Americans Need A Simplified Tax That Retains
Investor's Business Daily
May 10, 2005
By Ernest S. Christian
When the members of the President's Tax Reform
Advisory Panel were handed America's tax code and asked to
fix it, their first reaction probably was to tear it up and
start over. And justifiably so.
The present income tax is a mess, and everyone would be
grateful if there were some way to replace it with a simple,
understandable tax that goes quietly and efficiently about
the task of collecting revenue, minding its own business and
keeping its hands to itself.
Unfortunately, the magic elixir for which everyone yearns
is scarce to nonexistent.
In fact, it is going to be difficult for the panel to find
any politically viable replacement for the income tax. Some
reformers imagine it would be good to have a "flat"
income tax with no deductions.
In reality, flat taxes tend to raise taxes on the middle
class and, in some cases, on businesses as well.
Other reformers, in their zeal to get rid of the income
tax altogether, propose to replace it with a retail sales
tax. But does anyone really think Congress is going to slap
a 30% tax on top of the price of every single thing that Americans
buy at the store or on the Internet?
Even worse, some have suggested experimenting with a two-track
system that combines the characteristics of an income tax
and a sales tax.
Wholly apart from their own inherent defects, all these
and other similar grandiose schemes appear to be disqualified
for another reason: They violate President Bush's instructions
to the panel that tax benefits for homeowners and charitable
givers be preserved.
The solution may be a more circumspect but powerful bipartisan
proposal originally called the USA Tax.
USA was first developed more than a decade ago by Pete Domenici,
a Republican senator from New Mexico, and Sam Nunn, who was
then a Democratic senator from Georgia. They wanted to "strengthen
America" by removing the tax impediments to personal
saving and business capital investment.
But they did not want to go off in some radical, experimental
direction. Their proposal stayed within the bounds of the
familiar and had an impeccable intellectual pedigree, being
partly based on concepts developed by David Bradford, a professor
at Princeton who died. For a time the USA Tax attracted considerable
interest - from members of the Senate, important academics
and the Treasury Department.
But the method it used to eliminate the double tax on savings
was judged by tax practitioners to be too complicated.
This defect was cured and other important changes were made
in the USA Tax by a reform-minded Republican on the House
Ways and Means Committee - Phil English.
The resulting Simplified USA Tax -- called SUSAT -- may
be the key to achieving a simple, plain-language tax code
that is conducive to economic growth.
SUSAT takes from both the existing tax on net income and
from the related concept of a tax on business value added.
But it takes only those parts that Americans like and discards
SUSAT allows taxpayers the familiar personal deductions
for home mortgage interest, charitable giving, and the traditional
personal and family exemptions.
Personal income is taxed at progressive rates - except that
those rates are much lower and flatter. SUSAT leaves out an
array of other deductions and credits that apply to some individuals
but not to others.
These "special interest" provisions of present
law account for most of the size and complexity of the tax
code about which Americans complain. And they cause tax rates
to be higher than would otherwise be necessary.
Won't Be Taxed Again
SUSAT eliminates the double tax on personal saving by allowing
all people the option of setting up a universal savings and
investment account (USIA) into which they can put after-tax
savings of whatever amount they wish. They can also withdraw
it whenever they wish.
Because the amount put into the account has already been
taxed once, neither accumulations inside the account nor withdrawals
from the account are taxed again.
SUSAT's truly landmark achievement is a complete rewrite of
the basic provisions of the current income tax -- the ones
that people rely on and that are important to them -- in simple,
plain English. It is less than half the size of the current
income tax code.
SUSAT also rewrites the corporate tax, jettisoning hundreds
of special rules that are no longer necessary because SUSAT
treats all businesses alike, lowers the business tax rate
to 12% and allows first-year expensing of capital equipment
It also excludes export income and foreign-source income
from tax in order to let American companies compete in the
world marketplace on the same basis as their international
Most versions of SUSAT also include a 12% tax on selected
imported goods and services sold into the U.S. market by foreign
companies - but only in those circumstances where the effect
is to collect a tax from the foreign company without materially
increasing U.S. prices.
Heeding WTO Rules
SUSAT's exclusion for exports - which some people previously
believed required adoption of a European-style value added
tax - is accomplished by two simple amendments that convert
the existing corporate income tax into an "indirect tax"
within the meaning of World Trade Organization rules. The
WTO simply requires that all dividends, interest and wages
paid by a business be included in its tax base.
Dividends paid to shareholders are nondeductible under present
law and thus are already part of the business's tax base.
Wages are now deductible, but the bulk of those wages are,
in fact, already included in the business' tax base by virtue
of the employer's portion of the FICA payroll tax - which
is itself a tax on wages.
Compliance with WTO rules can thus be achieved by making wages
nondeductible, but simultaneously allowing a credit against
the corporate income tax for the portion of the FICA tax paid
by the employer.
The only remaining step required to complete compliance
with the WTO rules is to make interest payments on newly issued
corporate debt nondeductible.
The resulting inclusion of interest in the payer's tax base
- while different from present law - will be offset by the
fact that this same interest will be excluded from the bondholder's
tax base when received by another corporation or, in the case
of an individual, when received in a USIA account. In both
cases, interest will be taxed only once.
Thus, while mostly staying within the familiar framework
of the existing income and payroll tax system, SUSAT simplifies
the existing tax code and achieves major economic goals of
tax reform in the domestic and international arenas.
Also, it meets the most important requirement of all: SUSAT
can be understood by Congress and the American people and,
therefore, stands a good chance of being enacted into law.
Christian is a former Treasury tax official who is director
of the Center For Strategic Tax Reform in Washington, D.C.