Tuesday, February 1, 2005

Once, tax policy in Washington was made by responsible people with serious ideas who took the time to analyze and research proposals before putting them forward.

Today, we have tax policy by gimmick — clever, superficially plausible ideas that have never been thought through, which simply won’t work or have negative consequences their supporters steadfastly refuse to acknowledge. The latest is the alternative maximum tax.

This idea was first put forward by Steve Moore, late of the Club for Growth, in a Wall Street Journal article on Jan. 14, 1997.

At that time, his idea was to allow anyone to pay either the regular income tax or an alternative tax of 25 percent of gross income, minus a credit for payroll taxes, not including the employer’s share.

Gross income, as Steve defined it, would have included not only familiar forms of income such as wages, but gifts and bequests and government benefits, which were nontaxable. All capital gains and interest would have been fully taxable, presumably including municipal bond interest, which has always been nontaxable.

Furthermore, it appears Steve was not familiar with the many deductions from gross income allowed by the tax code before one got to adjusted gross income, the figure that is the basis for calculating taxes on individual returns. For example, people would be taxed on contributions to Individual Retirement Accounts and 401(k) accounts, alimony payments and many other things now excluded from AGI.

Why Steve thought this would be a good deal is a mystery. He produced no distribution table, and the 25 percent figure appears to have been picked out of thin air. Tax experts Bill Gale and Robert Reischauer, writing in the New York Times, noted that the only people who would have benefited were those in the top 1 percent of the tax distribution.

In an article in the Wall Street Journal, I pointed out Steve’s plan took one aspect of the flat-rate tax — the nominal rate structure — and ignored all the changes to the tax base contemplated by Robert Hall, Alvin Rabushka, Dick Armey, Steve Forbes and other supporters of replacing our current tax code with a flat rate system.

Yet the tax base — what constitutes income for tax purposes — is far more important than whether we have a single statutory tax rate. The original Hall-Rabushka plan would have taxed only consumption. Steve’s plan would not.

Tax experts know you can get almost any effective tax rate, even with one statutory rate, depending on how income is defined. Ignorance of this sometimes leads foolish people to propose some tiny tax rate, say 1 percent, on all monetary transactions in lieu of the current tax structure. But because the tax would apply to transactions, rather than income, effective rates would vary wildly for people with the same income, businesses would be forced to vertically integrate, and such a tax is probably uncollectible anyway.

These substantive problems killed the “max-tax” for a while, but now Steve is back peddling it again, in a Wall Street Journal article on Jan. 27. It appears the same as the earlier proposal, except that now the rate is only 20 percent — no explanation for the change — and there is no discussion whatsoever of what would actually be taxed. At least before we knew it was gross income. Now, Steve implies it would be AGI. I’m not sure. Also, the payroll tax credit has been jettisoned.

Looking at the Internal Revenue Service’s latest published data for tax year 2002, it appears as if only those making more than $200,000 per year would benefit. They are the only ones with an effective rate greater than 20 percent. Even those with incomes between $100,000 and $200,000 would not benefit because they now pay an average rate of 16.6 percent.

Steve’s plan would massively increase the tax system’s complexity by adding yet another alternative tax system to the already existing Alternative Minimum Tax. However, he says this would decline over time because once people have chosen the new max-tax system, they could never go back. This means they must be concerned not just with how the new system would affect them today, but forever. How, for example, would this affect a couple planning to marry, one of whom is in the new system and one in the old? Who knows?

Space limits a full elaboration of all the technical problems with the max-tax. In my opinion, it is simply not a serious idea. It is tax gimmickry at its worst, the sort of thing that has given us the massive complexity the max-tax alleges to redress. As one top Republican tax expert put it, “Moore is less.”

Bruce Bartlett is senior fellow with the National Center for Policy Analysis and a nationally syndicated columnist.

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