A certain non-trivial inconsistency.
Claire reminded me that Ricochet exists to advance the discussion. And since Ponzi schemes are a topic du jour (see Rob and Genferei ), this seems timely. [warning: long post]
For several weeks now, I have been peering into the vastness of the conservative echo chamber, and have identified a certain non-trivial inconsistency. There are two arguments that I have used repeatedly when discussing politics and tax policy with my wonkish friends.
Argument #1 The Social Security System has been a big Ponzi scheme since the beginning. There are no premium payments into a retirement system. Payroll taxes are just that, taxes, and Social Security disburses old age welfare checks (albeit partially indexed to the amount of payroll taxes collected over a recipient’s lifetime). Social Security surpluses are just the difference between a line item tax and its offsetting line item expenditure. And don’t get me started about the Lockbox. Illiniguy sums it up: “Bernie Madoff is a piker compared to the bunch that foisted this mess upon us”.
Argument # 2 The poor and lower middle class people don’t pay income taxes. The King Prawn cites Victor David Hanson. The overwhelming majority of income taxes are paid by the high wage earners. The Earned Income Tax Credit is an Orwellian masterpiece.
I have had no reason to doubt the logical impeccability of either Argument 1 or 2, until recently. It actually started with an “I told you so” moment.
In the throes of the debt ceiling crisis, Mr. President threatened to withhold Social Security payments to the nation’s elderly. With limited funds available to avoid a looming default, who should Uncle Sam pay next month? Grandma’s check? A soldier’s paycheck? The fuel and ammo invoice for Afghanistan? NIH grants? The Fannie Mae bailout payments? There won’t be enough to go around, and those Social Security checks are not subject to any special prioritization.
SEE, SEE, SEE!! Obama finally gave up the fiction of the trust fund, and admitted that the social security system is just a governmental accounting gimmick (hereinafter “The Big Lie”),. We win Argument #1, slam dunk.
But wait …
If we strip away the Big Lie, then what do we call the 15.3 % (temporarily reduced to 13.3 %) in Fica/medicare/FUTA taxes collected on payroll, partly withheld, partly added to the gross pay by employer. Well payroll “taxes” of course. But everybody pays such taxes, even working class people. It is the closest thing to a flat tax we have.
How much of the total federal revenue comes in from payroll taxes? Turns out: 40%. The first 106,500 in wages per person generates a large percentage (but not a majority) of the tax revenues. Add to that 18% of Federal Revenue attributable to “other”, which includes many regressive taxes like gasoline taxes. 1040 income taxes cover a large percentage also, but certainly not a majority of the overall tax burden.
If we win argument # 1, then we imperil Argument #2. We have demonstrated that (a) payroll taxes are taxes, and (b) everybody pays such taxes, and (c) such taxes are a substantial portion of Federal Revenues.
Contra, if we want to hold onto Argument #2, we have to hold onto the fiction that payroll taxes are not taxes, but “premiums” paid into the oxymoronic “Trust Fund”. Thus Social Security premium payments are kept off the Fed balance sheet, and onto the rich falls the heavy tax burden.
Now my head hurts. Let’s persevere here and dig a little deeper into several concerns.
Concern #1. A comment to VDH’s article asks how much tax do you expect the moderate income, working class citizens to pay? Even the most ardent flat taxer would not say more than 15%. Is this not what they do in fact pay through payroll taxes? Please don’t bust my chops over the portion contributed by the employer. We are looking at the combined payroll tax from both sides as calculated as a percentage of payroll, and which is deductible by the employer a business expense.
Concern #2. I have for a long time scratched my head over the data that the top 20% of filers pay the top 50% of income taxes, and the corresponding assertion that only the wealthy pay all the taxes.
You only need an AGI of 75,000.00 to be placed in the top 20%. We are counting returns filed, and I am left unsatisfied. Example A: A student working part-time, earning 6,000 per year (with one exemption) counts as one filer, while her parents, earning a combined income of 100,000 with 2 more kids at home (4 total exemptions) count as one filer. Example B: Grandma works as the Wal-Mart greeter part-time – one filer, whereas my doctor and his wife and 5 kids, count as one filer.
So we conclude that the top 20% of “filers” pay most of the 1040 taxes. Well, duh. Is that really good statistical work? Kosmo attacks these issues in great detail at thesoapboxers.com (Hat tip to Bereket)
And yes, I realize that higher wage earners pay both payroll and 1040 taxes, and carry a higher aggregate burden. Please keep reading.
Concern #3. The preferential capital gains rates create a perverse disincentive to earning high wages. We wish to incentivize our investing classes to put capital to work . Therefore we give a preferential tax rate to income derived from investments held for at least one year. But at the same time, in the interest of fairness, we have create a progressive rate structure on wage income, based in part on the marginal utility to the taxpayer of each successive dollar earned.
But this is like asking a volunteer to step forward, but in effect finding your volunteer by having everyone else take one step back. Warren Buffet takes one step back, because he is a member of the capital gains class. He pays 15% capital gains tax. The famously working poor step back, in the interest of fairness. They pay no income tax, receive the EITC, but do pay 15% in payroll taxes. And the good citizens working hard, earning good wages and bonuses are left standing out front. They pay 15 % payroll (or self-employment) tax, plus 20% to 30% in 1040 taxes.
So there you have it. My head still hurts, but my mind is somewhat unburdened.
Reconciliation: No critique is well accounted for unless a solution is offered therewith. What pathway lies ahead to the land of fairness and logical consistency?
Flat tax fans, jump up and cheer. Try this: Eliminate 1040 taxes altogether, and take the cap off of the payroll tax. Just one tax, the payroll tax, on all income regardless of the source.
This idea smells too regressive? Then use two tiers: (1) the existing payroll tax rates up to the current $106,500.00 of earned income (15.3%, as temporarily reduced to 13.3% combined), and (2) 20% on everything over 106,500.
How to file your return:
(a) For any given year that you only earned your income through W-2 wages, then you would not file a return (most people). All taxes paid as payroll tax. No more itemization, no more tax code spending in the form of deductions favoring this interest group or that, no more EITC. This is even better than Steve Forbes’ famous postcard tax return.
(b) If you are self employed, you would still need to file a schedule C to calculate your payroll (a/k/a Self-employment) tax.
(c) if you earn income through profits and distributions, which don’t have withholdings (i.e. 1099s and K-1s) then you simply add up the gross amounts of the 1099s (minus your basis) and any K-1 payable to you, and pay the payroll (self-employment) tax rate on those profits. No capital gains rates, no perverse investment credits. Saint Warren of Omaha can finally pay at a higher rate than his secretary.
You may now commence slings and arrows.
P.S. Calling an intrepid Ricocheteer to help run my numbers. Am I revenue neutral?
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Comments:
Aug '11
Re: A certain non-trivial inconsistency.
Your data is so erroneous it's difficult to know where to start.
For one thing, the top 5% of earners pay 59% of the income taxes and the top 10% of earners pay 70%. The top 25% pay 85%. That's way more progressive than your numbers.
And you don't pay FICA taxes on capital gains or dividends.
Edited on August 30, 2011 at 9:56amMay '10
Re: A certain non-trivial inconsistency.
Easy. Assertion #2 is factually correct if you use the current definition of "income tax."
If your point is that FICA taxes should be considered part of the income tax, because they are charged on income, you make some sense.
But both arguments still stand and are not inconsistent, if you consider the FICA tax to be part of the Ponzi scheme discussed in Assertion #1. The lock box may not exist, but the FICA tax is designated at least in theory to the continuation of the Ponzi scheme known as Social Insecurity.
There is no inconsistency in highlighting that fact, while also highlighting that another tax known as the "progressive" income tax is paid by only half of workers.
May '10
Re: A certain non-trivial inconsistency.
I've never been comfortable with the "half of the population pays no tax" argument. Of course, it is usually phrased as "no federal income tax", which is technically true, but incomplete. Should we not as conservatives be concerned with the total tax burden?
And yes, that includes state taxes on both income and consumption. Because federal mandates pass costs along to the states, which must not provide not only a basic level of services suitable to their local circumstances, but additional mandated services. Many states are absurdly bloated (easily identified), but one can escape that by moving. Even in a low-tax state, however, you're paying state taxes, often sales taxes, for federal policies.
The Fair Tax would solve this problem, consolidating taxes in one handy place, but you'd need to repeal the income tax amendment first, because you could never trust the government to resist the temptation to levy both income and consumption taxes.
Finally, as a political matter, "the poor aren't paying their fair share" is a tough sell. Not our strongest issue. Since it is both misleadingly incomplete and a political loser, I'd advocate dropping that argument.
May '11
Re: A certain non-trivial inconsistency.
I think this agrument has lots of merit - as a small business owner, I feel the full effect of FICA taxes, and we should not discount that everyone who works feels the pain. What we should do is stop withholding - make everyone write a check to Uncle Sam every month, so it's clear just how big the tax burden really is. I know this would increase the enforcement burden, but so be it.
Sep '10
Re: A certain non-trivial inconsistency.
I am amused when the party of “we’ll make things worse more slowly” ie: the GOP discusses these issues. It should be noted the GOP is responsible for dropping many if not most off of the income tax rolls and has championed the earned income tax credit as far back as Reagan. In addition it was a fella by the name of Dole who put the lock box concept into overdrive allowing the government to disguise deficits for more than a decade. The solution to the “tax” problem is to end the nanny state and reduce the size of the federal government so it is consistent with its constitutional mandate. Then the collection of taxes to fund it will be a problem easily solved. Schemes to fund the current government without causing major harm to the economy are nonsensical.
Mar '11
Re: A certain non-trivial inconsistency.
Scott - Thanks for the post! I like your ideas!
Aug '10
Re: A certain non-trivial inconsistency.
Amen. I think if everybody had to write a quarterly check to Uncle Sam, like those of us who are self-employed, we would experience a tax revolt by the American people within a single year.
Dec '10
Re: A certain non-trivial inconsistency.
I advocate primarily for honesty in the tax system. The government has one treasury into which all taxes flow (regardless of how they are named), and from that same overdrawn account all payments are made. The progressivity of the "income tax" is a canard of the left to bribe the half of voters who can be fooled into believing they are getting something for nothing and will vote for those promising more of it. I also heartily concur with liberal jim; we have more government than we can afford, and most of it is extraconstitutional.
Jun '11
Re: A certain non-trivial inconsistency.
An idea with a lot of merit. How many people just never even bother to look at their payroll stubs?
Mar '11
Re: A certain non-trivial inconsistency.
I don't have enough data to comment on your specific idea, but I would rather see us move in a different direction re payroll withholding.
Do away with it.
Make everyone send a check to the Treasury. Make everyone develop a real sense of what they are shelling out for the government they receive.
I believe the effect on lower and middle income taxpayers would be significant, and the call for smaller government would grow louder.
a gimmick? maybe. but no worse than some of the other hare-brained tax schemes that exist in the Code.
Jan '11
Re: A certain non-trivial inconsistency.
Duplicate post. This forum software is really starting to drive me crazy.
Edited on August 30, 2011 at 4:44pmJan '11
Re: A certain non-trivial inconsistency.
Scott: I have for a long time scratched my head over the top 20% of filers paying the top 50% of income taxes, …
You only need an AGI of 75,000.00 to be placed in the top 20%. We are counting returns filed, and I am left unsatisfied. Example A: A student working part-time, earning 6,000 per year (with one exemption) counts as one filer, while her parents, earning a combined income of 100,000 with 2 more kids at home (4 total exemptions) count as one filer. Example B: Grandma works as the Wal-Mart greeter part-time – one filer, whereas my doctor and his wife and 5 kids, count as one filer.
So we conclude that the top 20% of “filers” pay most of the 1040 taxes. Well, duh. Is that really good statistical work? Kosmo attacks these issues in great detail at thesoapboxers.com
Your example strikes me as a most specious brand of statistical spin. Yes, it's good statistical work to only count people earning a paycheck when determining who is bearing the tax burden. Averaging the tax burden across the entire population doesn't make any kind of sense at all.
Edited on August 30, 2011 at 5:32pmDec '10
Re: A certain non-trivial inconsistency.
Michael Hussey: I don't have enough data to comment on your specific idea, but I would rather see us move in a different direction re payroll withholding.
Do away with it.
Make everyone send a check to the Treasury. Make everyone develop a real sense of what they are shelling out for the government they receive.
I believe the effect on lower and middle income taxpayers would be significant, and the call for smaller government would grow louder.
a gimmick? maybe. but no worse than some of the other hare-brained tax schemes that exist in the Code. · Aug 30 at 7:26am
It would double the cost of government for enforcement.
Mar '11
Re: A certain non-trivial inconsistency.
So long as the Earned Income Tax Credit (as well as the additional child tax credit and a raft of others) is a refundable credit, it also goes to offset the 15.3% of payroll taxes paid in by lower income employees. Therefore, you can, to a large degree, take those taxes off the board as well.
You can't equate "pass-through" income with cash flow; oftentimes K-1's reflect income from an investment or business that isn't accompanied by money in equal amounts going to the investor/business owner, who then has to dip into other sources of cash to pay the tax.
After 30 years of preparing tax returns, I've seen it all and been disgusted by most of it. (How much of the S&L crisis of the 1980's was caused by the overnight change of real estate depreciation from 15 to 31.5 years? I'd say most of it). I favor the Fair Tax, because the tax burden should fall on everyone, and everyone consumes. Saving, investment and work (an investment of personal capital) should be rewarded. Malinvestment and overconsumption fueled the current bust.
Edited on August 30, 2011 at 5:12pmApr '11
Re: A certain non-trivial inconsistency.
I agree with the the idea that the current tax code is deceptive and purposely so, filled with many strange deductions, credits, and exemptions. As a graduate student, who rents an apartment and has no spouse or children, I get no brakes. So I am resentful of all of them. I would favor abolish joint filling, and then having everyone tabulate total cash income for the year (salary, capital gains, inheritance(cash) and whatever else generates actual money) then cutting a check for a certain percentage of that based on the total. I feel that's what I do now any way.
Jun '11
Re: A certain non-trivial inconsistency.
Scott, you are right that the distinction between Social Security/Medicare taxes and income taxes is a false one, and that it leads to not -really-honest-or-useful statistics like "half the country doesn't pay income tax." Still, I am pretty sure most of the rich do pay a bigger percentage of their income in federal taxes than the poor or middle class. And they get back a smaller percentage of their contributions to Social Security/Medicare. But I'd be in favor of a more honest and simple system too. Eliminate refundable tax credits and most deductions, have graduated brackets from 5% to 20%, means test Social Security (it is breaking a promise to the well to do, but it has to be done.)
I like the idea of no witholding: the self employed are entrusted with sending in their own taxes now. An excerpt from E. B. White's thoughts when witholding was instituted: "It is bad because it implies that the individual is incapable of handling his own affairs......This implication is an unhealthy thing to spread around, being contrary to the old American theory that the individual is a very competent little guy indeed."
May '10
Re: A certain non-trivial inconsistency.
Everyone get angry at Milton Friedman, the Father Of Withholding.
But Scott's basic point is true- in actuality, the payroll tax is also an income tax, and the connection between that and SS or Medicare is fiction. Both programs are pretty well unmasked as separate self-supporting funds, so the sooner we get that myth over with, the better.
You are never- never; may I repeat, never! going to eliminate withholding- that is one of exactly two ideas where you have a very strong and unshakeable bi-partisan Congressional consensus (opposition to term limits for Congress is the other). Would it be nice? Sure. So would Universal Temperance and Universal Fidelity in Marital Relationships. The fact that it would be nice doesn't help us get there.
And if you think that tax collections are messy and intrusive now, just wait till every business of any kind has to help collect the national sales tax, and we start to see exceptions for high sales tax states, exceptions for certain favored goods, etc.
Instead, get the entitlements right- structure (market-driven with personal savings as key), scope (smaller, cheaper)- and then Constitutionally dedicate one reliable, immutable revenue stream to it.
Jun '11
Re: A certain non-trivial inconsistency.
Didn't say eliminating withholding was likely, possible, or the hill to die on, but it would be the right thing to do, as Milton Friedman said (I followed your link.) Combining income and payroll taxes is highly unlikely to happen soon either. Just sayin' it makes sense.
Jun '11
Re: A certain non-trivial inconsistency.
The King Prawn
Michael Hussey: I don't have enough data to comment on your specific idea, but I would rather see us move in a different direction re payroll withholding.
Do away with it.
Make everyone send a check to the Treasury. Make everyone develop a real sense of what they are shelling out for the government they receive.
I believe the effect on lower and middle income taxpayers would be significant, and the call for smaller government would grow louder.
a gimmick? maybe. but no worse than some of the other hare-brained tax schemes that exist in the Code. · Aug 30 at 7:26am
It would double the cost of government for enforcement. · Aug 30 at 8:02am
Yes but there would be a significant savings in the private sector when companies no longer have to collect the tax for the government. This would effectivly reduce the cost of labor and thus raise the demand. Voila! A stimulus that actually reduces unemployment.
Dec '10
Re: A certain non-trivial inconsistency.
Songwriter
Amen. I think if everybody had to write a quarterly check to Uncle Sam, like those of us who are self-employed, we would experience a tax revolt by the American people within a single year.
I've been saying this for years.
Things would change in a heartbeat if people actually held that money in their hands and then had to surrender it to Uncle Sugar.
There is a profound emotional difference between physically having something and giving it up and never seeing or touching the thing in the first place.
This is the same reason that women who are going to give up their babies to adoption are not encouraged to hold the child.
The bond is instantaneous and remarkably strong, though less so for money than children, obviously.