The Economist (April 16-22 2005) has reopened the Flat Tax debate, but this time with a potent weapon: facts and empirical evidence from other countries over the last ten years. That’s a welcome new dimension to what has, until now, been mostly an ideological standoff. It has boiled down to this:
Proponents: “The Flat Tax is fairer, and its simplicity promotes growth; everybody gets richer. Ironically, the rich end up footing more of the bill.”
Opponents: “A Progressive tax is fairer. Under a Flat Tax, the rich make out like bandits, at the expense of the poor and middle class.”
[To see which way the evidence is pointing, read The Economist's article.]
The debate is broad, and has too many facets to cover in this post. For example: Should the EITC stay or go? Should mortgage deductions stay or go? Should we flatten the regressive FICA tax too, or leave it alone? What about business taxes? There are many more of those questions, and all of them have emotional and ideological dimensions that are arguably larger than their economic dimension. I’m not tackling those here.
However, there is one aspect of the Flat Tax debate that can be (and needs to be) clarified: It’s not a question about a tax system that’s progressive versus one that’s not progressive. Why? Because the Flat Tax is progressive, and that is a mathematical certainty. Nevertheless, flat-tax-nonprogressivity is frequently an implied premise that’s permitted to go unchallenged. Entire articles in prominent newspapers have been written under that false premise.
Here’s the key: Every “flat” tax proposal I’ve ever read contains an exemption of some size. In other words, the first “X” dollars of anyone’s income is exempted from taxation. (Moreover, any politician who attempted to propose a zero-exemption flat tax would face immediate extinction; it simply will not happen, you can count on it.) Consequently, the effective tax rate (tax dollars as a percent of income dollars) always grows as income grows. It asymptotically approaches the advertised “flat” rate, but never quite gets there.
The chart below illustrates the progressivity of several hypothetical flat tax systems, simplified to illustrate the point. Note that, in every case, anyone with a higher income pays a higher effective tax rate than anyone lower on the income scale. The effective rate is a curve, not a straight line—and that is the definition of “progressive.” The rich not only pay more dollars, but they also pay higher percentages.
Click to enlarge.
Bottom line: There’s plenty to debate, such as the exemption amount, the tax rate on income above that amount, which deductions are allowed, etc. But there’s at least one thing that’s not debatable, and it's this:
The Flat Tax is progressive.
