This is an idea I have been tinkering with for some time.  Being tax day, I thought it was appropriate to borgg it.  Please share your reactions!

The Proposal: A Comprehensive, Fair, Flexible & Simple Income Tax

Regardless of debates about how much revenue Government should be raising, we all agree that everyone should pay his or her fair share.  In many ways, the current structure does not provide this.  So, I propose a new income tax system with the following features:
 

• Comprehensive Coverage: All forms of income are to be covered by the income tax: wages, inheritance, gifts received, interest earned, net realized capital changes, government payments, value of employer-provided benefits, etc. 
• No Loopholes: The full amount of income is to be taxed, without any deductions or credits whatsoever.  Although many of these programs serve valuable societal functions (such as deducting interest paid on educational loans in order to lower the cost of college), the tax code is not the place for them for three reasons.  First, although some tax programs are worthwhile, many are not, and if you give Congress a cookie…  We will get a much better outcome if we require that all worthwhile programs are proactively created from the budget, rather than trying to separate good loopholes from bad ones.  Second, the total revenue expected to be forgone by tax deductions and credits in 2010 is $1.1 trillion.  These expenses should be included in the fiscal impact reports of the budget, not buried in the tax code.  Third, those who can afford tax accountants disproportionately benefit from the complicated mess of credits and deductions, many of which are only available to those with high incomes, moreover.
• Individual Assessment: Everyone with an income should pay their own individual income tax.  Why does it matter whether someone is single, married, or head of household?
• Poverty as Lower Bound: Congress should annually set the poverty line.  Anyone whose income falls below that line should pay 0% tax.  Everyone else should pay a progressively larger percentage.
• Linear Rate Progression: Forget tax brackets.  The way they work currently is that if you double your earnings from $30,000 to $60,000, your average tax rate jumps from 13.8% to 19.4% (a 40% increase).  Doubling from $200,000 to $400,000, however, only changes your average tax rate from 26.5% to 30.1% (a 14% increase).  Doubling from $200 million to $400 million only moves you from 34.90% to 34.95% (a .14% increase).  That’s silly.  As your distance from the poverty line increases, your tax rate should increase in a linear fashion.
• Maximum Average Rate: Of course, the average rate cannot increase linearly forever, or else at some very high income level, a person might be paying more than a 100% tax rate.  So, Congress should annually establish a maximum average tax rate.  Anyone beyond three standard deviations from the mean (about the top 0.15% of the population) would pay this rate.  According to the 2005 data available, and using the current income calculations (i.e. with loopholes and a separate capital gains tax), this maximum rate would only need to be about 38% to raise the same revenue as the current system.  (Let me know if you’d like to see my spreadsheet.)  Of course, once my earlier recommendations are implemented, this maximum tax rate could be lowered even further and still raise the same revenue.
• Normalized Rate Function: There are a whole lot of people earning between $3,000 and $30,000 annually, and a diminishing number of people heading upward from there.  Because the population is not evenly divided among income levels, it doesn’t make sense for the tax rate progression to be a function of income.  It should be a function of your relative income.  In other words, if your income percentile increases by 1 (from the 23rd to the 24th percentile, or the 97th to the 98th), your average tax rate should increase by a fixed amount, (according to my calculations for revenue neutrality, .095%).

And this is why the system is so simple.  Literally all that a taxpayer needs to report is one number – total income.  The IRS could then look at the income distribution, figure out which percentile the taxpayer’s income is, and compute the individual’s average tax rate.  The taxpayer then pays exactly his fair share – no tax preparer, no loopholes, no

distended tax brackets.  It’s comprehensive, fair, flexible, and simple.

The Justification: Let’s Correct Opacity, Fraud, Regressivity, and Inflexibility

The Current Tax Code is Opaque
With the tremendous number of deductions and credits available, and the often-misleading marginal tax brackets, it is difficult for many individuals to understand their own tax obligations.  On top of this, there are different taxes for different types of income (earnings, inheritance, capital gains, social security, medicare, etc.).  This not only requires that many get tax preparation assistance, it means that Congress can obscure major policy initiatives in the tax structure.  Tax brackets can be changed independently of the others, and deductions and credits can be inserted and deleted without end.  This is not desirable.
My proposal would make things extremely simple for the taxpayer (requiring only one datum: the total income).  The inclusion of all income, the exclusion of all loopholes, and the hard-coded progressivity would make it very difficult to make the kind of obscure changes that currently occur so easily.  The only variables that Congress would find it easy to manipulate would be the poverty line and the maximum tax rate.  These could (and should) be modified annually in reaction to the economy.

The Current Tax Code is not Easily Enforceable
Owing to the complexity of the current system, it is very easy to hide income, either in the loopholes or overseas.  There is a great article in the Economist if you are looking for more information on this.  It is estimated that the IRS loses over $300 billion in revenue annually.  The comprehensiveness of my proposal would make it much easier to audit fraudulent taxpayers.

The Current Tax Code is not Progressive
From the Economist article I referred to earlier: in 2006, the top 400 taxpayers earned an average income of more than $263 million.  They paid an average tax rate of 17.2% .  Thirty-one of them paid less than 10% in tax.  This is absurd.
According to the Economic Policy Institute, the top .1% earned, on average, 20 times as much as the bottom 90% between 1947 and 1979.  In 2006, they earned 77 times as much.  Inflation-adjusted wages for the average male worker have actually declined since 1970s.  The Gini Coefficient is a measure of income inequality, and ours is rising.  Currently at 46.6, we are less equal than countries like Japan, Germany, the UK, and Iran.  We are closer in inequality to Mexico than we are to Canada. 
So, although the argument is often made that the rich are providing most of our tax revenue, this is only because they have most of the revenue altogether.  My proposal would be much more progressive, because it’s average tax rate slowly increases all the way through the income scale.

The Current Tax Code is Inflexible
As it is now, if the economy enters recession, and average earnings fall, many people will fall into a lower tax bracket.  This means that if the economy slows by 2% of GDP, the tax revenue might fall not by 2% but by 10%.  Of course, this makes it impossible to accurately assess the fiscal impact of any given budget.  “Hey, it’s not our fault we ran a deficit, the economy was so weak that we didn’t collect as much tax as we budgeted for.”
My proposal will be more resistant to this phenomenon.  As the economy turns down, since the tax rate is based on relative income, the structure will return a constant amount.  So, if the economy changes by 2%, the tax revenue will change by about 2% as well.  This system is flexible.
Furthermore, in the event of a downturn, if the Congress decides it is prudent to offer a stimulative tax cut, they can very easily drop the maximum tax rate, which will fairly distribute the tax cut among the entire taxpaying (i.e. not impoverished) population.


I generated this comparison by using the Incomes from the 2005 Census estimate.  Income data above $100,000 is not sorted into such small bins, so it is not possible to accurately compare the two systems.  Based on my extrapolations, however, the blue line above generates the same revenue as the red line.  This is because the blue line maxes out at about 38%, and progresses smoothly whereas the red line maxes out at about 35%, and rises ever more slowly.
Please note, however, that my full proposal would also capture revenue not captured by the red line above, which is expected to lower the max rate even further.