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"The hardest thing in the world to understand," Albert Einstein once observed, "is the income tax." Sadly, the vast majority of taxpayers probably share this view. As most people are painfully aware, the current tax system is a nightmare of complexity. Not only does it cost the American economy billions of dollars a year, but it is also fundamentally unjust. Creating a new tax system with a single, low rate would finally restore some simplicity and decency to America’s tax system.
To administer the tax system, the IRS publishes about 480 different tax forms, in addition to 280 instructional forms that show taxpayers how to fill out the 480 tax forms.
The tax system did not become the behemoth that it is today overnight. In fact, when the 16th Amendment, which authorized Congress to levy taxes on personal income, was ratified in 1913, the tax code was only 14 pages long. Today, the tax code is more than 3,500 pages long.
To administer the tax system, the Internal Revenue Service (IRS) publishes about 480 different tax forms, in addition to 280 instructional forms that show taxpayers how to fill out the 480 tax forms. For the individual taxpayer, the IRS estimates that it will take nine hours and fifty-four minutes to complete, copy and file the standard 1040 form. For those taxpayers that must pay taxes on capital gains, pension income, or Social Security benefits, the time and paperwork required increases dramatically.
The flat tax would simplify the current system in a number of tangible ways. First, taxpayers would receive just one postcard-sized tax form from the IRS. Unlike the current tax forms, which in some cases are hundreds of pages long, the flat tax form would contain just ten lines. Individuals would add up their wage, salary, and pension income; subtract their personal allowances; and pay a flat rate of 17 percent on the rest.
For small business owners, they could either file as an individual or a business. Much like the individual tax, the flat tax for business would consist of one postcard-sized form with ten lines. With the business flat tax, a company would simply total their gross revenue; deduct the costs for wages, capital investment, etc.; and multiply that amount by 17 percent.
The flat tax would also eliminate punitive taxes like the capital gains tax, dividend taxes, and interest taxes. Under existing tax law, interest and dividend income are taxed at both the corporate and the individual level, meaning investors are double-taxed. With the flat tax, however, individuals who earn interest and dividend income would no longer be required to pay taxes directly on this income. This would effectively end the excessive double taxation of investment income.
Moreover, the flat tax would eliminate taxes on Social Security benefits. Since Social Security benefits are taxed when money is paid into the trust fund, the flat tax would exempt from taxation Social Security benefits coming out of the trust fund. Therefore, just as interest and dividend income are taxed only one time with the flat tax, Social Security income would be taxed once and only once.
The mind-numbing complexity of the current system costs the economy in two ways: direct compliance costs (record keeping, preparing tax forms, copying, etc.) and indirect economic losses (lost productivity, reduction in capital formation, etc.). While it is difficult to calculate the precise cost of the tax system, economists estimate that it costs the American people approximately $200 billion a year in lost time and productivity.
The flat tax would not only eliminate this drag on the economy, it would also restore some justice to the tax system. The current system is unjust not only because it takes too much money away from those who earn it in the first place, but because few people can understand the laws with which they are forced to comply.
For instance, most people can comprehend a 35 mile-per-hour speed limit and what is required of them to follow the law. However, the current tax system with five different rates, and countless loopholes and shelters, has become so complex that the majority of the American people cannot possibly ever hope to understand all the rules and regulations. Honest, law abiding citizens can be deemed criminals in the eyes of the law simply because they could not comprehend the tax laws.
In fact, the IRS itself does not always comprehend the tax laws. According to Daniel Pilla, a tax litigation consultant, the IRS telephone taxpayer assistance program annually provides 8.5 million taxpayers the wrong answers to even their most basic tax questions.1 Sadly, the IRS is not alone in its failure to fully understand the tax laws. Last spring, Money magazine asked 45 tax professionals to prepare a return for a fictional family. No two preparers came up with the same total, and not one preparer calculated what Money believed to be the correct federal income tax. Fewer than one in four came within $1,000 of that figure.2
Replacing the unfathomable current system with a single rate system, such as the flat tax, would all but eliminate the seemingly endless amount of paperwork required to administer the tax code. Thus, compliance costs would be lowered for all Americans. More importantly, the flat tax would finally restore justice to the tax code because the flat tax is simple and easy for everyone to understand. Albert Einstein would be relieved.
1Daniel J. Pilla, "Why You Can't Trust the IRS," Policy Analysis No. 222, Cato Institute, April 15, 1995.
2Representative Richard K. Armey (R-TX), "Tax Facts," www.flattax.gov.