Thursday, January 21, 2010

Magic Bullets Part VII – The Tax Ammendment

If you could wave a magic wand and make one amendment to the Constitution all by yourself, what would it be? Would you impose term limits? Would you rename the country after yourself? Would you make “Pants on the Ground” the national anthem? I know what I’d do: I’d end hidden taxes and get every person to participate.

My theory is that just about everything that is systemically wrong with our country stems from the fact that we don’t really know what it all costs and we don’t all share in those costs. This is of course, no accident. Politicians have been expert at two things, hiding the costs of their duplicity and getting re-elected. If we were to eliminate stealth taxes and get everyone to share the costs, profligate politicians would have their plans blow-up in their faces and the only ones re-elected would be those lowering costs and improving the efficiency of their enterprise.

Here’s how I would end stealth taxes and give everyone “skin-in-the-game” with one amendment to the constitution: The amendment would read as follows – “All federal domestic revenues shall be collected directly from the people and all taxpayers will pay the same rate and receive an identical pre-bate.”

The first question you may have is; (*feel free to use Larry The Cable Guy accent here) “What’s a pre-bate?” A pre-bate is a nifty way to not impact the poor while at the same time giving everyone skin-in-the-game. The way it would work is this: At the start of every tax period, an amount equal to the taxes paid at the poverty level would be sent to every taxpayer. This would in effect establish a zero bracket for the poor and a graduated net tax rate for those earning more than the poverty level. After that, every dime would come directly out of the pockets of the people. And there would be a single rate for every person with no deductions, period.

Here is an example of the tax system that would result. Incidentally, this could work for a system based on Income Taxes, Sales Taxes, or any combination of the two. The rates are for illustration purposes:

Tax rate = 40 % (This could be split roughly between 20% income and 20% national sales tax, for example.  Yeah it’s high, but it has to be to pay for what we’re now spending!)

Poverty rate = $15,000 income per year for this example.

Pre-bate = $6,000 per year or, $1,500 per quarter.

Using this example, everyone of age, who is legal, from Bill Gates to a homeless person, would get a $6,000 annual pre-bate.

A poor person would be able to earn and spend up to $15,000 and effectively pay zero taxes due to the pre-bate. Bill Gates, on the other hand, would burn through the $6,000 in a blink and end up paying an effective rate of 40% with no deductions. A person making $30,000 and spending it all would pay $12,000 in taxes, minus the pre-bate, resulting in $6,000 total taxes for an effective net rate of 20%.

So that’s how the pre-bate would work to graduate net tax rates despite there being only one rate and everyone participating. You may be asking; “Doesn’t everyone participate now?” To that, I’d have to answer yes and no. The fact is, some 50% of Americans are getting an illusory free-ride. The reason I say “illusory” is because many people incorrectly believe they pay no taxes. After all, many get a big rebate check in April and the politicians are always telling them they are going to tax only “the rich”. Eventually, people start to believe it. This is borne out in election after election when people are told that someone else will pay for their big entitlements like free healthcare, subsidized housing loans, extended unemployment benefits, and so forth. But there’s a problem: economies have a way of leveling these costs and spreading them around to the point that the cost becomes built into everything we buy and everything we earn. The notion that costs for huge new entitlements will be borne by someone else is like trying to pump water from only the deep end of the pool; if your pump is fast enough, there may actually be a moment when it will appear like the shallow end is unaffected, but trust me, that will not last!

Back to the wording of the amendment: “All federal domestic revenues shall be collected directly from the people…” By directly taxing only the people, there would be no more indirect taxes like payroll taxes and business taxes of any kind. Now, you may be thinking; “What, no business taxes? That’s crazy! Why give Corporations a free ride?” My answer: because businesses already pay no taxes. Sure, businesses do remit taxes, but only after collecting the exact amount from their customers and employees. In other words, all corporate payroll taxes, income taxes, fees, etc. are actually just hidden taxes on individuals. These hidden taxes distort voter behavior and obscure the necessary transparency of our exploding public sector.

Put another way, a business is just a bunch of individuals, formed into a team and working toward a common goal. The team itself gets no vote and does not exist except as a legal entity. Taxing a business violates the very rule on which this country was founded: Taxation without Representation. Of course businesses do get represented, but only through money and lobbying. If we eliminate all business taxes and collect everything directly from the people, we are properly aligning taxation and representation. Of course, business lobbying will still go on to fight for regulatory and trade consideration, but the power will shift measurably towards the people.

So would this be simple to implement? All I can say is, it’s hard to conceive of a tax regime as complicated as what we’ve got. So yes, this would be simpler, better, and more efficient. Of course we’d still have to have some agency like the IRS that would administer collections, pre-bates, compliance, business rebates, and the like. That’s one dragon we can’t slay with this magic bullet.

What we would gain though is a population directly aligned with their government and a likely return to our founding principles of Constitutional Democracy. We’d once again have what Lincoln referred to as a: “Government of the People, by the People, and for the People.”


  1. Why bother with a Pre-bate? Giving everyone the same amount is just inflating the dollar. It is a petty gesture to placate to those that say you don't care about the poor....

    A more simple way is to impose a Federal Sales Tax. Consumption based. Those that have more money will end up paying more as they spend it (if you have to pitch a placating statement for "what about the poor")...

    Regardless of how much, or how, the Federal Government taxes ~ it isn't going to mean anything until the Congress learns to NOT SPEND SO MUCH MONEY... They will never be able to tax enough for how much they spend.

    We are doomed...
    The sky is falling....

    After the next batch of elections we will see if the patient (The US) should be declared DOA.

  2. Amendment to the Constitution: Congress must pass a budget each year, by the 1st day of the fiscal year, that cannot exceed 25% of Actual GDP. If current program funding will place spending over, cuts must be made. Period.

  3. @Anon Good point on the prebate. I neglected to say that the prebate is appropriate only if there is a truly flat system with zero deductions. I first read about the idea of a pre-bate along with a sales tax. The idea was that all goods and services would be taxed with no exceptions. Food, medication, housing, clothing, etc. would all be taxed at the same rate to avoid shenanigans. In that context, the pre-bate is a preferred substitute over the traditional exemptions. Are you in favor of a family of 4, making 10k per year, being taxed on their their milk and bread and paying about 4k in annual taxes? The prebate eliminates that problem and would not devalue the currency since 100% of it would predictably go back to the government, thus negating any increase in the money supply.
    P.S. I do like your fantasy amendment! (If you are the same Anon)