Sunday, March 07, 2010

When does a tax system become expropriation?

Over the last two decades through various changes in the Internal Revenue Code an increasing number of Americans have been excluded from paying any income tax. According to the Tax Foundation about a third of all citizens pay no income tax (either zero or negative tax liability). On first blush that sounds like a very equitable policy. But as you think about it more the policy becomes foolish. As we have seen in California, the fate of revenues increasingly depends on a fewer and fewer number of taxpayers. In California estimates suggest that 140,000 taxpayers make or break the system - based on the number of individual taxpayers that is probably less than one tenth of one percent of total taxpayers. If those people decide to delay income (which they can) or to leave the state (which they have) revenues become even more volatile. The second problem is even more important, if you have a third or more of our citizens not paying into the income tax system, then there is a good chance that a good portion of the non-taxpayers will be less capable of understanding the dynamic effects of tax changes. Who cares if rates are raised - it is on someone else.


Lee said...

But income tax is just one sub-set of all taxes. Consumption taxes have risen and and those in the "I make so little I don't need to pay income tax" group can't dodge those.

And it doesn't seem that the growth of non-income-tax paying folks has reduced the number of people complaining about taxes.

Dr. Tax in Sacramento said...

Some of what you say is correct. However, the ratio of consumer taxes (sales taxes) at the state level has actually gone down in recent years as rates have increased. That is a function of the focus of the income tax.

The problem faced is that as you go to a narrower and narrower set of taxpayers - a) people more easily are able to advocate for expansions in government that they actually do not have to pay for and b) the volatility in the system increases. Part of the problem we have face in California in recent years is that as emotionally satisfying as it might be to concentrate the tax burden on a small group of taxpayers it makes lousy fiscal sense because eventually as Margaret Thatcher said - eventually all of the Peters move out of the state or the country and so the Pauls get no support.

Dr. Tax in Sacramento said...

One other comment - we might well do better to move away from income taxes as the major source of tax revenue and into more fundamentally consumption based taxes. But that opens up a whole other set of issues.