The simple case of a flat tax system
Benjamin Franklin said that there are two certainties in life: death and taxes. But there are actually three: death, taxes, and tax evasion.
“Only fools pay,” he reminds me of someone who told me on one of my first trips to Italy many years ago. He was expressing the nation’s cultural perspective on Italians’ reluctance to pay income taxes. From his perspective, it made no sense to pay taxes to a government that no one trusted.
You could forgive his cynical point of view. Italy, despite being the EU’s third-largest economy, has been plagued by a long list of dysfunctional governments that have toppled every year – literally. Since World War II, Italians have undergone 66 governments. From my friend’s point of view, why should he pay for the mistakes of governments that were in the distant past?
Italy’s federal debt demands interest payments equivalent to four percent of GDP, which is the second highest in Europe. The country’s underground economy has cost the public treasury at least $ 340 billion in unpaid taxes each year since 2011. If those taxes were actually collected, Italy could potentially pay off its $ 3.1 trillion debt in less than eight years.
As one can imagine, the explanation of this chronic problem is a subject much debated in the Italian media. So much so that the former director of the Revenue Agency, Rosella Orlandi, once felt that the reason Italians do not pay their taxes may be because they are Catholics. Referring to the long tradition of tax amnesties, she said: “We are a country with a strong Catholic environment and we are used to committing a sin and getting absolution. Getting out of the woods by saying three Hail Marys sounds like a good plan, but I’m sure it’s not as effective as a fine or jail time.
In Italy, it is individuals who avoid taxes. In America, on the other hand, it is the middle class who bear the burden, while businesses pay little or no federal tax. The end result is the same in both jurisdictions: the national debt is skyrocketing. Meanwhile, companies everywhere are generating record profits. In fact, corporations contribute only 6.6% of all taxes collected by the US federal government.
Of course, this is not the intention of the current tax legislation. Everyone – individuals and corporations – is expected to pay the required tax rate. It’s just that businesses can afford expensive tax lawyers, accountants, and lobbyists who find elaborate ways to avoid federal tax, including accelerated depreciation, special credits, and option value write-offs. employee stock purchase, which usually goes to senior management. And, most blatantly, the transfer of corporate income to subsidiaries in low-tax countries where they do not necessarily carry out their activities.
In 2018, when Trump’s Tax Cuts and Jobs Act (TCJA) came into effect, 91 of the largest Fortune 500 companies paid no federal taxes. On the list were giants such as Starbucks, Amazon, IBM, and Netflix. Worse yet, 26 companies that posted combined profits of $ 77 billion (US) not only did not pay tax, but also received rebates totaling nearly $ 5 billion, creating a tax rate. effective negative. This is by no means a recent phenomenon. From 2008 to 2015, 100 large U.S. corporations avoided paying any federal taxes in at least a year, when their combined pre-tax income was $ 336 billion.
To mitigate this loss of income, the Organization for Economic Co-operation and Development is leading an initiative in which 136 countries representing 90 percent of global GDP recently agreed to a minimum tax rate of 15 percent that all businesses must pay, wherever they operate or where they are domiciled. We hope this will help capture $ 150 billion in taxes that are not currently paid. It remains to be seen whether this agreement will succeed in his intention. The elephant in the room is the United States, which needs congressional approval to implement this deal at a time when the Biden administration attempts to introduce major tax reform. In today’s dysfunctional political environment, deals of this magnitude can be hard to come by.
But even if an agreement comes to fruition, it’s a safe bet that tax professionals are already working overtime to find loopholes. The reality is that regardless of the corporate tax rate at any given time, few companies are actually paying at these levels. Prior to the 2017 TCJA, when corporations were expected to pay an effective tax rate of 35%, the average rate actually paid by corporations was only 21%. It’s no surprise that even after the rate fell from 35% to 21%, a report released by the Institute on Taxation and Economic Policy found that in 2018, 379 large companies found clever ways to pay that 11.3%. average tax rate.
So how do you deal with this endless race to the bottom? Ending the progressive tax system with its complex apparatus of credits and exemptions that only the rich can afford to navigate might be a good place to start.
Enter the idea of a flat tax. Simply put, everyone pays a flat rate, say 15 or 20 percent of all income earned. No deductions, credits, exemptions, discounts or any other loopholes. It’s simple: if you win, you pay. A level playing field for all. Just imagine that you are filling out a page of your income tax return.
This is by no means a new idea and it is a topic that has been debated by political parties in the United States and Canada (generally by the Conservatives). But somehow it never goes anywhere. The probable reason? In the United States alone, there are nearly two million accountants and tax lawyers who make a good living keeping things complicated and for the sole benefit of clients who can afford their fees. Lobbyists for special interest groups also make a very good living, ensuring that lawmakers do their part to keep the tax system opaque.
Opponents of a flat tax system will suggest it would shift the tax burden to lower income groups and provide a boon to the wealthy because the top marginal rate would be reduced. These are weak arguments. First, it would be simple to give low-income people a large initial exemption, for example, at the poverty rate (ie $ 20,000), so as not to disadvantage the poor. Second, the reality is that higher income earners, especially businesses, find ingenious ways to avoid paying the top marginal rate in the first place. Basically the government is pretending to tax them and they are pretending to pay.
I believe most people are willing to pay their fair share of tax (yes, including the rich) if they believed the playing field was level. There is a growing feeling that the system is unfair and biased in favor of the elites. Seven in ten Americans think businesses don’t pay enough taxes. Governments know that the middle class can only bear part of the tax burden, which has caused them to increase public debt to dangerous levels. These debt levels are then monetized, which in turn leads to higher inflation, which is a more insidious form of tax for low- and middle-income workers.
A flat tax would be much fairer and easier for citizens to pay and, by including a reasonable personal exemption, would avoid disadvantageous people on low incomes. In addition, a flat tax that eliminates loopholes would ensure greater compliance among businesses and the wealthy.
It’s a simple solution. Making the complicated simple now would be progress.