A Better, Fairer, Simpler Tax System

I just filed my taxes. It took me all afternoon. And there’s nothing exotic about our situation. No fancy investments, no foreign income, no capital gains… Just straight income and the standard deduction.

So, why should it be this hard? And why should I be sitting here thinking that I missed something, got it wrong and will get a letter from the IRS in June telling me I still owe some more plus a penalty or I actually owe less and here’s a check? One or the other happens more years than not. And I’m not a dumb guy. No, really. I’m not. No, I’m not.

There’s gotta be a better way. Let’s start by asking why it’s as bad as it is now. I think there are three reasons.

First, we try to do too much with our tax system. We try to encourage or discourage certain kinds of human behavior. For one thing, that’s generally a fool’s errand. If, for example, we want people to have more kids they won’t do it for the tax break and, if they do, they shouldn’t have kids at all because they can’t do the simple math. As a general rule, children are a terrible investment. Much better off with mutual funds.

Second, we try to be fair. So, for example, because it’s expensive to raise kids, we give parents a break. The trouble with this is that it gets complicated as we try to fine tune the system to take into account every possible scenario. I don’t have dependents, but I do get a tax break just for being old. And I’d get another one if I were blind, something my optometrist says I pretty much already am, but for the magic of his work. But we’re well enough off — better off than a lot of young families — that frankly, we don’t really need the break just for being old. And Stevie Wonder doesn’t need the break for being blind.

And third, the system gets played by high earners, either by hiring fancy tax lawyers and accountants to find every loophole or by hiring fancy lobbyists to create new and more creative ones.

All of this not only creates headaches and frustration at filing time, but it undermines confidence in the integrity and fairness of the system. We suspect that others are taking us for suckers. In fact, a recent Gallup poll found that public confidence that the federal tax system is fair is now at a near all-time low of just 45%. It was once as high as 64%.

So I asked my friend AI (I love AI!) to design a system that; 1) Maintained the current level of progressivity; 2) Simplified the system by getting rid of all deductions and credits including the standard deduction, and; 3) Treated all income the same — e.g., got rid of the tax break for capital gains.

AI came up with a hybrid of systems that have been proposed by the Tax Policy Center, the UBI Center and the Tax Foundation.

This proposal would eliminate all deductions, credits and exemptions. Taxpayers would simply add up their income and go to a tax table to figure what they owe. They’d subtract what was withheld from that and get a refund or pay the difference. It would probably take all of five minutes and the error rate would plummet.

The AI-generated proposal would also reduce the number of tax brackets to three and take the top rate down from 37% to 35%. So, how would it maintain current levels of progressivity? Two ways. As I mentioned above, the lower tax rate on capital gains would be eliminated and that’s a big advantage right now for high earners. Also, the first $30,000 in income would be tax-free. So, if you earn $100,000, you’d be paying taxes on $70,000. If you earned a million dollars, you’re paying taxes on $970,000.

Of course, we could play with this model all day. There’s no reason we have to go down to three brackets as people would find what they owe by going to a simple tax table, which already takes the brackets into account. That’s why the argument that a flat tax is simpler is wrong. What makes our taxes complicated isn’t the number of brackets; it’s all the deductions, credits, exemptions and special rules for this and that.

One additional thought. I asked AI how much taxes would have to go up under this system to produce a balanced federal budget this year. It’s grim news. Just to give you a sense, the tax rate for those earning between $100,000 to $200,000 would have to jump from 15% to 25% with corresponding increases in other brackets.

You say we can do it by cutting spending? Well, sure we can, if you want to cut all federal spending by 25%. You say you want to take it out of the bloated defense (sorry, war) budget? You can wipe out all of that spending and still face an $860 billion deficit.

The answer is probably some middle ground of increased taxes and spending cuts spread out over time. But any attempt to balance the federal budget all at once would probably send the economy into a tailspin.

Let me end with a little 1040 haiku. I scrolled to a random page in the 125 page Form 1040 instructions and clipped this gem:

You must include in your income any

amounts that you received that you

would have received in retirement had

you not become disabled as a result of a

terrorist attack. Include in your income

any payments you receive from a

401(k), pension, or other retirement plan

to the extent that you would have re-

ceived the amount at the same or later

time regardless of whether you had be-

come disabled.

What’s so beautiful about this is its very ordinariness. Flip to any page in the instructions and you can find equally profound thoughts. Read it. Read it again. Get lost in the words. Let the words flow over and past you and live in them. In a world beyond meaning.