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The Fair 55 Tax Reform Plan (Part 9)



Michael Caryl Fair 55 Tax Reform

The Fiscal Scorecard illustration provided for the “Fair 55 Tax Reform Plan”© is designed to simply demonstrate, that, on a static basis, when certain assumed tax rates are applied to a newly defined broad base of a few simple primarily consumption taxes, unencumbered by a myriad of exceptions and preferences which characterize today’s structure, a revenue-generating capacity, at least comparable, and ultimately superior, to the existing system, will result. Of course, as discussed in section B. supra, to achieve the optimum level of government funding, based on the policy debate of that question, it is prudent, and probably practically necessary, to first establish the substance of a fair and efficient structure through which the ultimate public expenditure policy is implemented.

However, to responsibly determine the final form of such a structure, dynamic econometric modeling must be done which shows both the shifting of burdens among different industrial sectors and organizations as well as the aggregate revenue yield and overall economic effect of the new structure. The GCFT did just that, and, ultimately was able to demonstrate in an objective manner, that, though there was burden-shifting (generally from makers and sellers of goods to supporting service industries), all industrial sectors were expected to grow and thrive under the reformed structure it proposed.

Further steps, which should be taken, include (as did the Legislature-driven tax reform effort of the mid-1980s), a few years of the filing of parallel information returns before full implementation of the co-dependent aspects of the Fair 55 Tax Reform Plan©, consisting of the repeal of the taxes on earned income and TPP, and the imposition of the ECT, occurs. The limitation of that “dry run” process, of course, is that, inherently, its results reflect the outcome as if the new structure were in place but is being applied to the results of economic-decision making influenced by the prior system. Even with that important conceptual limitation, the results of the information return program accompanying the mid-1980s’ business and occupation tax (BOT) repeal, etc., accurately confirmed what painfully came true, to-wit: that the replacement taxes (i.e. business franchise tax (BFT) and an 50% increase in the CNIT rate) were manifestly inadequate to generate revenues to fully offset those lost due to repeal of the BOT. The real fiscal pain came soon thereafter, when, starting in 1989, the actual new tax burden was increased more than 50% to make up for what would have been the resultant unconstitutional budget shortfall (and then some). Equally unfortunate then was the fact that it has now taken thirty (30) years, after that “reform” to finally shed, by phased-out repeal and reduction, the uncompetitive burden of those replacement taxes and higher rates.

A better, more responsible approach is to implement what can be done immediately, upon legal authorization, such as adoption of the broader-based GCT in place of the current consumers sales and use tax, but to phase out the other replaced taxes (i.e. the current income tax on individuals’ earnings and C corporations’ profits, and the tax on TPP as applied to everything but the immediately exempt motor vehicles, etc.) and to concurrently phase in the replacement tax, to-wit: the ECT, all based on achievement of stated multi-year fiscal milestones. This was exactly the approach the State took in successfully phasing down the rate of the CNIT based on achievement of minimum levels of surplus revenues in the rainy day funds.

Finally, as one of the cornerstones of this proposal, and the ultimate means by which it can be said to achieve maximum fairness (to taxpayers as a whole, among taxpayers and to the government as the taxpayers’ public servant), it is proposed that these changes be implemented through an amendment to West Virginia’s Constitution. Thereby, the existing tax structure would be phased out, to the extent necessary as explained above, and the simpler, broader-based consumption tax structure, as succinctly described in the express language of the amendment, would be implemented on the same timetable. The description of the new structure in the amendment would include, not only a description of the bases, but also the initial rates, of the two, simple replacement consumption taxes (the GCT and ECT) and of the few retained other general fund taxes.

Of course, under the amendment, the Legislature would retain the full power to later change the initial rates as circumstances evolve, and the recurring debate over the proper size of government is settled, resumed and resettled from time to time. However, essential to the concept on which this proposal is based is the additional constitutional rule, in the amendment, that any change in the rate of the GCT, the ECT, the DPIT (until its full phase-out) or the severance tax, would automatically cause a change in the rates of the other three taxes that is exactly proportionate to the respective mathematical relationships among the initial rates of each of those same taxes. Thus, a 5% increase in the rate of the severance tax (from 2.5% to 2.625 %), would also automatically require that the rates of the GCT and the ECT be raised from 5.5% to 5.775%, and the 3% rate of the limited DPIT (assuming it has not sunset under its own terms) would be increased to 3.15%.

Thus, through a structure, which the voters have overtly endorsed as “fair,” the people’s representatives in the Legislature would determine, from time to time, the proper level of government spending and taxation in light of evolving circumstances. The fiscal discipline and political accountability imposed by such mandated linkage of the rates of the major taxes would be almost unprecedented in its power to assure that actual levels of government taxing and spending had broad public support. Though certainly rare in the public revenue systems of the states of the U.S., and of nations which are home to free market economies, there are actual examples of that structure to be found.

Specifically, an example of the linked-tax-rate principle can be found very close to home in that it has been constitutionally embedded in West Virginia’s own multi-rate property tax classification system for over three-quarters of a century. That is, subject to the maximum rates for each of what are now, functionally, two rate classifications, there is little doubt that the mathematical relationship between class II, on the one hand, and classes III and IV, on the other, must always be one to two. See, e.g. WV Code §11-8-6e(b)(5). Another example of the arrangement could be found in the Midwestern state of Iowa the law of which provides that, “residential and agricultural classes of property are tied together for purposes of determining allowable growth in taxable value.”

The best example of a full-scale implementation of the linked-tax-rate principle, applied throughout an entire sovereign jurisdiction, is found in the eastern European nation of Estonia. Estonia (population: 1.3 million) is a democratic republic, home to a free market economy and a member of the Organization for Economic Co-operation and Development (OECD). Estonia also excels in competitiveness. Thus, “[a]ccording to [a recent] year’s International Tax Competitiveness Index, Estonia has the most competitive tax system in the developed world.”

An important aspect of the tax structure of Estonia is a one-to-one ratio between the corporate income tax rate and the personal income tax rate, “[t]he business rate also is 21 percent and it will drop in lock-step with the personal income tax rate.” Estonia recently dropped both tax rates to 20 percent, maintaining the proportionality of the two rates.

Another authoritative report recommends that “Congress should look to the example set by Estonia. A tax code that correctly defines business income and eliminates all the biases against saving [and] investment would be a boon to US investment and economic growth.”

Wales and Scotland also recently saw legislation which proposed tying together the different bands [brackets] of income tax rates, meaning a change in one would require proportionate changes in all. “The lockstep, for those among you who have better things to do than focus on fiscal devolution, was the clause of the Wales Bill that would have ensured any higher or top rate.”

Thus, though there is a paucity of precedent for the synchronized tax rate principle, the best example of a jurisdiction which actually did implement it (Estonia) is highly regarded with respect to the competitiveness of its tax system. Moreover, leading public finance commentators express support for the concept. Specifically, the Mirrlees Review “brought together a high-profile group of international experts and early career researchers to identify the characteristics of a good tax system for any open, developed economy in the 21st century.” Mirrlees states that, “too often policy on corporate taxes, personal income taxes, and taxes on savings are designed almost in isolation. The result is inefficiency, complexity, and opportunities for avoidance.” Mirrlees suggests looking at the system as an integrated whole. Thus, “the way that different tax rates fit together matters, as does being clear about the role of each tax within the system.”

The principle of proportionality among the rates of different taxes emphasizes the way the taxes are integrated in a coordinated system of taxation. Tying the different tax rates together and maintaining proportionality among them is an effective way to preserve the overall structure of a tax system. The Institute of Economic Affairs, a UK-based think tank, suggests “a reduction in corporation tax rates to the basic rate of income tax [and also proposes] maintaining the link between the basic rate of income tax and the corporation tax rate as a basic principle of the tax system.”

This would have the effect of keeping a one-to-one ratio between the corporation tax rate and the basic rate of income tax. Daniel Goldberg, a professor of taxation law at the University of Maryland, says that, “these top rates should be tied together in structure, so that they could be increased or decreased in later years only simultaneously, not individually or separately.”

Such rate synchronization maintains the original balance designed into a coordinated tax structure. Peter Katt, a nationally recognized financial services expert, providing a thoughtful and real-world perspective beyond the public finance academic circle, suggests linking income tax and sales tax. He says, “requiring that any future increases or decreases in either income tax or national sales tax must be done in unison on a proportional basis.” Katt would justify that linkage because it “would give us a greater sense of shared citizenship because every adult would have a stake not only in government spending decisions, but also in how government is funded, while still retaining a sense of fairness necessary to obtain bipartisan support.” Also, “[l]inking a very low national sales tax with income tax rates is very visible and combines tax fairness with maximizing the number of citizens with a stake in paying for government.”

Conclusion

The late United States Senator, Russell B. Long, who long-served as chairman of that body’s Finance Committee, was famous for expressing an approach for tax reform to be “don’t tax you, and don’t tax me, tax the fellow behind the tree.” Only when we abandon that cynical approach to reform of our public revenue systems will we truly achieve a tax system that is respected by all who contribute to it and who, in turn, are benefited by the responsible use of the revenues it generates. Likewise, only when we adopt a simple, transparent system, which effectively fosters private investment, economic growth and expanding opportunities for citizens’ self-reliance, should we seek the consent of the governed to collect and expend pubic revenues in their name and for their benefit.


Have a tax question, contact Michael Caryl.

The Fair 55 Tax Reform Plan (Part 1)

The Fair 55 Tax Reform Plan (Part 2)

The Fair 55 Tax Reform Plan (Part 3)

The Fair 55 Tax Reform Plan (Part 4)

The Fair 55 Tax Reform Plan (Part 5)

The Fair 55 Tax Reform Plan (Part 6)

The Fair 55 Tax Reform Plan (Part 7)

The Fair 55 Tax Reform Plan (Part 8)

I am an Editorial Associate at TaxConnections providing you with tax news from around the world.

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