What Next? The State of Fundamental Tax Reform

The following is a generalized summary of the speeches presented at the CSE Policy Watch on Fundamental Tax Reform held in the Rayburn House Office Building on Tuesday, June 10, 2003. These notes were taken by Brandon Schwartz, Citizens for a Sound Economy, intern:

Dr. Daniel Mitchell: McKenna Senior Fellow in Political Economy at the Heritage Foundation.

Economic activity should only being taxed once, at one low rate; government shouldn’t tax twice economic activity. The tax code should not place a burden on the economy. Higher and more taxes discourage economic activity by creating disincentives on work and investment.

In the upper income tax brackets, the federal government through the income tax now takes about one third of earned income, an improvement over the past few decades.

There is a bias against savings in the current tax code. When one decides to spend their income, consumption expenditures are taxed only once. However, when one decides to save or invest their after-income-tax money the same money is taxed more than once – capital gains tax, dividend tax, death tax. The same income gets taxed over and over again. Also, corporate bonds, bank accounts, CD’s, mutual funds and other saving and investment vehicles are also unfairly taxed discouraging economic activity. A few solutions would be a universal IRA savings account, making the tax cut permanent and permanently low, and a flat tax.

Regarding tax reform internationally, countries like Russia, China, and Ukraine are employing a flat tax and consequently seeing improved revenues despite having lowered tax rates. Taxes affect people’s behavior; when decreasing taxes and bringing incentives to people to invest more the resulting higher investment yields a higher tax base. In Eastern Europe and around the word flat taxes are working well, as empirical evidence is beginning to show. In the U.S., the newly lowered dividend tax has already yielded a large rise in stockholder wealth within a few days of enactment.

Dr. John Berthoud: President of National Taxpayers Union.

Tax policy and our existing tax code can be looked at in terms of its quality and quantity attributes. The quantity aspect deals with the empirical effects of higher or lower taxes. And evaluating tax in terms of quality, policy, e.g., can be described in terms whether the policy makes the tax code simpler, more complex, or more or less pro-growth. If the US wants to remain competitive tax code for the twenty-first century needs to undergo fundamental tax reform.

The tax code can be broken down categorically as containing four elements: “pain, suffering, confusion, and deception.” A tax that yields one dollar but has seven dollars in compliance costs is an example of the “pain” feature of our tax code. “Suffering,” describes the complexity in filling out tax forms; e.g., the instruction book explaining 1040A is roughly 85 pages. When 2.5 million Americans overpay on their taxes by billions of dollars there is “confusion” in our tax code. And our tax system is “deceptive” because of all the hidden taxes. For example, over forty percent of the cost of a beer is taxes. The only way to dislodge our bad tax system is to engage American society and the grassroots.

Dr. Wayne Brough: Chief Economist and Director of Research at Citizens for a Sound Economy.

We need fundamental tax reform, in which economic growth will react favorably; consumers will be better off, and make American businesses more globally competitive. The recently completed tax bill is one step along the way to fundamental tax reform. The Jobs and Growth package took out some of the punitive results of our tax code, reduced the marginal tax rates, and reduced the dividend tax, among other things.

We shouldn’t worry about sound tax policy causing deficits, as we are not dealing with huge sums of money from a historic perspective and good tax policy will boost economic growth and government revenues. However, we need be concerned with the erroneous payments – $ 23 billion plus – made by federal government and emphasize reducing waste and reducing overall government spending. The current amended and approved Bush package is not a complete growth package: it should be permanent, tax rates can still be lowered further, punitive consequences removed, and the double taxation of dividends put to an end. Future policy and reform need make permanent tax cuts, eliminate the death tax, reduce further marginal tax rates, rid the double taxation on dividends, and relieve the punitive results of our tax code.

There is a dichotomy between taxes and spending; and the reduction in taxes is adding little to the deficit compared to the excessive spending, which is three times the size of the tax cut. We need to address out of control spending. The solution is smaller government, as it comes down to who is going to spend your money – you or government – and the consumer knows best.