A Taxing Problem, V: "I'll Have My Bond!"

As you might recall from yesterday's posting, our critic proposed a tax system that, at first glance, appears to be more straightforward than the Capital Homesteading reforms: "I was thinking of two federal taxes, one a national sales tax to be used just to pay off the national debt, and the other a flat income tax with few or no exemptions or deductions but NO tax on interest income from savings or income from retirement investments, whether private (since it was already taxed) or a Social Security check." The critic expressed the concern "that if by law some citizens are excluded from paying any tax at all, what direct interest do they have in a prudent use of the taxes collected? None."

Isn't it easy to answer your own question, giving the person you are chastising no opportunity to respond (usually by running away before he . . . okay, I can answer)?  Unfortunately for the critic, this chastisee has a blog, and, with nearly thirty years' experience as a CPA and a specialist in the administration of qualified retirement plans, happens to know a little something about both tax theory and practice, as well as the treatment of retirement contributions and income for tax purposes.

For an explanation of how citizens who pay no taxes would have an interest in good government, we need look no further than William Cobbett in his History of the Protestant Reformation in England and Ireland (1827). Cobbett was commenting on the fact that the "Catholic forebears" of the then-modern English had not, as a usual thing, paid taxes, the costs of government being met out of revenues of public lands:

"You may twist the word freedom as long as you please, but at last it comes to quiet enjoyment of your own property, or it comes to nothing. Why do men want any of those things that are called political rights and privileges? Why do they, for instance, want to vote at elections for members of parliament? Oh! because they shall then have an influence over the conduct of those members. And of what use is that? Oh! then they will prevent the members from doing wrong. What wrong? Why, imposing taxes that ought not to be paid. That is all; that is the use, and the only use, of any right or privilege that men in general can have." A History of the Protestant Reformation in England and Ireland, 1827, §456.

Thus, the citizens, through the desire not to pay taxes, will keep a close watch on their elected representatives and the level of expenditure. In any event, Capital Homesteading is intended to put every citizen in the position of being able to have sufficient income to be able to pay taxes, not maintain the current system that taxes in order to control, and gives back as charity what was taken unjustly — and thus unnecessarily — maintaining people in a permanent condition of dependency, as Alexis de Tocqueville pointed out in his Memoir on Pauperism.

Yes, every citizen is responsible for contributing to the cost of government, just as every member of a family is obliged to contribute to the family, and a member of a religion to the support of that religion — but only to the extent that he or she is not thereby deprived of what he or she needs to live on, i.e., what is required to meet common domestic needs adequately (Quadragesimo Anno, § 71 — the reference is to wages, but as Leo XIII pointed out, property income — all income from productive activity, in fact — is simply "wages" under another form, Rerum Novarum, § 5). Otherwise we find ourselves in the ludicrous position of taking money away from people in order to give it back, thereby substituting a false charity for true justice.

Our critic made a couple of factual errors as well. For one, the critic asserted that interest income on savings is somehow taxed twice. On the contrary, interest a company or bank pays on its obligations or savings accounts is deductible as a legitimate business expense; it is not an after-tax distribution, and thus is not an instance of "double taxation" under the current system. We would shift corporate finance to non-interest bearing bills of exchange based on the general creditworthiness of the drawer, limiting interest to charges on accumulations of existing savings lent out. The charges on bills would be limited to the discount or rediscount (a reflection of the bill's present value), and the risk premium, which would be shifted to purchase capital credit insurance and reinsurance in lieu of traditional collateral.

For another, the critic claimed that income from private retirement investments "was already taxed." Really? The critic has evidently never heard of the IRA (that's "Individual Retirement Account" for our readers outside the U.S.) and other qualified retirement plans, both defined benefit and defined contribution, the contributions to which are (within limits) funded with pre-tax, not after-tax dollars. This lack of knowledge is, frankly, inexcusable, either for someone proposing sweeping tax reform or who is in the legislature. In addition to a basic unfamiliarity with the principles of taxation (efficiency, understandability, equity, and benefit), the critic clearly has no idea what the U.S. tax code says about retirement income, or why the present Social Security system is almost universally misunderstood.

To avoid the double tax on corporate profits and to encourage full dividend payout (thereby increasing personal taxable income), we would make all dividends tax deductible at the corporate level, but fully taxable at the individual level above the exemption. With all financing for new capital formation coming out of non-interest bearing "pure credit" loans, the necessity for accumulating money savings — and restricting consumption — to finance new capital investment (and, yes, "create jobs") would be obviated.

While all current promises must be met, in the future we would make Social Security and other entitlements need-based after meeting those promises, with the bulk of retirement income coming from assets in a tax-deferred Capital Homestead Account, financed by discounting bills of exchange at commercial banks, and rediscounting at the Federal Reserve. As such, Social Security or other welfare would not be taxed, as "need" would be defined as someone having an income less than the exemption.

A national sales tax, like all ad valorem taxes, is both strongly regressive, and therefore unjust, falling most heavily on those least able to pay, and adds the "double whammy" in that it is a dollar-for-dollar reduction in the very consumption that justifies new capital formation and thus job creation. An income tax inhibits new investment by reducing the incentive to invest by taking a percentage of profits, but ad valorem taxes take away the very reason to invest in the first place by diverting 100% of each dollar spent on the tax away from consumption.  If you're trying to rebuild your economy, ad valorem taxes are a really, really bad idea.

As Harold Moulton explained in The Formation of Capital (1935), the demand for new capital is derived from consumer demand. Anything, therefore (such as the Keynesian insistence that new capital can only be financed out of reductions in consumption), that decreases consumption negates the very capital investment it finances. This is the "economic dilemma," unavoidable under Keynesian assumptions, yet non-existent under the Just Third Way reforms embodied in Capital Homesteading.

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