The ONLY way that a flat income tax system could possibly be fair is if it taxed all gross income and eliminated all credits, tax write-offs, exemptions, basically anything that currently allows someone to reduce their taxable income. For example, we would need to:
ELIMINATE LOSS CARRYOVER. Currently, those who have a business-related loss can carry that loss forward and use it as an offset against future taxes owed. Yes, this is what Trump did with his nearly $1 Billion of losses. To be fair, that type of carryover would have to be eliminated. You can claim it in the year it was incurred and that’s it. In my opinion, this should be done under the current tax system. At the very least, there should be a short time limit with respect to how many years a loss can be carried over.
ELIMINATE THE FOREIGN TAX CREDIT. Currently, multi-national companies get to reduce the amount of federal taxes owed to the United States by the amount of taxes they paid to the foreign country where they operate. To be fair, that credit needs to be eliminated so that the corporation pays its full share of taxes to the United States. In my opinion, this should be done now under our current tax system. How is it fair for a foreign country to receive full payment of its taxes while the United States does not? But under a flat tax system, it would be imperative. Otherwise, those multi-national corporations will most likely pay no tax at all to the U.S. Multi-national companies can also currently avoid paying taxes until they actually bring the income back to the United States (repatriation). This, too, must be eliminated.
ELIMINATE TAX EXEMPT STATUS. Currently, non-profits such as religious organizations are exempt from federal income tax (and State taxes and property taxes). Churches and very large non-profits take in massive amounts of money through donations. They don’t pay income taxes on that money and the donors get to use their donations as tax deductions. To be fair, under a flat tax system, these organizations should not be exempt from paying taxes on donated funds and donations to these organizations should not be a tax deduction. Understand, of course, that this would affect small non-profits as well.
ELIMINATE ALL TAX EXEMPTIONS. Currently, a taxpayer can reduce the amount of his/her taxable income through exemptions and credits. A married couple with 2 children can reduce their taxable income by 4 exemptions with each exemption worth $4,000 ($4,000 x 4). To be fair, these exemptions will also need to be eliminated. A person who earns, for example, $40,000 should pay the flat tax on $40,000 whether that person is single, married, or has children. Otherwise, the married couple will be paying far less taxes then a single person ($3,600 vs. $6,000 in taxes using a 15% tax rate just on gross income alone).
ELIMINATE ALL DEDUCTIONS. Deductions allow people to reduce their taxable income. To be fair, a flat tax system must eliminate these deductions. Otherwise, only those who have deductions such as mortgage interest or very large medical expenses or large donations will receive a benefit. There can be no deductions that will reduce the amount of taxable income, including the Standard Deduction which is currently used by those who do not have enough deductions to itemize on a Schedule A form and which is different for married people, head of household, single taxpayers, and those who are over 65 and/or blind.
ELIMINATE ALL TAX CREDITS. Tax credits reduce the amount of a person’s tax liability (as opposed to the amount of their taxable income). To be fair, all of these credits need to be eliminated as well – the education credit, the earned income tax credit, the additional child tax credit, fuel tax credits, energy credits, and so forth.
ELIMINATE ALL BUSINESS EXPENSES. Currently, businesses pay taxes on their net income (gross income less expenses). To be fair, these expenses need to be eliminated since expenses can always be manipulated in order to lower taxable income. The only deduction businesses should be able to claim would be the amount paid out as salaries or wages since their employees will be paying the taxes on that.
TAX ALL INCOME FROM ALL SOURCES. This means that money received from a life insurance policy, currently not taxable, would be taxed. Other inheritance, child support, damages for personal injury, payments in lieu of worker’s compensation, veteran’s benefits – basically all sources of income now considered non-taxable – must be taxed.
In short, for a flat tax system to be really fair, everyone including corporations, must pay the flat tax rate on ALL income with NO deductions or credits or exceptions. People need to understand this because when politicians talk about a flat tax system, they usually are not talking about a completely flat or fair system. Their flat tax system will inevitably have exceptions. But if we start making exceptions because one group thinks that they should be allowed a certain deduction to reduce their taxable income because they have children or a business insists that it needs to write off expenses to remain profitable, etc., then the system is no longer flat or fair.
The rate of the flat tax is also important because the amount of tax revenue collected must be sufficient for government to operate. There must be enough funds for the military, for emergency relief, for infrastructure, education, and social programs because no matter what, there will be people in need such as abused and abandoned children or those who have physical or mental challenges and we, because we are Americans and not citizens of some third world country, are morally obligated to care for these people.
What would be a fair tax rate that would still generate sufficient tax revenue? I’m not sure, but I do know that there are currently 7 tax brackets. Those with the lowest income pay taxes of 10% for income up to $9,275 (single) or $18,550 (for married couples filing jointly). Income above those amounts are then taxed at 15% and then after a certain amount at 25% and so forth. That means that a flat tax rate of say, 20%, would increase the amount of income taxes paid by the lowest income groups. Those who would benefit tremendously would be those who currently fall within the 25%, 28%, 33%, 35%, and 39.6% income tax brackets.
Finally, a flat federal income tax rate doesn’t help you on the State level. Seven U.S. states currently have no income tax: Alaska, Florida, Nevada, South Dakota, Texas, Washington and Wyoming. That sounds attractive, but most of these States have high sales taxes, gasoline taxes, or property taxes. It might be better to lower those taxes which are paid by ordinary people and impose an income tax which would apply to corporate income as well. Wyoming and Alaska get revenue from oil and coal. When that runs out, so will a huge chunk of their revenue.
The point is, striking a balance between what is really fair and what is needed to run this country is not as simple as some people make it sound, especially those politicians who like to blame the IRS for the tax laws when those laws were actually passed by Congress. To determine what is fair, you need to understand how taxes work and not just be in favor of something that sounds great but could, in reality, hurt you.