Flat tax leads to fairness
Giving the federal government more money would be like giving a cocaine addict more cocaine. That was the response of the highest-ranking Republican in the US Congress, John Boehner, to Barack Obama's plan to raise taxes to reduce the US budget deficit.
On Monday during a 20 minute speech on the White House lawn the President announced he wanted to increases taxes on families earning more than $250,000 a year.
The strategy is based on the idea that when everything else fails, tax the rich. In 2009 Obama got it right when he said "normally you don't raise taxes in a recession, which is why we haven't". Now he's calling for "everyone to pay their fair share". It shows what a difference dismal approval ratings and unemployment above 9 per cent makes.
Obama repeated Warren Buffett's claim that "millionaires and billionaires" pay a lower rate of tax than average salary earners. In a now infamous opinion piece in The New York Times in August, Buffett complained that last year he paid only $US6,938,744 in federal government taxes. He calculated that this amounted to 17.4 per cent of his taxable income compared to the average rate of 36 per cent paid by the other 20 people in his office.
If Buffett wants to pay more tax there's an easy solution. He can. And.if he thinks taxes should go up he's perfectly entitled to express his opinion and support political candidates who agree with him. Next month Buffett will be speaking at a fundraiser in Chicago for Obama's re-election campaign. The price of a ticket is $US35,800 per person. The event will be held at the home of a former managing director of Goldman Sachs. Presumably Buffett would prefer potential attendees to the dinner to pay $US35,800 to the Democratic Party than to add that amount to their next tax bill (Last year Obama awarded Buffett the Presidential Medal of Freedom. Obviously ''freedom'' is in the eye of the beholder. Friedrich Hayek, a champion of free-market capitalism, was awarded the medal in 1991.)
The explanation for the different rates of taxation paid by the staff of Berkshire Hathaway is that in America, as in Australia, tax is levied on income at varying rates according to the source of that income.
In the United States salary income of the middle class is taxed by the federal government at the 25 per cent marginal rate. Investment income on capital gains and dividends is taxed at 15 per cent.
As Buffett points out the income of the "mega-rich" is primarily investment income. Obama said on Monday, "Warren Buffett's secretary shouldn't pay a higher tax rate than Warren Buffett". This is the President's justification for the imposition of minimum rate of tax on millionaires.
Buffett's anecdote is cute but it doesn't match reality. According to the Internal Revenue Service the average rate of US federal income tax paid by those with annual incomes of between $US500,000 and $USl,000,000 is 24.1 per cent.
The average rate for those on incomes of between $US50,000 and $US100,000 is 8.9 per cent.
Of course there's a simple solution to the issue of different tax rates paid by Buffett and paid by his secretary. A flat tax. A flat rate of personal tax is in theory simple, efficient, and fair. The problem lies in the practice.
As Institute of Public Affairs Research Fellow Sinclair Davidson of RMIT University identified a few years ago in a research paper we already have a range of flat taxes, most notably the GST and company tax.
The challenge is to apply a flat rate of tax to personal income. A flat rate of income tax at 30 per cent without an income-free threshold would be broadly revenue neutral but 90 per cent of taxpayers would pay more tax. That makes it politically impossible and is why John Howard ruled out a flat rate tax when he was prime minister.
A tax rate of 30 per cent with a taxfree threshold of $US30,000 is politically more saleable as no one would pay a higher rate of tax but it would cost at least $US40 billion, which is about the same amount as the cost of the national broadband network.
A flat tax is the last thing Buffett or Obama would ever contemplate.
For that matter it is the last thing Wayne Swan would contemplate too. For all of the treasurer's talk about wanting "robust" debate about tax reform at his forum next month, no one will dare utter a word about flat tax.
Instead of debating real tax reform, tax aficionados will discuss whether the GST rate should be lifted by one percentage point or two.