In case you haven't been paying attention, problems with the
fiscal situation in the U.S. have reached
. The federal government has run some of its largest deficits in
history, and the sluggish economy has put a limit on how much tax
revenue the government can collect to offset massive federal
As a result, people are discussing the
inequities of the current tax system
and whether better alternatives exist that could help solve some
of these problems. On one side, some believe that Congress should
allow the tax cuts passed nearly a decade ago to expire,
sending marginal rates up
somewhat from their current levels. Others espouse radical
departures from current tax policy, such as presidential
candidate Herman Cain's 9-9-9 tax proposal.
In this article, I'm not going to find the magic answer that
solves America's problems in one fell swoop. But what I
do is reveal one secret that no one seems to understand -- but
which could make any eventual solution a whole lot more
productive. It comes down to this:
Stop changing the rules!
I won't deny that arguments on both sides of the debate over the
"fairest" tax system
have some merit. Raising taxes in the middle of a near-recession
could push the economy over the brink. Yet those who point to
income gains being concentrated among top-income taxpayers
reasonably want more equitable distribution of the products of
But what we've dealt with ever since the tax cuts in the early
2000s is that there's no certainty about what the tax laws will
be in the future. Consider:
- This year, employees got a 2% boost in after-tax income
thanks to a temporary drop in payroll taxes. Will that break
expand, as the Obama administration has proposed, or return to
its old higher level?
- Last year, millions of taxpayers got their first chance to
convert retirement accounts to Roth IRAs. Yet many are scared
to do so because they don't trust Congress to keep Roths
- Long-term investors love the lower taxes on capital gains
and dividends. But with those provisions slated to expire at
the end of next year, there's no certainty about the taxes
you'll pay in the future.
All of these issues exist, but they're hard to quantify.
Fortunately, there's one concrete example of this phenomenon that
is among the most controversial discussion topics today.
Bring the money home
Thanks to quirks of the U.S. tax system that are too complicated
to explain in a short article, U.S. corporations have a big
incentive to keep money they earned overseas rather than
returning it to their domestic businesses. In an effort to try to
capture some of the lost tax revenue from this money, the
government allowed companies to repatriate overseas cash at a
lower rate back in 2004.
Many companies jumped at this opportunity. Some of the biggest
were health-care giants
) , and
Johnson & Johnson
) , with Pfizer topping the list at $35.5 billion. In addition,
) also took advantage of the opportunity to pay roughly 5% on
that income rather than the nominal corporate tax rate of
Now, this issue has come up again, because companies
their overseas holdings after the 2004 tax break. The reason:
they expect the same sort of rule-change to lead to a lower tax
bill. In other words, they'd be idiots to pay the tax rate on the
books -- only to see weak-kneed legislators give in on a
supposedly one-time break. And a coalition of companies and other
interested parties, including
(EMC) , want to see incentives to bring that foreign capital back
to U.S. shores -- at attractive tax rates for them.
Similarly, taxpayers routinely wait for favorable changes
before making decisions that incur tax. The reason that capital
gains cuts lead to increased tax revenue is that taxpayers are
smart enough to wait for them, holding back on high-tax sales
until they can get the best rate possible.
In the end, it isn't as important what rules lawmakers pick as
their tax policy as it is that they decide once and for all what
they'll be. Near-constant rule-changing only encourages
enterprising taxpayers to work harder to escape paying what some
would say is their fair share. If lawmakers ever learn that
lesson and stop messing with the tax laws, everything will
eventually look a lot fairer in the long run.
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