Is Real Tax Reform Possible or Probable?

The battle between fairness and collecting enough tax to feed the Washington bureaucracy is ongoing and seemingly never ending. The federal income tax is designed to be progressive — tax rates increase in steps as income rises. For decades this helped restrain disparities in income and helped provide revenue to make public services available to all Americans. Today the system has badly eroded — many multi-millionaires and billionaires pay a lower tax rate than average American families. Billionaire Warren Buffet has proposed some principles of fairness in taxation. The Buffett Rule is the basic principle that no household making over $1 million annually should pay a smaller share of their income in taxes than middle-class families pay. Warren Buffett has famously stated that he pays a lower tax rate than his secretary. Some of these issues were recently presented in the Economist magazine in an article entitled “Tax Fairness, Little Income, Little to Tax” as follows:

“ONE argument often deployed against tax hikes for the rich is that the burden of taxation is already unfairly skewed, since roughly half of Americans pay no federal income tax at all. Sometimes, the line is incorrectly adumbrated to a claim that half of Americans pay no taxes, which isn't true; all Americans pay some mix of payroll taxes, state taxes, capital-gains taxes, sales taxes and so forth. The overall burden of taxation is pretty even across income groups: the total effective tax rate ranges from 16% for the bottom quintile to 31% for the top quintile, and in fact it stays at 31% right up through the top 1% of earners. But the point that about half of American tax units pay no federal income tax is correct. Why not? Aaron Carroll and Donald Marron point us to a new report by the Tax Policy Center (a joint project of the Urban Institute and the Brookings Institution), which explains that there are two basic reasons why people don't pay federal income tax: either they're very poor, or they're covered by tax expenditures, mainly the ones that benefit the elderly and children. Mr Marron:

Low incomes (or, if you prefer, the standard deduction and personal exemptions) account for fully half of the people who pay no federal income tax.

The second reason is that for many senior citizens, Social Security benefits are exempt from federal income taxes. That accounts for about 22% of the people who pay no federal income tax.

The third reason is that America uses the tax code to provide benefits to low-income families, particularly those with children. Taken together, the earned income tax credit, the child credit, and the childcare credit account for about 15% of the people who pay no federal income tax.

Okay, "low incomes". But how low exactly? How poor would you be if you were too poor to pay federal income tax, strictly on the basis of your income and the standard deductions? Basically, you'd be making less than $20,000 a year, though you've still got a small chance of qualifying if you make under $40,000 and have some kids.

American society is becoming more unequal. Incomes at the bottom level are stagnant or declining, while incomes at the top are rising. This is why a large number of people at the bottom levels of the income tier don't make enough money to pay any federal income tax. At the same time, we're not collecting enough overall revenue to pay for our government spending. We could try to raise the money we need by repealing tax breaks for poor children and the elderly, if we were sort of mean and determined to hurt people who don't have the political strength to resist, but I think it makes more sense to raise the taxes we need by increasing rates on relatively well-off people whose incomes have risen dramatically over the past couple of decades and can thus afford to pay them.”

The issue of fairness in taxation has huge social, economic and political challenges. How can America bolster its faltering middle class which has traditionally born the majority of the tax burden? How does Washington keep the government running, avoid out-of-control deficits, pay for social programs, and implement taxation that is not oppressive? Then, there is the further challenge of getting consensus from hundreds of diverse and free-thinking politicians in order to actually pass reform legislation. Short of a miracle, reform will be a long, arduous, never ending process.