April 12, 2016

April 12, 2016 | Commentary on Tax Reform, Flat Tax

Unleash the Power of Real Tax Reform

Tax reform often seems like an elusive goal. But as we mark another Tax Day, conservatives should be pleased about where we are on this issue. We’ve come a long way in just a few years.

The ideal tax reform would lower tax rates on families and businesses and establish a consumption tax base. A consumption base doesn’t necessarily mean a sales tax. It means any plan that doesn’t tax saving and investment multiple times like the current one does. A flat tax, for example, is a consumption tax.

In 2012, Mitt Romney released a tax plan when he was running for president. The plan made many improvements to the tax code, but it wouldn’t have allowed the economy to grow at its potential because it didn’t move far enough toward a consumption tax.

His plan lowered rates and broadened the tax base, which was good. However, he severely constrained the plan by adhering to revenue-neutrality — meaning his plan raised the same amount of revenue as the current system. So he couldn’t lower rates or reduce tax on saving and investment enough to get strong growth effects.

To be sure, the economic climate was much different four years ago in a way that made proposing tax cuts difficult. Deficits were historically large, and revenues still were well below historical norms owing to the Great Recession.

Two years later, Dave Camp, then-chairman of the tax-writing House Ways and Means Committee, released his draft tax reform proposal. In many ways, Mr. Camp’s draft mirrored Mr. Romney’s. It reduced rates and broadened the tax base, but it, too, fell prey to revenue neutrality. The plan didn’t reduce rates enough or substantially cut taxes on saving and investment.

Both plans feel like the distant past now. Several past and present presidential candidates — from Jeb Bush and Marco Rubio to Donald Trump and Ted Cruz — have released tax-reform plans that break the Romney-Camp mold.

And with good reason. The economy, while still growing more slowly than it should, has improved. That means revenues have increased. That growth, combined with President Obama’s steep tax increases from Obamacare, the 2013 fiscal-cliff tax hikes, and the end of the payroll tax holiday, has driven tax receipts above their historical norm.

There’s ample room for a tax cut now. In fact, one is needed to return revenues to their historical level. Any cuts proposed now can be significantly more pro-growth because they can lower rates further and reduce taxes on saving and investment more than revenue-neutral plans.

To really unleash the economy, any tax reform should:

• Lower individual and business tax rates. It’s especially important to cut the top marginal rates, which would strengthen the economy by improving incentives to work, save and invest.

• Establish the right tax base. Defining the tax base (that is, what the tax code taxes) is as important as lowering the tax rate. The right tax base is consumption, rather than the hybrid income-consumption tax base the current system uses.

• Eliminate tax preferences. More work is necessary to ensure that the base is neutral and does not pick winners and losers, as it does now.

• Simplify the tax system and make it more transparent so taxpayers understand how much they pay to fund the federal government. The sheer complexity of the system makes it difficult to understand the true impact of the tax system, including how much taxpayers are paying to the federal government. Tax reform should strive to make that cost explicit to taxpayers. Once taxpayers know how much of their hard-earned income goes to the federal government, they will be more willing to reduce the size of government since they will better understand how it negatively affects them. A transparent code would be simpler than the current system.

Whether we actually can achieve true tax reform in the near future is a big “if.” But there’s no denying that the conditions are ripe for our elected leaders to make the kind of changes our economy needs. Conservatives should take heart.

 - Ed Feulner is founder of The Heritage Foundation.

 - This piece originally appeared in The Washington Times.

About the Author

Edwin J. Feulner, Ph.D. Founder, Chairman of the Asian Studies Center, and Chung Ju-yung Fellow
Founder's Office

Originally appeared in the Washington Times