newjerseynewsroom.com

BY MICHAEL BUSLER

COMMENTARY

Republican Presidential candidate Herman Cain has suggested that we replace all payroll taxes and the highly progressive and extremely inefficient Federal Income Tax system with a much simpler one. His idea would be to tax both corporations and individuals a flat 9% tax rate on all income and also implement a 9% sales tax. Currently this would generate approximately $2.1 trillion, which would be revenue neutral. Would this be a good idea?

On balance, a single 9% income tax rate seems to make sense. It would tax all income, regardless of how it was earned, at 9%. In other words, both capital gains and ordinary income would be subject to the 9% rate, and there would be no deductions permitted so that all income would be subject to the tax. This alone would not raise as much revenue as the current system.

To make up the difference he proposes a 9% sales tax on almost everything that we purchase. He has also stated that, in the future, he wants to reduce the income tax rate, perhaps to zero and offset the revenue loss by implementing a “progressive consumption tax” where the highest rate would be about 23%. Does this make sense?

The flat tax on income seems to make sense. Everyone would pay in proportion to their income. For every dollar that was earned, 9% would be taxed. Those who earn lots of dollars would pay more than those who earn few dollars, but they would each pay the same proportion of their income. I have always thought that this makes sense.

The sales tax, which could eventually lead to the “progressive consumption tax”, may be a problem. Many economists have supported the consumption tax concept. The most popular view to compute this, is for an individual to add up all of his income. Then subtract the portion of income that went to saving or investments. The balance would represent consumption and this would be taxed at a rate that increases as consumption increases.

Some economists argue that the income tax could be completely eliminated by making the consumption tax so progressive that those high income earning people who spend large sums would pay a much higher rate than lower consumption and income earners.

The consumption tax, regardless of rate changes, would be regressive in nature and therefore may not be a good idea.

The problem is that lower income earners devote little or nothing toward saving, because they simply can not afford it. They would therefore be taxed on all of their income. Even if the rate was very low, it would still be a regressive tax and place a burden on those workers who did not make sufficient income to save.

The other problem is that very high income earners would have only a small portion of their income subject to tax. Let’s look at a wealthy individual who earns say $10 million per year.

He may be able to save or invest up to $9 million of his income if he spends say $20,000 per week (about $1 million per year) to support his lifestyle. Even if the tax rate on his consumption was very very high, say 50%, he would pay only $500,000 in taxes. That represents only 5% of his income; a huge tax reduction for him compared to the current system. While, in the long run, it would encourage more investment which would lead to growth, the tax burden would be shifted to lower income earners.

Is there a better idea?

There certainly is. How about a 12% single rate tax on all income above the poverty line, with no deductions for anything and no consumption tax? This 12-12-0 plan would replace the Federal Income Tax only (leaving payroll taxes in place) and would be revenue neutral. It would also likely encourage significant growth in the economy. And it would be fair since each taxpayer would pay taxes in proportion to his income.