Our divisive tax code

The current “fiscal cliff” drama drives home, once again, how incredibly divisive our current tax structure is.  For a nation that prides itself on unity – why, it’s right there in our name! – the United States is remarkably tolerant of a pervasive government policy that works overtime to divide us.

It’s not just the “progressive” principle that compels higher income brackets to pay higher rates.  We could probably handle navigation through a few different tax brackets without splitting up into warring camps.  As President Obama has lately been reminding us, to cushion the blow of the tax increases he wants, everyone pays the same effective rate on the first X dollars of income, then the same higher rate on the next Y dollars of income.  The number of people who don’t pay anything is probably more socially divisive than the high rates on the top layers of income.

But it’s not really the low rates at the bottom of the progressive tax pyramid that remove so many people from the tax rolls altogether.  It’s the deductions.  The maze of deductions taxpayers are made to run through serves three socially aggravating purposes:

1. It obfuscates the actual amount of money the government takes from various citizens, as effective rates become quite different from nominal rates.  This curtain of obfuscation can be raised or lowered as necessary by class-warfare con artists.  Sometimes they speak only of the nominal rates, but they can suddenly begin complaining about the deductions taken by the Evil Rich at the drop of a top hat.  They’ll portray class-war targets as somehow “cheating” or “dodging” their “fair share” of taxes, merely because they take intelligent advantage of the tax deductions legally offered to them… even when the high-income taxpayers have deliberately modified their financial behavior in order to earn those deductions, precisely as the government wanted them to.

2. Tax deductions are an instrument of control.  Certain things must be done in order to earn the deduction.  Contrary behavior is penalized by higher effective tax rates.  Voters can be frightened… or threatened… with the elimination of tax deductions they rely upon to reduce their tax exposure.

3. Deductions remove a disturbingly large percentage of the people from the income tax rolls altogether, leaving them without “skin in the game” when tax policy is discussed.  This creates a built-in mechanism of social pressure for class warfare and government growth.

Of course, those people who manage to evade income taxes really do have skin in the game.  They pay plenty of other taxes, many of which they are unaware of.  This secrecy is also deeply divisive, because it leaves some people far less aware of how much money the government is taking from the economy.  It’s probably fair to say that most people at the bottom of the income ladder believe they pay far less in taxes than they actually do.  This increases their perception of themselves as somehow immune to the appetite of Big Government.

But they also underestimate how much other people pay, and what indirect sacrifices must be made to earn deductions and minimize tax exposure.  A typical entry-level worker filling out a 1040 or 1040EZ has no idea what it’s like to fill out the tax forms of a small  businessman, self-employed contractor, or investor.  They don’t appreciate the value of opportunities lost in the quest to keep tax payments low.  They don’t realize how much their employers actually pay for their labor, above and beyond gross wages and the most obvious benefits.  They don’t think about the way corporate taxes filter down to consumers.  People who have never taken enough deductions to trigger the Alternative Minimum Tax has no idea how it works, or how heavy of a burden it can be.  It simply does not occur to them to wonder about such things.  We all put our backs into turning the wheels of government, but for a great many Americans, the bulk of that machinery is completely invisible.

Most divisive of all is the way our tax system creates entirely different categories of income, taxing them through completely different systems.  Personal income, corporate income, capital gains, dividends… it’s all different, and it makes many of us tragically unaware of the burden carried by others.  When someone like billionaire Warren Buffett talks about slapping a high, inescapable minimum tax on people who earn a great deal of annual income, he’s not really talking about himself.  He doesn’t make his money that way.  His wealth comes from the value of his assets and the return on his investments, not the kind of income most of us envision when we think about our paychecks.

If all of this taxation was unified, simplified, and streamlined, it would be much easier to listen to the demands of socialists for the rich to “pay their fair share.”  Their fair share of what?  We are told we must come together for a national discussion of tax and spending policy, but we’re speaking dozens of different fiscal languages.  We are “judging” one another on the basis of laws that few of us understand.  In the shadows of that incomprehension lie some dangerous pitfalls.  Most treacherously, we’ve been taught that we really are functionally divided from one another – that some can be forced to give more, without a negative effect upon others.  If we were all paying the same taxes, in the same way, on the same sources of income, that dangerous lie would be much more difficult to sell.