Taxing Taxes!

Filled out my 1040 (Federal) and 540 (California) Tax forms and dropped them into the mailbox over the weekend. Fortunately or maybe unfortunately, my financial situation isn't that complicated so it didn't take too long to figure out. As I looked over the form and if I had to utilize some of the worksheets and read how to utilize some of the line items, it would have been a much more complicated affair.

The tax system is currently an instrument of social policy. Certain "behaviors" are encouraged by providing deductions (if you itemize) or special rates (captial gains). Both the right-wing and left-wing utilize the tax code for their own pet ideas.

Politically, I believe the tax system should raise revenue and minimally affect social policy. If I could "re-write" the tax code, here would be some of my priorities.

1) Keep the income tax code progressive (i.e. the people who earn more pay a higher percentage) which would make me left of center. Makes sense to me that somebody who makes $100,000 a year would pay more as a percentage than somebody making $35,000 a year. So I would say that those in the bottom fifth of the income scale should be exempt from taxes. The remaining four fifths should be taxed on a sliding scale.

2) Phase out taxes on interest, dividends and capital gains which would make me right of center. As a middle-class citizen, I work and pay income taxes on my earnings. I stick that money in a CD and the interest income generated is taxed! The same is true of a stock that pays dividends or a mutual fund that I later sell yielding capital gains. So I pay taxes on the money twice sort of! But since we don't tax on the gain then the loss CANNOT be deducted either!

One problem I see is that some people will receive their salary as stock and they turn around and sell it thus, they would incur no income taxes. I wonder how many people would want to do that in lieu of salary? Certainly, big shot CEOs often are compensated with stock on top of a base salary. Would ordinary white collar workers want this kind of compensation? Each month they would be given the equivalent of $3000-$4000 in stock. They could sell it right away to get cash or sell part of it for what they need and let the rest ride to go up or down.

Hmmm, maybe we still have to tax capital gains because of the whole sale evasion of taxes stock compensation in lieu of salary would afford. How about fix that stupid worksheet in the 1040 book? Make is simple stupid! How about say 50% of gains are taxable? Instead, you go through this kooky worksheet by dividing this with dividing that and subtract this..... argh.

3) Phase out all the deductions in exchange for lower income rates. Why should a family of four earning $50,000 renting be at a tax disadvantage with a family of four earning $50,000 who own a home? Home manufacturers will cry foul! But why should that industry be favored with a huge tax break like this??? Why don't we support the airlines by making airline tickets tax deductible? Why don't we support photocopy store by making photocopy costs tax deductible? And then there is the charity deduction: they would say, people won't donate if they can't deduct! Perhaps some people would hold back but I think most people give because they believe in the cause and the deduction is really a minor aspect of the decision to give. If anything, the deduction probably only effects when the charitable giving is made

In any case, I don't think the left or the right would like this! This is probably the libertarian instinct within me.

4) Also it is time to look at a national sales tax in exchange for lower income tax rates. I have been hearing for the last decade or so that some think tanks like this idea. I think it should be explored. Certainly, food should be exempt from this kind of tax. There may be other exemptions for essentials that would disproportionately impact the poor. Suppose advocating a sales tax makes me a liberal (looking for more ways to tax people!) but if it is introduced in conjunction with lowering income taxes and simplifying the code then they will say I'm a conservative.

My bottom line is that taxes are for revenue generation so simplicity of compliance and enforcement would be the best way to do it. What do you think?