Reforming the Income Tax: A Citizen’s Proposal

1. Reforming the Income Tax:A Citizen’s Proposal Richard A Demers Minneapolis, MN April 1, 2014

2. Contents • Why is income tax reform needed? • What are the goals of this Citizen’s Proposal? • What income should be taxed? • Transferring income among individuals • Taxing asset transactions • Taxing income by formula • Income taxes and the national budget? • Household examples

3. Why does the income tax system need to be reformed? • Neither fair nor just • Too many ways to avoid and evade taxes • Too complicated, intrusive and expensive • It harms the national economy • Too much interference • Drag on the national economy • It fails to adequately fund the government • Annual deficits • Ever increasing federal debt

4. What are the goals of this Citizen’s Proposal? • Raise enough money for government operations in a way that is fair, just, simple and efficient • Eliminate tax biases in favor of some people and businesses at the expense of everyone else • Automatically link taxation with spending • Take control of the details of income taxation out of the hands of politicians who don’t really know what they are doing anyway

5. What are NOT goals of this Citizen’s Proposal? • It is not the goal of this proposal to • Reduce taxes • Redistribute wealth • Reduce the size of government • Reduce government spending

6. Is real reform possible? Yes, if we incorporate good ideas from many sources • Libertarian • Taxation should intrude as little as possible in our lives and economy. • People should have some say in how their taxes are spent. • Conservative • Income shouldn’t be taxed more than once - dividends, gifts, estates. • Rely as much as possible on the national economy, not government, to meet society’s needs. • Liberal • We are a community and not just individuals. • We should help people who help themselves to get ahead. • Taxes should be progressive and affect everyone to the same extent.

7. Who should be Taxed? Every person, every business and every non-profit – no exceptions • As individuals - infants to corporations • Eliminate Single vs. Married distinctions • Eliminate personal vs. business vs. non-profit distinctions If businesses want to be treated as individuals for other purposes, they should be taxed as individuals.

8. What income should be taxed? Tax all Income – no exceptions • Individuals, • Wages, tips, bonuses, awards, realized options, interest, dividends, pensions, Social Security payments, welfare payments, insurance and annuity payouts, jury awards, alimony, lottery and gambling winnings, etc. • Capital gains taxed as income only if not reinvested • Gifts and estates not considered income • Businesses, • Net, pre-tax business income • Non-profits • Same as service businesses

9. Eliminate all loopholes No deductions, credits, allowances, exclusions or rebates to anyone or any organization for any purpose "We are all in the tax game together, and what is a privilege to one group of people ends up being a penalty to everyone else through higher tax rates.“Taxing Ourselves: A Citizen's Guide to the Debate Over Taxes  by Joel Slemrod and Jon Bakija, 2008, p. 89.

10. Eliminate all wage taxes • Social Security and Medicare are currently financed through wage taxes • Social Security wage taxes not progressive • Only on wages below a cutoff • Greatly increases the tax burden of low income people • Social Security is not an annuity • The so called SS Trust Fund is a bookkeeping gimmick Social Security and Medicare benefits should be financed by the entire nation through income taxes

11. Income Transfers Any amount of pre-tax income can be transferred to any other individual or organization where it is taxed as part of the receiver’s income. • Family transfers among members • Windfall transfers to IRAs • Corporate transfers to stockholders as dividends • Transfers to non-profits as contributions • Limitations on transfers All income transfers become part of online public record

12. Family Transfers The income of a household can be transferred among its members so each is taxed at the lower rate of a progressive tax. Tax Rate Household Member Income

13. Windfall Transfers One-time income from inheritances, insurance payouts, lottery winnings, bonuses, high income years, etc • Income can be transferred to flexible IRA type accounts • Taxed as income on withdrawal

14. Corporate Transfers • After-expense, pre-tax income can be transferred • To stockholders as dividends • To subsidiaries to enhance their capitalization • To non-profits • Eliminates double taxation of profits and dividends • Eliminates unfairness of different tax rates for wage vs. investment income • Strong incentive for businesses to pay better dividends and to support non-profits

15. Transfers to Non-profits • Non-profits viewed as service businesses • No distinctions made among non-profits • charitable, religious, political, cultural, etc • Net income taxed after operational • Property costs, salaries, supplies, etc • Non-profits can be viewed as transfer agents when income received is transferred directly to beneficiaries

16. Asset Transfers Objective: Help citizens become rich in assets and part of the so called “ownership society” • Assets: anything that generates a monetary return • Examples: real estate, stocks, bonds, mutual funds, savings accounts, farms, real estate, businesses, etc • Assets can be freely converted from one form to another with no tax consequences • Assets can be freely transferred from one individual to another with no tax consequences

17. When are Assets taxed? • When sold and any part of the proceeds are taken as income • This makes this proposal a consumption tax. • Losses are the investors responsibility, not the government’s

18. Consequences of Asset Transfers • Gift taxes eliminated • Estate taxes eliminated • The special treatment of Capital Gains and Losses is eliminated All asset transfers part of online public record

19. Limitations on Transfers • No quid pro quo transfers • No reciprocal transfers from whom the donor can extract an advantage • Money • Assets • Influence • Violations to be prosecuted as tax fraud

20. Taxation • Why taxes? • To pay for essential governmental services • Which services are essential is not part of this proposal • Should not be to encourage or discourage any activity • How high should taxes be? • As high as necessary to pay for budgeted spending • Tax-cutting without cutting spending is foolish • New spending without new revenues is foolish • Should individuals have a say in how their taxes are spent by the government? • Yes, to the extent that they are willing to transfer income and assets to organizations that can otherwise provide required services

21. Tax Rates • Why not a flat tax? • Inherently regressive • Does not affect everyone to the same extent • Why should taxes be progressive? • High income individuals receive disproportionately more value from living in a modern society • As an incentive for individuals to transfer income to non-profits • Example: privatize NASA and get to MARS sooner

22. Taxation by formula Simple way to determine taxes at all income levels • Calculated per individual, not household • The same formula used for individuals and businesses • From incomes of $0 to $1 Trillion-12 orders of magnitude If your income is $x, your income tax is f(x) = $y.

23. Taxation by Formula tax = k × (basic rate × income) – offset • Basic rate depends on income • 0% at $0 and 100% at $1 Trillion • All taxes are on individuals • No special rates for single vs. family vs. business vs. non-profits • offset depends on earned wages • Similar to existing Earned Income Tax Credit • k depends on • National spending budget • Population in each income range. • Calculated repeatedly until the generated tax revenue equals budgeted spending. Actual tax rate = tax / income

24. Basic rate= xlog(income) - 1 1 = x12 - 1 2 = x12 x = the 12th root of 2 x = 1.059463 Basic Rate Basic rate = (1.059463log(income) - 1)

25. Offset • Depends on earned wages • Similar to current Earned Income Tax Credit • Calculated per individual, not per family • Encourages all citizens to work for their living • No offset for those able to pay taxes Offset Phase-in limit = $3,000 Plateau limit = $4,000 Plateau = $2,000 Phase-out limit = $100,000 Other income limit = $4,000 Wages

26. Ideal Rates Ideal tax = 1 × (basic rate × income) – offset Ideal rate = ideal tax / income • Ignores spending budget • Ignores population distribution

27. 2011 Household Income Most tax revenue from households with a modest income Revenue from high income households also required

28. 2011 Spreadsheet Model Goal: Determine if proposal is reasonable • Revenue target is sum of • 2011 individual income tax • 2011 employee FICA and Medicare wage taxes • Limited to personal income • Population distribution from IRS tables • Business, gift, estate and non-profit income not part of model because income distribution not available • Allocates household income equally to all members

29. 2011 Tax Revenue Individual Tax Revenue • Individual, estate and trust income tax $1,175,989,528,000 • Employee FICA + Medicare wage taxes $481,552,411,000 • Total individual tax revenue$1,657,541,939,000 Estate and Gift Tax Revenue • Gift tax $6,572,384,000 • Estate tax $2,506,991,000 • Total Estate and Gift Tax revenue$9,079,375,000 Organizational Tax Revenue • Corporate income tax $242,435,939,000 • Employer FICA + Medicare wage taxes $481,552,411,000 • Tax-exempt unrelated business income tax $412,183,000 • Total organization tax revenue$242,848,122,000 Revenue Target of 2011 Spreadsheet Model $1,657,541,939,000

30. Proposed 2011 Taxes tax = k × (basic rate × income) – offset where k = 0.692 • Assumes equal allocation of household income • Includes FICA and Medicare financing • Model does not include business income

31. 2011 Income vs. Tax Revenue

32. Household Example • Dad earns $x per year • Mom earns $y per year • Their two children have no income • The family transfers 10% to charities, their church, their political party and cultural non-profits • For tax purposes, they allocate the rest equally (25%) to each person

34. Proposal Summary • Tax all income • Eliminate all loopholes • Allow income and assets to be transferred without tax consequences • All taxes are on individual persons and businesses • Tax all income using a single progressive formula that spans 12 orders of magnitude • Make all income, transfer and tax information available online and transparent

35. Proposal Status A much more complete model is needed! This is a work in progress, a stake in the ground. Please throw rocks at it.

36. Links taxreformproposal.org Tax proposal home page with links to: • Tax proposal essay • Early comments • Spreadsheet model • This slide show • About the author