Yesterday we looked at the problem of a consumption tax from the perspective of “rule of law.” We decided (we did; we don’t know what you decided) that a consumption tax when it relies on people proving they spent as much as they did on consumption in order to get their exemption, is contrary to a sound philosophy of law that we call “rule of law.”
|To get cash BACK, you have to pay it IN in the first place.|
Why? Because a rebate requires proof that the tax was paid, not that the income was earned. This puts the burden of proof on the taxpayer instead of the government. To avoid paying the rebate, all the government has to do is tell the taxpayer his or her proof doesn’t meet the requirements. There goes the rebate.
That, however, is yesterday’s news. Today we address the related claim that a consumption tax isn’t necessarily regressive.
Here’s why. The more money you have, the less you spend on consumption, relatively speaking. For example, someone who makes $25,000 per year likely spends 100% of that on consumption — and often more, if he can borrow it. Given a 10% consumption tax, someone who spent a total of $25,000 paid $2,275 in taxes, which is rebated . . . and immediately spent making up the shortfall (and so on, but let’s just make this easy on ourselves).
Now suppose someone spends a total of $100,000, of which $10,000 is tax, which is rebated.
So far, so good.
|Even the greediest rich man can only consume so much.|
Now suppose we have three people, each of which spends $150,000, but the first of which, A, earns $150,000, the second, B, $500,000, and the third, C, $1 million. What is the tax burden relative to income for each in percentage terms, since each pays exactly the same amount, $4,545, in taxes?
As a percentage of income, A pays 3.03%, B pays 0.9%, and C pays 0.45% in taxes. No matter how you look at it, a consumption tax is regressive. Even if you were to increase the tax rate to a realistic level, say 50% of all consumption over $20,000 (remember: the amount specified was a $10,000 exemption), the lower income brackets get socked in the face, while the rich — who can only consume so much — get off paying their tax bill out of what is for them chump change.
Now, suppose you raise the amount to be rebated to $100,000. Does that make it any better? Not really. The very poor and the lower income brackets would not be paying any taxes, but why is it fair for the well-off and moderately wealthy to shoulder the tax burden, and let the super-rich escape virtually all taxation relative to their income? And to escape all taxation, they would just stop most consumption purchases above the rebate threshold. After all, you can live pretty well just spending $100,000 per year on consumption. A typical family of four would not pay a cent in taxes until and unless they spent an aggregate $400,000 in a year, assuming everybody gets the exemption — and try to pass a consumption tax to replace an income tax without allowing an exemption for every member of the family.
|"You're violating my principles of taxation."|
In any event, a consumption tax violates one of Adam Smith’s principles of taxation: that taxes should be levied commensurate with the ability to pay. This is simple common sense. After all, what good is it to levy a tax on people who can’t pay? Isn’t the whole idea of a tax to raise revenue for government? Why have any tax that will not raise revenue?
Well . . . there is that “social engineering” shtick. Back when the income tax was fairly new for most people, i.e., World War II (until the New Deal, most people didn’t pay income taxes; the exemption was pretty high), and the Keynesians were telling us that the government could raise all the money it needed by floating new debt and never repaying it, Dr. Harold G. Moulton asked, “If the growth of the public debt is of no moment, one might at first thought be inclined to ask — Why go to all the trouble and expense of collecting taxes? . . . why not promote the desired end by cancelling all taxes?” (Harold G. Moulton, The New Philosophy of Public Debt. Washington, DC: The Brookings Institution, 1943, 71.)
In answer, Moulton quoted a statement by one of FDR’s “Brain Trust”: “Once freed from the obsolete concept of the balanced budget, the larger uses of federal taxes can be creatively explored” (Ibid., 71-72.) And those “creative” purposes?
· To regulate the distribution of income, and
· Prevent inflation in periods of full employment.
In other words, tax away the wealth of the rich to redistribute purchasing power to the poor, and take away the purchasing power of the poor by taxing away their income.
In other words, the main reason for taxation is not revenue per se, but to force people to do what you want them to do because Big Brother Knows Best.
Which brings us to another problem with a consumption tax: distorting consumption patterns. We’ll look at that Monday. Maybe Tuesday. It depends on how taxing it is to write the posting.