulge in convoluted schemes of avoidance; it would be cheaper and simpler just to pay the tax than to pay PricewaterhouseCoopers for a plan to duck it. If the preferences were eliminated from the corporate income tax so the tax rate could be reduced from the current 35% to 25% or less, this tax would almost surely produce more revenue with much less economic disruption.
“Warren Buffett paid a lower tax rate than his secretary.” This bumper-sticker slogan (which Buffett has confirmed to be true) captures a major problem with the current U.S. tax code. The picture of a billionaire paying a lower rate of tax than a middle-class working family runs counter to basic notions of fairness. The system of progressive taxation, of asking the richest to chip in the most to the common treasury, is even more important in these first decades of the twenty-first century because of the looming problem of inequality—“the defining challenge of our time,” as Barack Obama put it. Since the end of the Great Recession of 2008–9, virtually all of the increase in wealth in the United States has accrued to the wealthy. The rich are getting richer, and most others are not. A family at the median income takes in little more income today than it did ten years ago. This is gnawing away at the general population’s sense of optimism. The traditionally American notion that tomorrow will be better, that our kids will be better off than we’ve been, has become something of a sardonic joke for a considerable segment of the population. Naturally, politicians of every stripe have figured this out. When political leaders—ranging from Elizabeth Warren and Bernie Sanders on the left to Donald Trump on the right—declare that the American economic system is rigged against the average worker, millions of average workers roar their agreement. A progressive tax code can be a crucial tool for fighting the national problem of inequality.
Some American politicians—including several Republican presidential candidates in 2016—have called for a flat-rate income tax, in which the billionaire and the guy who pumps gas into her limousine both pay income tax at the same rate. But the flat tax just doesn’t bring in enough money, and a flat rate of tax fuels greater inequality. It means big savings for the rich, and higher rates for average people to make up for the shortfall. So the U.S. income tax should continue to keep a progressive set of rates. Indeed, the experience of other countries would suggest that we should make the highest marginal tax rate kick in at a lower income level than it does now. Other rich nations apply the highest rate of tax to about half of all taxpayers; in the United States, the top rate of 39.6% applies only to income above $418,400—which is to say, less than 1% of tax returns.
A tax code designed to offset (somewhat) the overall inequality of wealth and income should not give special tax breaks to the wealthiest. The “carried interest” provision—the clause that lets Warren Buffett get away with a bargain-basement tax rate—is indefensible. That’s why no other country permits this loophole for financiers and why both Donald Trump and Hillary Clinton promised to end it. It would also make a lot of sense to tax income earned from financial transactions (capital gains, dividends, and so on) at the same rates as income from wages and salaries. When Ronald Reagan included that change in the famous tax reform of 1986—capital gains were taxed at 28%, the same tax burden as the highest marginal rate on earned income—it had almost no impact on stock markets; the argument that rich investors need a lower rate of tax to put their money into the markets has not been borne out in history. Finally, there’s the estate and gift tax—adroitly nicknamed the “death tax” by its opponents, although the burden of it actually falls on the living people lucky enough to receive a multimillion-dollar inheritance. This has been an important tool for making the richest Americans help pay for the things we choose to do collectively through government. It’s a tax that doesn’t penalize work; if you worked for the money you received, by definition you don’t owe any estate tax. The estate tax should be retained, and probably increased, as a further weapon against inequality.
Two other major innovations, the VAT and the FAT, would give the federal government even more room to reduce both personal and corporate income tax rates. The value-added tax has been the most successful taxation innovation of the past sixty years. It has been adopted in every major nation on earth and in most small nations as well. The absence of a VAT is the most glaring hole in America’s tax code; we should use the occasion of a top-to-bottom tax reform to implement this tax and use the money it raises to cut taxes on work and savings. Countries like Australia, Canada, and the U.K. can show us how to harmonize a national consumption tax with state and local sales taxes.
The United States should follow the lead of the European Union and many other countries by enacting one particular form of a consumption tax, the financial activities tax. As we saw in chapter 9, the tax rate for this kind of levy can be tiny—$1 on a million-dollar trade. Because of Wall Street’s current obsession with high-speed trading—buying securities, selling securities, swapping securities, all in a few millionths of a second—this tax can add up to significant revenue while adding an infinitesimal cost to each transaction.
Taking the BBLR approach as the guiding principle of tax reform will go far to simplify the tax laws. If the tax code treated all income as income, and got rid of all the loopholes, the whole process of paying tax would be vastly simpler. And tax rates
could be drastically cut. In addition, getting rid of all those preferences for specific taxpayers would mean we could eliminate the alternative minimum tax, a much-despised provision that forces several million taxpayers each year (both individual and corporate) to complete their tax returns twice, using different rules and rates each time.
Beyond that, the Internal Revenue Service should take over most of the work it now sticks on the taxpayer. Because of the reporting requirements it imposes on employers, banks, investment managers, local governments, and the like, the IRS already knows virtually every number on almost every tax return. The service could fill out your tax return for you and send it to you by e-mail so you could check it for accuracy. Assuming the IRS gets the figures right—and audits show that it does, 99.9% of the time—filing your taxes could be reduced to a single click.
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IF WE HAD THE GOOD SENSE, and the political courage, to undertake this top-to-bottom housecleaning of our tax code, the benefits would extend far beyond relieving American families of the annual April ordeal surrounding Form 1040. A new tax system built along the lines of successful tax codes in other rich democracies could enhance every corner of the national economy. It would give people the freedom to make big choices—Should I take that job? Could we buy that house? Should we choose that school for the kids? Can I start that business I’ve been dreaming of? Where should we invest our money? How much should we contribute?—without worrying about the tax complications. It would enhance the global competitiveness of American corporations and allow them to keep their money at home, to be used for investment or higher wages or bigger dividends to investors. Both individuals and corporations could invest their money in plans and projects and funds based purely on business considerations, rather than studying obscure implications of the capital gains tax. Even with significantly lower rates, the IRS could bring in just as much or more revenue as the current system, producing billions of dollars for new government programs, deficit reduction, or both. A revamped code would mean a federal tax system that works against inequality in a land where everyone is created equal. The enormous sums that Americans hand over today to consulting firms and tax lawyers for the design of “convoluted and pernicious” tax-avoidance schemes could be turned instead to productive uses that enhance the nation’s wealth and well-being. The billions of dollars and billions of hours that ordinary taxpayers must spend today just to calculate their tax bill would be available for more enjoyable and beneficial family pursuits. And April 15 could be just another sunny spring day.
The task ahead of us, therefore, is clear: the United States needs a completely new Internal Revenue Code, built around the principles that have made the tax codes in other advanced nations fairer, simpler, and more efficient than the one we’re stuck with today. For tax codes, there comes a point where the sheer accumulation of complicated and contradictory stuff requires that the “whole damn thing” be replaced.
In the past, we’ve scrapped our tax code, and started over, every thirty-two years. The last time that happened was 1986, when Congress produced a much-praised act of tax reform. Which means the time has come again to scratch that thirty-two-year itch. To fix our costly, complex, inequitable monster of a tax system, the United States needs a new beginning: the Internal Revenue Code of 2018.
THANKS
It would be taxing beyond measure to list all the institutions and experts around the world who helped me in reporting and writing A Fine Mess. A battalion of economists, academics, reporters, diplomats, tax accountants, tax collectors, and salt-of-the-earth taxpayers generously shared their experience and wisdom to steer an ink-stained reporter through the intricacies of taxes, tariffs, exemptions, exclusions, VAT, FAT, FTT, and so on. I wish I could give all of them a tax credit for their kindness; at least I can give them credit here for their contributions to this book.
Several international organizations and think tanks study the good, the bad, and the ugly of tax systems around the world; a number of them gave me the benefit of their expertise and their multinational surveys. I’m particularly grateful to the Organization for Economic Cooperation and Development (OECD), the World Bank, the International Monetary Fund (IMF), the Brookings Institution, the Urban Institute, the American Enterprise Institute (AEI), the Tax Foundation, the Canadian Tax Foundation (in Toronto), the Tax Justice Network (in London), the Grattan Institute (in Melbourne), and the Institute for Fiscal Studies (IFS; in London). The scholars who found time to help me included Aparna Mathur at AEI, Will McBride at the Tax Foundation, Henry Aaron at Brookings, John Daley at Grattan, Larry Chapman at the Canadian Tax Foundation, and Paul Johnson at IFS.
Professor Jay Rosengard’s course on comparative tax policy and administration at the John F. Kennedy School of Government at Harvard was a brilliant introduction to the policy issues pondered in this book. Several of the professors in that course became my gurus throughout the research and writing. I’m particularly grateful to Professors Brian Arnold, Richard Bird, and Eric Zolt. Other economists who offered insightful advice along the way included Alan Krueger, Peter Orzag, and Uwe Reinhardt (who was a gold mine of knowledge on a previous book of mine as well).
Executives at the revenue bureaus of many countries were kind enough to explain the art and science of tax collection in a broad variety of political settings. I owe special thanks to Michiel Sweers, the policy chief at the federal tax agency in the Netherlands, and Achilles Sunday Amawhe (the man who gave me the FIRS baseball cap) of the Federal Inland Revenue Service in Nigeria. In addition, John Paul Liddle of Scotland, Nuno Reis of Timor-Leste, José Zorrilla Rostro of Mexico, and David Trony of Angola helped me to understand the fine balancing act of collecting taxes without sparking a revolt among taxpayers. In the United States, the commissioner of internal revenue, John Koskinen (a colleague of mine eons ago when we were both, briefly, lawyers), and the IRS’s indomitable national taxpayer advocate, Nina Olson, gave me advice, information, and encouragement while this book was in the works.
In almost every country I visited, smart foreign service officers at U.S. embassies provided precious insights into local politics and policy; I was repeatedly impressed by the breadth of knowledge shown by the (generally young) political and commercial officers at our embassies. I would particularly like to thank Steve Butler, Colin Crosby, Mal Murray, Robert King, and Brett Baeker for their help. Because of our country’s deplorable tradition of rewarding fat-cat political contributors by making them ambassadors, U.S. ambassadors around the world are often far less qualified than the career foreign service officers who work under them. In reporting this book, though, I received thoughtful help from some American ambassadors who knew what they were doing—notably Philip Lader in London, Walter F. Mondale in Tokyo, and Norman Eisen in Prague. I was particularly impressed with Theodore (Tod) Sedgwick, our country’s much-esteemed ambassador to Slovakia, who seemed to know every person and every policy issue in that nation’s government. With some trepidation, I asked Ambassador Sedgwick if he might possibly help me get an interview with Slovakia’s finance minister, Peter Kažimír. The ambassador replied, “I play tennis with Peter every week, so I think that can be arranged.”
Political reporters, with their inbred blend of cynicism and idealism, are also insightful observers of government policies and policymakers; many of my fellow reporters helped me in my study of tax systems around the globe. I would particularly like to thank Tom Allard, Fleur Anderson, Adi Bloom, Phil Coorey, Malcolm Farr, Anna Fifield, Jon Freedland, and Tony Wright. A great reporter and a great friend of mine, Togo Shigehiko, showed me precisely how Japan manages to collect trillions in taxes in a system where 85% of the workers never file a tax return. I relied on the reporting of my former colleagues Alan Murray and Jeffrey Birnbaum in Showdown at Gucci Gulch, the definitive chronicle of America’s 1986 tax reform, and on the work of my former competitor Steve Weisman in The Great Tax Wars, his fascinating history of the U.S. income tax.
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bsp; And in each country where I did the reporting for this book, I was lucky to find economists, accountants, and officials who were willing to answer a nondepreciating list of questions from an inquiring American. It would double the length of this book to list them all. In addition to those named above, though, I am particularly grateful to Steven Rogers and Professors Graeme Cooper, Michael Walpole, and Bill Butcher in Australia; John Christiansen and Professor Judith Freeman in Britain; Larry Chapman and Professor Glenn Jenkins in Canada; Rahim Bohacek and Petr Guth in Czechia; Juri Kalda, Mart Larr, and Professor Viktor Forsberg in Estonia; Antoine Reillac, Guy Carrez, and Professor Martin Collett in France; Ridha Hamzaoui in the Netherlands; Maurice McTigue, Sir Graham Scott, and Professors Bob Buckle and Norman Gemmell in New Zealand; and Peter Kažimír, Ivan Mikloš, Ludovic Ódor, Ján Oravec, and Vladimir Vano in Slovakia.
It must be said that these people don’t always agree with one another on particular aspects of tax policy, and they don’t always agree with me. So any mistakes in this book are my fault, not theirs.
Even in our intensely digital age, libraries serve as immensely useful vaults of information and analysis. I’m grateful to many libraries, public and academic, that allowed me access to their materials on taxation around the world. Those I used the most were the Kennedy School and Widener libraries at Harvard, the Firestone and Stokes libraries at Princeton, the Dewey Library at MIT, the Anderson Academic Commons at the University of Denver, the Auraria Library at the University of Colorado, the law library at the University of New South Wales, the wonderful Westminster Research Library on St. Martin’s Street in London, and the Denver Public Library. I’m deeply grateful to researchers at several of these institutions who found all the obscure books and studies I requested. At one point I needed a particular volume on tax reform in New Zealand; in the entire United States there was a single copy—and the research desk at the University of Denver library managed to borrow it for me.
