Is The Flat-Tax Really Flat?

Again, I found myself ignorant. All this talk about Herman Cain’s 9-9-9 Economic Plan, and his 9-0-9 Economic Plan forced me to face my bias against the Flat Tax.

Nothing is ever as simple as people who are biased for that something claim. People claim the simplicity of a Flat Tax makes the Flat Tax fair for all, since “a flat tax applies the same for everyone.” Yeah, right. I was born in the morning, but not yesterday morning. But, that is my bias. I thought I understood the Flat Tax, yet my understanding of Human Nature undermines my faith in the fair application of a Flat Tax.

I realized I needed to set aside my negative bias against the Flat Tax and explore the chants emanating from the Flat Tax Bandwagon.

I consulted both the Heritage Foundation (a Conservative think tank) and the Cato Institute (Libertarian think tank) for a little advice about differing tax systems. Surprisingly I found both organizations favor some form of Flat Tax. Maybe my negative bias against a Flat Tax is misguided?

After reading some essays by both organizations, and conducting a little research about the origins of the Flat Tax movement, I came to the conclusion that a Flat Tax might not be so bad, and may, in fact, help provide the fiscal responsibility needed in the United States.

My faith in all of this is still undermined by the inherent manipulative nature of politics, though.

I did reach some interesting conclusions that I thought I would share.

First, the term “Flat Tax” is a misnomer. The idea of a single tax rate that applies equally to everyone is wrong. Listen to Herman Cain or others when they speak about a Flat Tax. Listen for the exemptions. A common income exemption is Poverty Level. Proponents of a Flat Tax typically state people earning at or below the Department of Health and Human Service (HHS) Poverty Threshold will be exempt from paying the Flat Tax. In 2010, a person making $10,890 or less would pay no Federal Income Tax.

People supporting a Flat Tax will continue to amend Federal Income Tax details. A family of four, earning $22,350 or less, will pay no Federal Income Tax. As the family size increases, the Poverty Threshold increases, exempting more people and income.

Thus, right off the bat, the Flat Tax is not applied equally to everyone. The Flat Tax is being applied to only those wage earners making more than the HHS Poverty Threshold.

Additionally, the Flat Tax plans generally allow for Earned Income Credit (EIC) and Child/Dependent credit. Credits could potentially allow some families not only to pay no tax but also receive money.

When Herman Cain states that a Flat Tax is “revenue neutral,” he is making a disingenuous argument. A Flat Tax rate of 17% would result in far less tax revenue. Less tax, less revenue; its not that hard to figure out. With less revenue, the Federal Government will have to make some major structural changes in employment and budgeting.

A Flat Tax could still be manipulated by either political party. Simply because the Cow Party supports 15% for this year doesn’t mean the Kangaroo Party can’t come along and raise the Fair Tax to 19% later. This is where the idea of having Super-Majority comes into play, to ensure that changing the tax code is really, really hard.

A Flat Tax does nothing to address problems with Social Security or Medicare. Hand-in-hand with that, these payroll taxes would remain the same. Payroll taxes would not be eliminated or reduced.

Both the Cato Institute and the Heritage Foundation trumpet global acceptance of Flat Tax systems. However, I could find no significant country (sorry, Estonia) that has implemented a Flat Tax. These institutions offer such countries as Estonia, Ukraine, and Hong Kong as examples of Flat Tax success stories. My problem with these examples is that these countries do not really represent the economic sophistication of the United States (with the possible exception of Hong Kong). I’m not saying a Flat Tax is a bad idea; I merely find using Belarus as an example of a country with a Flat Tax underwhelming. I might be more inclined to support a Flat Tax if, say, Argentina, France, or Spain have a Federal Flat Tax.

My last comment to offer on the Flat Tax might be self-evident. State Income Taxes are not affected by a Federal Flat Tax. However, I suspect some downstream effects might be felt. The Federal Government redistributes some tax money in the form of “block grants” to states, provides money for Education, and money for transportation projects. With lower Federal revenue coming in, the flow of money back to states would be reduced. Thus, while Federal taxes might decrease, a resulting increase in State Income taxes might result to make up for the difference. I can see people completely gung-ho about a Flat Tax now, only to have them begin whining later as states fight to raise taxes to make up for the loss of Federal funding.

People also need to be thinking about the effects of a National Sales Tax. Pretty much every think tank, economist, or financial wonk are unified in one aspect of a National Sales Tax: either institute a Flat Tax, or a National Sales Tax, but not both. The thinking goes like this: tax people fairly on the first source of income, and leave it at that; don’t punish people for spending. A National Sales Tax is a regressive, punitive tax, that in most cases does not improve economic growth, only hinders, and penalizes people for spending. Some opponents of a National Sales Tax call it a “tax on living.”

In conclusion, I have to admit my bias against a Flat Tax has relaxed. However, as I noted above, a Flat Tax is neither flat nor fair. I’ve been struggling to develop a new name, since a Flat Tax doesn’t apply to the same to everyone or every family. The wealthy keep a much larger real dollar amount of their income. The less wealthy have a better chance of not only accumulating wealth but also passing along wealth to heirs. Proponents tend to call it by the “Infinite Bracket” tax, but that isn’t entirely accurate, either. One thing I found is a Flat Tax does create a simplified tax code, simple enough for most any person with a 5th-Grade education to figure out.

I could see a Flat Tax working in a country with rational politicians and well-informed population. I don’t know where that place is, though.

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