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 ongress
has worked out the details of the $1.35 trillion tax-cut plan, but
a congressional committee has reminded us
that
we need more than this to fix the tax system. The non-partisan Joint
Committee on Taxation recently released a 1,300-page study that
proposes dozens of tax-simplification steps. While a good starting
point for needed reforms, the report underscores why Congress should
move to scrap the current income tax and install a simpler system.
Consider the dimensions of the current federal tax mess, as documented
by the committee: The federal tax code contains 1.4 million words.
By my estimate, the Bible contains just 0.8 million words.
The tax code itself is only part of the mess. The federal tax system
requires more than 20,000 pages and 8 million words of regulations
from the Treasury to explain how the tax laws passed by Congress
are supposed to be applied.
The IRS produces 649 separate tax forms and schedules with a combined
length of more than 16,000 lines and publishes 340 other publications
with more than 13,000 pages. Federal tax rules are so confusing
that taxpayers contact the IRS with questions about 117 million
times each year. The Treasury's inspector general recently found
that one-third of taxpayer phone calls do not get through, and of
those that do the IRS gives incorrect answers 47 percent of the
time.
While it is easy to blame the IRS, the real source of these problems
is the complex tax laws passed by Congress. Congress imposes its
largest tax on "income," which is notoriously difficult to measure
and getting more difficult all the time. For example, U.S. corporations
now have ownership stakes in more than 20,000 foreign affiliates.
It's increasingly difficult to accurately calculate the portion
of global net income that is subject to U.S. taxes.
On an individual level, broadened ownership of financial securities
is subjecting more Americans to the headaches of capital income
taxation, particularly capital-gains taxes. A tax system that instead
had a domestic consumption base would reduce these difficulties.
Congress is also to blame for mucking up the tax code with a proliferation
of "phase-outs," "ceilings," and other limitations on who gets to
receive special tax breaks. There has been a parallel increase in
the use of the tax code for "social engineering," which is steering
narrowly focused tax credits and deductions to politically favored
individuals and industries. Again, a flat-rate consumption-based
tax would rid the tax code of most of these complex provisions.
The current tax code's complexity imposes a steep cost. The Joint
Committee's report notes that tax complexity increases time and
financial costs to taxpayers, reduces taxpayer compliance, reduces
perceptions of fairness and increases the costs of government administration.
The total administration and taxpayer compliance costs of the income
tax are about $150 billion per year or more, about $1,500 for every
household in the country. The Joint Committee proposes reforms that
would begin to bring back some sanity to the tax system. One important
proposal is repealing the alternative minimum tax (AMT) on individuals
and businesses. The AMT is essentially a separate income-tax system
parallel to the regular income tax. Supporters promised it would
bring greater fairness to the tax system. Instead, it has created
a huge amount of extra paperwork, new costs, and planning difficulties
for families and businesses.
The Joint Committee also proposes ending most of the "phase-outs"
under the individual income tax. These are provisions that deny
those with middle and higher incomes tax benefits enjoyed by other
taxpayers. Phase-outs complicate tax calculations and increase marginal
tax rates. The report suggests repealing phase-outs on itemized
deductions, personal exemptions, the child credit, individual retirement
accounts, and other provisions to simplify the income tax for about
30 million families.
Hopefully, Congress and the administration will receive a number
of messages from this report. First, they should do no further harm
with this year's tax legislation. Tax changes should be favored
that increase economic growth and reduce complexity, such as income-tax-rate
cuts and estate-tax repeal. Second, after passage of this year's
main tax bill, a major effort needs to be mounted to codify the
Joint Committee's proposals to simplify the current system.
With lower rates and a simplified system, it will be easier to then
move towards replacing the income tax with a pro-growth consumption-based
system.
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