Not saying you are for or against it. Just seems you are the most likely to respond with factual answers. If the middle class can supposedly afford to pay 28% of our income in taxes why can't the upper class? I'm looking for fair taxation. Say if everybody, rich, poor, and in between paid the same percentage tax on their income, say 20% would it equal what is currently being brought in with the tiered tax system? If not 20% where would it need to be?
This turned out to be longer than I planned. Sorry.
I. I'm going to have to play a game of semantics with this first due to unknowns.
1. The marginal rate is not the effective rate that any taxpayer actually pays, so there is no real 28% tax rate, the average effective rate on adjusted incomes is about 11%. So the media talk of any certain tax rate is bogus and used only to make the cut you pay seem higher.
2. You are correct with the definition of income. How will this be defined for collection? Same rate on paycheck income as investment, pension, or estate income? Then some income will be taxes 2x at the same rate. Are we in reality looking at taxing every time $ changes hands?
3. Does this apply to corporate income rates?
4. Will deductions & credits be eliminated?
5. Will federal spending be limited to any knowable limit? If not, the rates will move constantly and borrowing will continue to push up future tax liabilities. Then we may all be paying 80% effective tax rate and eating spam.
6. What is fair? If you don't have extra money no matter what your income than whatever is taken from you is unfair. Fairness isn't based on your income. That perception is based on displacing your values onto others' decisions or envy.
7. Are we counting the taxes paid as increased costs on goods & services because of current taxation / regulation?
8. Are we counting social security / medicare because this isn't counted as "income tax"? Also results in a loss of 15% (13% for a month) of your income that you never see, but could get in cash if not for SS.
II. OK, what about a flat tax?
Assuming the best scenario to allow for such a scheme, the basic problem politicians will not be able to get over is voter blocks.
1. Lower income voters will have their taxes rise under all flat tax proposals.
2. Many lower income people are retired and vote in large numbers. Those numbers are increasing.
3. Middle class working people will see the $ needed for retirement increase, thus extending their working years to be able to afford retirement. Since their taxes will have also gone up, the amount they can afford to put in 401(k) or IRA will go down, also extending their needed working years to fund their nest eggs. Then we get into a situation of lost opportunities for younger workers due to saturation of employees, which also drives down worker pay.
4. If corporate effective rates go up, there will be 2 choices.
a. reduce income & thus valuation of stockholders (401k) and dividends
[interestingly this is a scenario under the "fiscal cliff" that could trash the stock market]
b. pass along costs to consumers who will already have less spending $ due to higher tax rates.
All this depends on what the rate would be. Obviously we would all rejoice at a 8% rate but suffer under a 30% rate.
III. What would the rate need to be to fund govt operations, entitlements, & discretionary spending?
1. For simplicity, let's assume that every dollar of the GDP was taxable. That would amount to a flat tax rate of 40.6% for FY 2012 unless we kept borrowing.
2. No one currently pays this rate. In the past there were higher marginal rates, but the effective rates were nothing like the 91% that Krugmanites advocate.
IV. What happens if we imposed a flat tax rate necessary to fund the govt?
1. Humans do not operate in vacuums. That is the real study of economics that many economists ignore. When you taxes triple instantly, you will find ways to operate outside the taxed economy. This leads to black markets in which courts can't be used to defend you rights and crime increases (prohibition).
2. Under vastly higher rates, you have less $. economic activity slows and you risk a major depression.
3. To thwart this, govts like to monetize the debt or engage in "quantitative easing", making your $ [buying power] worth less. In this scenario, the 1st one to the $ has lots of buying power [banks]. You are further down the line and have much less as the market understands the $ supply is diluted by this point and prices rise.
V. The real issue
The fundamental question isn't what the tax rate should be, but wy do we have a govt & what should it do?
Currently the answer is to do all the things people want it to do so they don't have to. Our govt is essentially a giant insurance program for those who make poor decisions from building houses in hurricane areas to having too many children or providing us retirement security.
As long as that continues to be the role we want govt to play, it will need to balance its own desire to remain in power against the amount of responsibility it can avoid in order to do so.