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My neighbor in the apartment across the way is a good-natured centerist who is very interested in issues of taxation.  He and I often get into discussions related to our tax system and he's brought up the idea of a Flat Tax.  It sure sounds like a good idea: everyone pays the same percentage of their income.  After all, he argues, why should someone making a lot of money pay a higher percentage?

The problem with this idea, of course, is that it's ultimately regressive, taking a more meaningful chunk of money from the least fortunate in our society.  The counter question being, why should someone making only a little money pay the same percentage of their income as someone making much more and is it fair to tax them at the same rate?

Follow me below the fold where I level the Flat Tax in my continuing series Deflating Conservative Arguments.

I've found that a lot of people don't understand how our current progressive income tax system works.  Many people think that the tax bracket you reach on your last dollar in income is the one you pay on all your income.  I've heard people say things like "I got a $2000 raise, but it bumps me into a higher tax bracket" with a disparaging tone in their voice that belies the fact that they'll be making more money.  Fortunately, they won't really be paying the higher rate on all their income.  For example, a single person pays 10% on their first $8500, 15% on their next $26,000, 25% on their next $49,100, and so on.  So if you make $34,000 and get a $2000 raise, you'll be in a new tax bracket, but you only pay the new tax rate (25%) on your last $1500, and your total tax liability will be $5125.  This computes to an effective tax rate of 14.23% ($5125/$36,000).

Okay, so now that that's all cleared up, what about the flat tax?  Even some of my more liberal leaning friends have been suckered in by this one.  The proposal is that everyone pays the same percentage in federal income tax on all of their income, though proposals vary as to what the percentage should be.  In 2008 Senator Lamar Alexander (R-Tenn.) proposed a 17% flat tax rate.  Let's use this as our example because there is simply no concrete proposed rate that flat taxers are rallying around.

As you can already see by looking up at the previous example, a 17% rate is higher than the 14.23% rate that someone making a modest $36,000 pays today.  The break even point is $48,438, meaning everyone making less than that gets a tax increase under a flat tax and everyone making more than that gets a tax break.  Let's look at the lower and upper end of the spectrum for greater relief.  Billionaire hedge fund manager John Paulson (unrelated to former Goldman Sachs CEO and Treasury Secretary Henry Paulson) raked in $4.9 Billion ($4,900,000,000) in 2010.  Though I know this is investment income and therefore subject to the capital gains rate, let's pretend that it was counted as regular income taxed at the normal income tax rates.  If this were the case, Mr. Paulson would be paying an effective rate of 35% under our current system or around $1.715 Billion.  If his taxes were slashed to 17%, he would be paying around $833 Million, a savings of around $882 Million.  On the other hand, a single person with no children living at the 2010 poverty threshold of $11,344 pays $1277 in federal income tax for an effective rate of 11.25%.  If we instate the 17% flat tax, that would raise their taxes to $1928, a hike of $651.

So the question of fairness arises.  What is fair?  Is it just to lower billionaires' taxes by half, but increase taxes on the poorest?  Is it just?  To me, the issue always come back to these simple questions.

So, what is a fair and just way to pay for our society?  I believe that those who make the most money have benefited from the system much more than those who make the least.  The poor tend to stay poor because they have the deck stacked against them from the get go.  If both parents are working and struggling to make ends meet, children are not as able to succeed.  If they live in an economically depressed area, they are likely going to schools that don't have the resources to hire the best teachers or have the equipment necessary to prepare children for college.  If you live somewhere where your life is in constant danger due to high crime (due to poverty), it makes it pretty darn hard to study.  Conversely, the well off tend to become richer because they have safe places to grow up and don't have the added stresses of poverty.  They go to the best schools with the best teachers and the top of the line equipment, live in the cleanest, safest neighborhoods, and have parents who have the resources to help them achieve.  The disproportionate amount of money spent on all of the services that our society provides such as schools and public safety go to the wealthier areas.  This is because their local tax base (or private donations) keep their areas nice because they, as anyone, care deeply for their children and want them to succeed.  The problem is that not everybody starts out at the same place, so to pretend that is the case is just fantasy.

The reality is that we're all in this together and we need each other to succeed.  Because the wealthy benefit more from our society, and the safety and security it affords them, they should pay more to keep our society (and the government that administers it) strong.  It's the only just thing to do.

Cross Posted on Progressive Ideas

Originally posted to Progressive Ideas on Sun May 15, 2011 at 01:31 PM PDT.

Also republished by ClassWarfare Newsletter: WallStreet VS Working Class Global Occupy movement.

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