by Roger Russell
Tax reform has come into the open again as candidates and legislators on the national stage weigh in with proposals to simplify or eliminate the federal income tax.
Even though President George W. Bush backtracked from his initial response to the idea of a national sales tax — he called it “an interesting idea” — the notion of radical tax simplification has attracted a wide range of proponents.
House Speaker Dennis Hastert, R-Ill., is an advocate, and his new book, “Speaker,” furthered the cause by proposing the possibility of the eventual abolishment of the Internal Revenue Service.
House majority leader Tom DeLay, R-Texas, also favors the proposal, while other lawmakers prefer the flat tax.
To be sure, the prospects of meaningful tax simplification depend on there being a second Bush administration.
Chris Edwards, director of tax policy for the Washington-based Cato Institute, believes that a new Bush administration would address Social Security reform first before tackling tax simplification.
“Social Security reform has a higher priority, in the White House, the Republican base and the conservative movement,” he said. “They already have a detailed plan for Social Security that appears do-able. If they have success on that, then they’ll be charged up to move on to tax reform.”
“There were two roadblocks to tax reform in the 1990s,” he continued. “One was President Clinton — he had zero interest in tax reform. The other was that the Republicans couldn’t agree on which was best, a national sales tax or a [Dick] Armey-style flat tax. Tax simplification advocates will have to get together and decide if a compromise is possible.”
Tom Giovanetti, president of the Lewisville, Tex.-based Institute for Policy Innovation, agreed. “In fact, that’s where tax reform stalled five years ago,” he said. “The flat tax had a big head of steam, [then-House majority leader] Armey was going to force a floor vote, and everyone was talking about it. Then along came the national sales tax people, and they bollixed up the whole tax reform movement.”
“Tax reform can’t move forward until its advocates are unified on a plan,” he continued. “The debate shifted to a fight among the tax reform advocates themselves. It hasn’t moved an inch since then.”
“It’s a shame,” said Giovanetti, “because there’s no macroeconomic difference between a sales tax and a flat tax. They’re both consumption taxes. The only difference is where the tax is collected — when income is earned or at the cash register.”
“People think the flat tax is not a consumption tax, but because it exempts savings, it taxes consumption when the income is earned,” he explained. “That’s a critical concept. It means there should be no fight between the two sides, and each should be completely content with the other. If we could get people to understand that, eventually we could get a unified effort behind tax reform.”
Bruce Bartlett, an economist who served in the Reagan and the Bush I administrations, is not optimistic about the near-term possibility of tax reform. “I don’t think the ground has been prepared for a major tax reform effort,” he said. “People had been talking about tax reform for years before the Tax Reform Act of 1986, so Ronald Reagan was really just bringing the movement to a culmination. There’s been no serious talk about tax reform for a long time now, so anything Bush would do would be starting from scratch.”
Bartlett favors a flat tax over a national sales tax. “The sales tax is unrealistic. Every country that’s looked at it has gone to a value-added tax for administrative reasons,” he said. “It puts a lot of burden on the retailing sector to collect all of the revenue at one point in the distribution system, while the VAT [is collected] at every stage of production and distribution, so there’s a lot of evasion once the rate gets above 10 percent.”
“No two states have the same sales tax base,” said Bartlett, “so it would be a nightmare to impose at the federal level. The federal government would have to take over and abolish the state sales taxes and then reintegrate the whole process.”
As for abolishing the IRS, Bartlett said, “That’s an absurd goal to aspire to.”
John Hewitt, president of Liberty Tax Service, agreed. “I love it when people talk about it,” he said. “There are two reasons why so few people compete with H&R Block. One of the reasons is that people don’t understand how lucrative tax preparation can be. The second is that they worry about a flat tax or a sales tax. There’s no such thing as a tax law that’s both fair and simple,” continued Hewitt. “A national sales tax would be regressive. It would hurt the poor at a time when there’s a swelling of support to make the rich pay a greater share. The people who talk about the flat tax or a national sales tax forget that at the end of the day they still have to raise the same amount of tax.”
“I’ve never lost a second of sleep over worrying about the flat tax or a sales tax,” he said. “People who haven’t done the thinking don’t realize how preposterous it is. The housing industry would be bulldozed and charitable organizations would go hungry.”
Larry Novick, a Holliston, Mass.-based preparer, also sees little threat to the tax preparation industry from tax simplification. “If I had to choose, I’d pick the sales tax over the flat tax. Those that don’t file still won’t file the flat tax, while the sales tax hits everyone — even drug dealers and pimps,” he said. “But I see individual preparation decreasing drastically over the next 10 years anyway. The proliferation of free or cheap tax prep software, as well as the increased standard deduction and the lower mortgage interest rates are pointing the industry in this direction.”
One of the obstacles to meaningful future tax reform is the success of past reform, noted Edwards. “Every tax bill since the early 1980s has taken more and more lower-income Americans off the tax rolls,” he said. “Currently, 50 million out of 140 million households don’t pay any tax at all. That makes reform harder because those 50 million households don’t have any interest in tax reform.”
A flat tax is more likely than a national sales tax because it would be easier to implement, according to Giovanetti. “You can get to a flat tax incrementally over a period of years, but you can’t get incrementally to a national sales tax,” he observed. “A national sales tax would require a complete revolution, with the wholesale replacement of the tax code.”
Said Giovanetti, “From the theoretical and the macroeconomic standpoint, the sales tax is fine. But from the political standpoint it’s impossible. But we can get to or close to a flat tax by coming back and taking another bite every few years.”
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