Saturday, April 14, 2012

The Tax Reform Post

It's tax day … time for the annual tax reform post.

My proposal for tax reform is a thing called "The Object Tax." This bizarre sounding reform taxes an abstract object between income and consumption allowing us to combine the best of a personal progressive income tax with a consumption tax.

Taxes tend to discourage the thing being taxed. An income tax tends to suppress income and the creation of wealth. Many would like to switch to a consumption tax. It is difficult to make a consumption tax progressive.

Taxing an abstract object between income and consumption allows us to combine the best of both tax systems. Surprisingly, it is also simple to design an implement.

The basic idea is that all "financial objects" have a tax attribute set to N or Y depending on the tax status. In most cases, the "financial object" is a bank account.

The typical experience would be as follows: Your employer would deposit your entire paycheck (with no funds withheld) into a bank account with the tax attribute set to N.

When you go to spend the money, your bank would query the IRS for your tax rate and you would pay a progressive tax at your personal rate.

Let's say you had $10,000.00 in a pretax account and you tax rate was 10%. Your bank account would show that you had only $9,000 to withdraw.

It is possible to re-engineer all of the features of the current tax system. Let's say that you had an expense that was deductible. The program would allow you to pay for that expense without paying taxes.

Do you see how simple this tax system is? You put money in an account. You pay a progressive personal tax when you withdraw the money.

The program eliminates the need for payroll withholding and it eliminates the annual tradition of filing tax returns.

The object tax does more to encourage savings than a standard consumption tax. The tax happens when one transfers money from a pre-tax savings account to a taxed spending account. This encourages people start keeping better budgets.

Capital Gains and the Buffett Rule

The Object Tax solves the problem of capital gains. A capital gains tax has a negative effect on the economy because people make their investment decisions based on the tax and not on the value of assets.

If I have money invested in A, but felt B was a better deal; it would be good to sell A and buy B. The Capital Gains Tax means that I have to pay a large tax when I sell item A, which might discourage me from making a trade. This is a lost opportunity.

The object tax solves the problem. Each tax object has a tax attribute. I could sell investment A and buy investment B without paying a tax. However, if I sold investment A and transferred money to my personal spending account, I would have to pay the progressive tax.

The object tax fulfills the Buffett Rule. Warren Buffett would owe a higher progressive tax than his secretary (assuming his secretary was not in the top bracket).

Inheritance Tax

The inheritance tax is problematic. People have to pay a big tax when money transfers from parents to children. This high tax often forces people to break up small family owned businesses to pay taxes.

The object tax would allow people to inherit the tax status of their parent's assets. So, let's say the parents had a million dollar farm. The children could inherit the farm as a pre-tax investment. They could keep and continue to develop the farm without paying a tax. If they sold the farm, they would have to pay a progressive tax.

Reverse Engineering with Object Technology

The bizarre name for the object tax comes from the field of object oriented design. This is the design technique used to make most consumer and communication software.

One extraordinarily interesting aspect of object technology is that one can use the design technique to model the existing tax code, then transition to the new tax system with minimal disruption. It would be possible to keep all of the current tax code and allow people to transition to a new object based tax code at their convenience.

In contrast, tax reforms like the FAIR Tax and Flat Tax are disruptive. They would result in dramatic and unpredictable consequences.

As with the Medical Savings and Loan, I would love to find a group interested in free market economic reform to discuss the idea. If anyone wants to talk reform, they can contact me.

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