The current tax system
, with its graduated tax on individual incomes, corporate profits tax on its separate, gift and estate taxes on its the transfer of wealth, and its separate wage tax to fund the Social Security and Wealth system, has many Critics. It is said to cost the country in lost time, economic efficiency, trade, and contentment. Reform proposals have proliferated, ranging from a broader-based, flatter-rate income tax to scrapping the system altogether in favor of a national sales tax or some other form of national consumption tax.
The idea of ??replacing our current income tax system has been a topic of perennial interest congressional. Although many recent proposals are referred by to as ?flat taxes,? most actually go much further than Merely Adopting a flat-rate tax structure and would change the tax base from income to consumption. More recently, the politicians have indicated some interest in seeking a fundamental tax reform, specifically referring to a national retail sales tax
In theory, every country could construct a tax system using one or a combination of three main tax bases. (a) income, wages (b), or consumption
Income and wage-based taxes are familiar and relatively easy to understand. Under a comprehensive income tax, all income, capital or labor from Whether, would be included in the tax base. A wage-based tax would be levied only on income from labor, income from capital would be excluded from the base. Obviously, wages tax base Provide a smaller than income and would require higher tax rates Therefore to raise the same revenue as a tax based on all income.
In its broadest sense, income is a measure of the command of resources to that individual acquires during a given time period. Conceptually, at individual has two options with respect to his income, he can consume it or save it. This relationship means that by definition, income must equal consumption plus saving. This relationship helps in understanding how a comprehensive consumption tax based might be levied at the individual level. An individual would add up all of his income as he does under the current tax system, but then would subtract out his net saving (saving minus borrowing) or add net borrowing. The result would produce a tax based on consumption at the individual level. A consumption tax could also be collected at the retail level as a retail sales tax on final consumption. Or like in Albania and many other countries it could be collected at each stage of the production process in the form of a value-added tax (VAT). With the VAT, firms face a tax on gross receipts less purchases of materials, goods for resale and capital to be used in the business. A VAT can be implemented using either a credit-invoice method or a subtraction method. Another way of collecting the flat tax would split the VAT base between firms and individuals. Firms would deduct wages from their tax base and individuals would pay a tax directly on their wages. Although the point of collection Differs (individual level, retail level, or firm level), when defined comprehensively, the tax base is the same:. ConsumptionRegardless of the form or point of collection, however, a consumption tax is ultimately paid by the individual consumer. Because consumption is smaller than income, a comprehensive consumption tax would require higher tax rates than a comprehensive income tax to raise the same revenue, with a low savings rate Although, the bases (and Malthus tax rates) are very close.
Other developed nations have VATs(of the credit-invoice type), but also have income taxes. Their VATs Thurs not replace income taxes, but rather finance a higher level of government spending.
Probably the most often repeated argument in favor of switching to a flat-rate consumption tax is that it will make the economy more efficient and will increase private savings. When evaluating this argument, however, comparisons should not be made between the current income tax system and ideal consumption of economic efficiency or inefficiency tax. The tax system may be of a judged by its effects on behavior. To the degree that the tax system distorts economic behavior (from what it would be in the absence of the tax), it is Economically inefficient. The distortion Prevents the efficient allocation of resources. Basically, with the exception of lump-sum or head taxes, all taxes, regardless of Whether they are based on income or consumption, distort behavior and affect the allocation of resources. Both of income and a consumption tax distort the choice between labor and leisure. For example, under either tax, the price of leisure is reduced relative to the consumption of individual could finance with at extra hour of labor. An income tax also distorts the choice between present and future consumption (saving) . Under an income tax, the return to savings is subject to tax. This Increases the resources of individual will have available for consumption in the future, and hence raises the price of future consumption relative to the price of present consumption. In contrast, a tax on consumption is neutral with respect to the choice between present and future consumption. The relative price of future consumption in terms of present consumption is the same as if there were no taxes. Many economists have argued, however, that a consumption tax is superior in economic efficiency Achieving (ie, in leading individuals to consume and work in a more optimal fashion) because of the elimination of the distortion between present and future consumption. They base this argument on the simulated outcomes of inter-temporal models, Which virtually always predict a gain in efficiency from the shift from flat rate income to flat rate consumption taxes. One reason for this efficiency gain predicted ? which often does not occur with a shift of income from wage tax to a base is that a consumption tax is the equivalent of a tax on wages and a lump sum tax on existing wealth.
It appears that, on the whole, switching from an income to a consumption tax would probably not produce great improvements in economic efficiency. Nonetheless, even small efficiency gains may be important because they continue year after year. However, similar gains might also connections to be established though income tax reform.
Proposals to shift the tax base from income to consumption to a base (most proposals) would shift the tax burden across generations Substantially. The flat tax, for example, has a consumption base, Although it appears to be a wage tax for individuals. The burden of tax would be shifted from wages and capital income to consumption, Which is equivalent to wages and old capital (both principal and return). Since older individuals own capital, the burden would be shifted to Tend to those individuals.
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