April 28 (Bloomberg) -- Malcolm has $30 billion, a passion for steaks, and a plan to buy 3 billion steaks for $10 each on his next birthday.
But an election is coming, pitting Lefty, from a blue state, against Righty, from a red state. Lefty hates the rich and wants to levy a 15 percent wealth tax. Righty loves the rich and wants to levy a 17.5 percent sales tax.
Everyone knows a wealth tax is progressive and a sales tax is regressive, but Malcolm is scratching his head.
“If Lefty wins, I’ll pay a $4.5 billion tax, which means 450 million fewer steaks. If Righty wins, the price of steaks will rise by 17.5 percent to $11.75, and my $30 billion will buy 450 million fewer steaks. Either way, I’m out 450 million steaks.”
Then Malcolm says, “What if I wait 10 years to have my Here’s-the-Beef Bash? I can double my money and postpone the sales tax. Righty is surely my candidate.”
But Malcolm reconsiders the math and shakes his head.
“If Lefty’s elected, I lose $4.5 billion immediately. I can turn my remaining $25.5 billion into $51 billion over 10 years and buy 5.1 billion steaks. If Righty wins, I can turn my $30 billion into $60 billion over the decade, but, given the sales tax, the $60 billion buys 5.1 billion steaks. It’s the identical story. And if the $10 base price of steak rises, I’ll be in even worse shape, but the same worse shape in both cases.
Moreover, if I forget my birthday and leave everything to my kids, they’ll also fare the same regardless. If Lefty wins, I’ll leave them less money, and if Righty wins, I’ll leave them more money, but with less purchasing power.
In fact, even the timing of the tax’s real hit is identical. Lefty takes my money immediately, and Righty raises my prices immediately. Both immediately take away my purchasing power.”
Malcolm is right. Taxing what you buy is no different from taxing what you have to spend. In other words, taxing consumption is effectively equivalent to taxing current wealth and current and future wages.
We propose a tax reform -- and Lord knows we need one -- that recognizes this equivalence. Our plan taxes all retail sales at a 17.5 percent rate. But if you don’t want to pay the retail sales tax, you can pay, up front, a 15 percent tax on your wages and wealth. Every dollar of tax you pay up front gives you an electronic sales-tax credit, for use when shopping, which exempts $1 of consumption from the 17.5 percent retail sales tax. Unused credits grow with interest, so you aren’t penalized by waiting to spend.
Lefties can elect to pay taxes on their wages and wealth, and righties can elect to pay taxes at the store. Lefties will perceive a progressive tax system because they see it taxing wealth as well as wages. Righties will perceive a regressive tax system.
They will both be happy, though they will both be wrong.
Taxing consumption, either directly or indirectly, at a fixed rate is neither progressive nor regressive. It’s proportional. If you double someone’s economic resources, you double their future spending, and you double their consumption tax payments. This holds even if the resources are spent over time or bequeathed for others to spend.
Since consumption taxation is proportional, we’ve added a monthly payment by Uncle Sam to each household, which depends only on the number and ages of household members. This payment is large enough to ensure that households living at or below the poverty line pay no net tax.
Lefties can call the monthly payment a “demogrant,” and righties can call it a “tax rebate.” Regardless, the monthly payment makes the tax plan progressive. For Malcolm the billionaire, the payment is a pittance. But for a family of four with poverty-level earnings of $22,050, the $3,891 they would receive over the year is major.
Our progressive consumption tax plan replaces the U.S.’s extraordinarily complex, inefficient and inequitable personal income tax, corporate income tax, and estate and gift tax. It taxes all household, government, nonprofit and business consumption of final goods and services. Those suffering economic distress can defer, at interest, paying consumption taxes on the services associated with their homes.
Our overhaul has additional elements. We make the payroll tax that funds Social Security and Medicare much more progressive by removing the ceiling on taxable earnings, now at $106,800. The plan also would exempt employee contributions on the first $40,000 of earnings, index that $40,000 to real wage growth, and require payroll contributions on wages paid in the form of business ownership rights. We tax, at a 15 percent rate, the cumulative value, above $1 million, of all gifts and inheritances received, directly or via trusts.
The plan also would impose transition rules that tax pensions and retirement-account assets on which future taxes are due as well as unrealized capital gains on existing asset holdings.
Our country is saving nothing, investing nothing, growing more unequal, going broke and pulling apart. The current tax system makes these problems much worse. Our plan, called the Purple Tax Plan (www.thepurpletaxplan.org), provides a simple and transparent tax system with much better incentives to work and save, much greater revenue-generating capacity, and much greater equity. Best of all, both parties can call the plan their own.
(Laurence Kotlikoff, professor of economics at Boston University and president of Economic Security Planning Inc., is a Bloomberg News columnist. Andrew Weiss is professor emeritus of economics at Boston University and founder, president and chief investment officer of Weiss Asset Management. The opinions expressed are their own.)
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