Fixing a Broken Tax System
America's complicated tax system needs a complete overhaul, not
minor fixes. The large role that system plays in many of the
political dramas dominating the daily headlines shows why.
Republicans and Democrats, for instance, are fighting over the
"outsourcing" of jobs to foreign countries. But instead of sniping
at each other, they should look at the corporate tax system. Our 35
percent corporate tax rate is one of the highest worldwide --
higher even than the rate in socialist countries such as France and
Sweden. Should we be surprised that some jobs leave America when
the tax code punishes investors for creating jobs here?
Another issue is corporate "inversions," which take place when a
company defends the interests of its workers and shareholders by
moving its charter from the United States to a jurisdiction with
better tax law. Some politicians call these companies traitors,
even though they are keeping their factories and headquarters in
America. Others want to blame Bermuda and the Cayman Islands for
having better tax laws than us. But wouldn't it be a better idea if
politicians fixed the problems in the tax code -- such as the fact
that the IRS imposes a second layer of tax on companies trying to
compete in global markets?
Politicians also have been squabbling about a recent General
Accounting Office study showing that more than 60 percent of
corporations paid no tax in the late 1990s. It's difficult to make
sense of this study because we don't know whether these companies
paid no tax because of special interest loopholes or whether they
paid no tax because they were losing money. But we do know this:
The entire debate would disappear if we had a flat tax. Under a
flat tax, companies would get no special deductions. They would
simply add up all their revenues, subtract the wages they pay, as
well as other costs, and pay a flat rate on their net income.
The problem isn't just with business taxation. There are plenty of
disputes about personal income taxes as well. Republicans and
Democrats love to argue about whether the "rich" pay their fair
share. Much of this debate is nonsensical, especially since
supporters of big government frequently assert that any household
making more than $80,000 is "rich."
In any event, there is little doubt that our tax code is grossly
unfair. We have no idea whether people like Bill Gates and
Shaquille O'Neal pay too much or too little. We don't want America
to be like France, an envy-ridden nation that punishes people for
being successful. But we also don't want rich people to dodge their
taxes simply because they can hire lots of lawyers, lobbyists and
This is why the flat tax makes so much sense. Every household would
get a deduction based on family size, but then every dollar of
income above that level would be subject to tax. Such a system
would ensure that the rich paid their "fair share," but it would
avoid the punitive tax rates that have caused so much economic
misery in Europe. If you make twice as much as your neighbor, you
pay twice as much tax. And if Bill Gates makes 10,000 times more
than you, he pays 10,000 times more in tax. The flat tax could even
have specific measures to make sure that rich people couldn't evade
taxes on dividends and interest. Taxes on these kinds of income
would be withheld and paid by businesses and financial
Sound too good to be true? Well, it's already working in many
other nations. Hong Kong has had a flat tax for a long time and has
boasted the world's fastest growing economy for the past 50 years.
Estonia, Lithuania and Latvia implemented flat taxes in the 1990s
after getting their independence from the Soviet Union. They've
been growing so fast that Russia decided to implement a 13 percent
flat tax in 2001. Now Russia is booming, and Slovakia and Ukraine
just adopted flat tax systems as well.
Maybe it's time for America to board the flat-tax bandwagon. It's
frustrating to see former communist nations adopt the flat tax
while the United States struggles with an unfair tax system that
combines the worst of class-warfare ideology and the worst of
A flat tax wouldn't be good news for everybody. Many IRS agents
and tax lawyers would have to find new jobs. But that seems an
acceptable price to free America of a broken tax system.
Daniel J. Mitchell is the McKenna fellow in political economy
at The Heritage Foundation.
Distributed nationally on the Knight-Ridder Tribune wire