Next page MAKING TAXES LESS NASTY Make them Transparent Make them Fair Minimize Efficiency Losses and Leaks Minimize Collection Cost

Jump to first page The American Federal Structure A system of assigned responsibilities and revenue sources with three primary levels:

Jump to first page The American Federal Structure A system of assigned responsibilities and revenue sources with three primary levels of government: Federal State Local

Jump to first page The Main revenue sources of the federal level of government are?

Jump to first page The Main revenue sources of the federal level of government are? Income Tax Payroll tax

Jump to first page The Main revenue sources of the state level of government are?

Jump to first page The Main revenue sources of the state level of government are? Sales Tax Income Tax

Jump to first page The Main revenue sources of the local level of government are?

Jump to first page The Main revenue sources of the local level of government are? Property Tax User Fees

Jump to first page TRANSPARENCY?

Jump to first page TRANSPARENCY I Adoption Open legislative process Open hearings Non-retroactive Consistency between elements of tax system Certainty about how change in tax law will change tax burdens

Jump to first page TRANSPARENCY II Administration Payments based on fair and explicit, uniform and impersonal criteria Access to tax procedures and those who administer them Opportunity for appeal and right to fair and impartial judgment Compliance steps clearly communicated Taxpayers should know HOW MUCH they are obligated to pay

Jump to first page TAX FAIRNESS?

Jump to first page TAX FAIRNESS Tax burdens should always be proportional to benefits received -- at least, they should appear to be to the average guy [median voter] Where it isn’t feasible to match burdens to benefits on the basis of usage, ability to pay is usually the best available proxy for benefits received

Jump to first page ABILITY TO PAY TWO ASPECTS Horizontal Equity i.e., treating equals equally Vertical Equity has to do with the relative tax burdens imposed on individuals with different abilities to pay taxes TWO PROBLEMS Assessing ability to pay Pursuit of horizontal and especially vertical tax equity is further complicated by shifts in the incidence of taxes. Laws define obligation, but markets determine incidence.

VERTICAL INCIDENCE TAX DESIGNS INCOMES ($) INCOME SHARES TAX PAID ($) Avg. TAX RATE (%) Equal burden 20 K 180 K 10 % 90% 10 K 50 % 5.6 % Proportional but regressive Samesame 4 K 16 K 20 % 8.9 % Strictly proportional Same 2 K 18 K 10 % Proportional but progressive Same 0 20 K 0 12 % Assume: Government services cost $20K

VERTICAL INCIDENCE TAX DESIGNS INCOMES ($) INCOME SHARES Pre Post TAX PAID ($) Avg. TAX RATE (%) Equal burden 20 K 180 K 10 % 90% 5.9% 96% 10 K 50 % 5.6 % Proportional but regressive Samesame 9.8% 90.2% 4 K 16 K 20 % 8.9 % Strictly proportional Same 10% 90% 2 K 18 K 10 % Proportional but progressive Same 11% 89% 0 20 K 0 12 %

VERTICAL INCIDENCE TAX DESIGNS INCOMES ($) INCOME SHARES Pre Post TAX PAID ($) Avg. TAX RATE (%) Equal burden 20 K 180 K 10 % 90% 5.9% 96% 10 K 50 % 5.6 % Proportional but regressive Samesame 9.8% 90.2% 4 K 16 K 20 % 8.9 % Strictly proportional Same 10% 90% 2 K 18 K 10 % Proportional but progressive Same 11% 89% 0 20 K O 12 % Swedish Model 20K 180K 42k 138K 10 % 90% 24% 76% 8 K 72 K 40 %

Jump to first page The Same Average Tax Rates Can be Produced TWO Ways DECREMENTAL or FLAT TAX Zero percent on income (Y) < 90K; 20 percent on all Y > $90K = avg. rate of 0% on $20K and 11% on $180K PROGRESSIVE TAX Zero percent on Y < $30K; 10% on Y > $30K and < $80K; 15% on Y > $80K and < $200K; 30% n all Y > $200K = avg. rate of 0% on $20K and 11% on $180K

Jump to first page How To Measure Tax Equity For a Random Sample of citizens, estimate: lnT = a + b(lnY) + e Where: T = the TAX BURDEN on each individual (i) Y = the AFFLUENCE level of each i Using Ordinary Least Squares Regression analysis. b measures Vertical Equity, r-square Horizontal Equity

Jump to first page Problem #1 with Ability to Pay Measuring AFFLUENCE Economists would like to use PERMANENT INCOME or NET WORTH, but those measures are unobtainable So we use a proxy

Jump to first page Problem #1 with Ability to Pay Measuring AFFLUENCE Haig-Simons definition of Income = algebraic sum of (1) market value of rights exercised in consumption + (2) the change in the store of property rights between beginning and end of period. Major differences between AGI and HSY are unrealized capital gains and imputed incomes. So we use a proxy Current Income AGI Property Some combination thereof These proxies are not entirely satisfactory

Jump to first page Problem #2 with Ability to Pay Vertical Equity cannot be deduced simply from Rates specified in Tax Law Tax payments are not the same as TAX BURDEN Tax payments can be avoided and evaded, which also affects tax efficiency and compliance costs (avoidance is legal, evasion is not)

Tax Shifting ImpactResponse and Adjustment to Taxes Incidence Forward Shifting: Higher prices to customers for product Business: Makes payment to State Absorption: Lower return to owners of business Individuals: pay higher purchase price or have lower money incomes Backward Shifting: Lower payments to suppliers and employees Note: All taxes are ultimately imposed on people; paying higher prices for things is the same as have less money income

Jump to first page EFFICIENCY?

Jump to first page Tax Avoidance I

Jump to first page Tax Avoidance II Excess Burden of Taxation, SUBSTITUTION: The Triangular Portion of tax wedge is deadweight loss

Jump to first page Tax Avoidance III TAX EVASION INCREASES WHEN TAX RATES ARE INCREASED, INCREASING ADMINSTRATIVE COSTS AND COST TO TAX PAYERS -- BOTH TAX AVOIDERS AND NON- AVOIDERS

Jump to first page Tax wedges

Jump to first page The calculation of deadweight losses is central to a number of policy questions including: which tax measures impose the least burdens or costs on the community to finance a public program or project? how valuable do public projects have to be to cover the full costs of the revenue needed to finance them? and how much redistribution from rich to poor can society afford?

Jump to first page How Much? Studies have typically found that the deadweight losses associated with raising taxation revenue range from a minimum of 10 cents for each additional dollar of revenue raised to well in excess of $1 for each additional dollar of revenue raised.

Jump to first page Depends on? The size of deadweight losses is influenced by a range of factors but deadweight losses are likely to be greatest where the actions of producers and consumers are highly responsive to after-tax prices, where existing marginal tax rates are high and where savings are highly responsive to after-tax returns.

Jump to first page The Marginal Cost of Public Funds

Jump to first page Which is more transparent? Income Tax Payroll Tax

Jump to first page Which is fairer? Income Tax Payroll Tax

Jump to first page Which is more efficient? Income Tax Payroll Tax

Jump to first page Which has the lower compliance cost? Income Tax Payroll Tax

Jump to first page Are they adequate? Income Tax Payroll Tax

Jump to first page When we assess federal tax policy Should we lump the income tax and payroll taxes together or discuss them separately? Should we consider spending simultaneously?

Jump to first page EFFICIENCY 1.Keep Tax Rates low a. Broadest possible tax base b. Use portfolio of taxes -- income, wealth, consumption 2.Avoid different tax rates on goods, services, and factors, especially where they are close substitutes (except where you are more concerned about reducing consumption than raising revenue -- tax bsd things not good things) 3.Avoid taxes in markets where buyers & sellers react substantially to changes in price