Commentary

The Freedom to Choose Flat Tax

By Stephen Moore
June 9, 1998

Another April 15th has come and gone. Another year of Republicans talking ad nauseam about burying the tax code, but no action. It has been four years now since Rep. Dick Armey (R-Tex.) introduced America to his flat tax plan. Despite Armey’s heroic campaign both inside Congress and across the country (with a lot of help from Steve Forbes), the sobering truth is that we are no closer to flattening the income tax today than we were back in late 1994 when the bill was first introduced.

Why is an idea that is so unambiguously in the national interest — with economic benefits that could easily raise family incomes by thousands of dollars a year — completely stalled politically?

The answer is obvious: because the political hurdles are nearly insurmountable. The flat tax tries — in one fell swoop — to topple every well-funded special-interest lobby in Washington, from tax attorneys, to life insurance agents, to realtors and mortgage bankers. Each of those groups will spend fortunes to protect the hundreds of billions of dollars in tax favors and loopholes they have successfully carved out of the tax code. We got a taste of how insidious and effective the anti-tax-reform campaign can be during the 1996 New Hampshire presidential primary when the housing lobby spent millions of dollars on TV and radio ads against the Forbes flat tax.

The home mortgage interest deduction, the charitable deduction and the write-off for employer-paid health care are three of the most sacred-cow tax write-offs in the internal revenue code. They and other tax carve-outs are so imbedded in the current economic structure and political culture that trying to eliminate them is almost certainly futile — and perhaps political suicide.

It is time for flat taxers to stop trying. Tax reformers must now acknowledge the message that the political marketplace has been sending us for the past few years: the flat tax has broad-based appeal to voters, but there are still many millions of Americans who are emotionally attached to tax deductions and are very suspicious of politicians who want to take them away.

But here’s the very good news. A flat tax does not mean that all Americans will be forced to give up deductions. The politically strategic way to implement a flat tax is to empower Americans with a choice between the current convoluted, swiss-cheese tax code and a simple post-card-return flat tax with zero deductions. I call this approach the Freedom to Choose Flat Tax. Sen. Spencer Abraham (R-Mich.) and Rep. Vince Snowbarger (R-Kans.) have introduced tax choice plans in Congress.

Here is how it works. Starting in 1999 every American would have the opportunity to opt out of the current tax code and instead pay a combined federal payroll and income tax of 25 percent of gross income. (For Americans with earnings of less than $65,000 a year who already pay a 15 percent payroll tax, this plan would create a very enticing 10 percent income tax rate.)

The post-card alternative maximum tax return (see attached form) would have only four lines. All deductions, credits and write-offs would be eliminated. Once a worker freely chose the 25 maximum tax, he or she could no longer migrate back into the old system.

The virtue of the plan is that it is impenetrable to attack and completely disarms the political enemies of tax simplification. It preserves sacred-cow deductions for Americans unless they freely choose to give them up. So it neuters the special-interest group opposition. It passes the “fairness” test with flying colors because the vast majority of Americans don’t think it is fair for anyone to pay more than 25 percent of his income in taxes. The combined payroll and income tax feature means that the most tax savings go to the middle class — the group of voters that will ultimately decide the fate of the flat tax.

Finally, there are no costly and complicated transition rules for getting from the current code to the 25 percent maximum tax. The freedom to choose feature means that workers and companies migrate into the flat tax when it’s advantageous for them to do so. The question is often asked: Would Americans freely choose the flat tax? In most cases, yes. It offers them lower rates, lower overall tax liabilities (in most cases), zero tax preparation costs and a vastly reduced probability of being audited and interrogated by the Internal Revenue Service.

Now a confession. I am not the inventor of the Freedom to Choose Flat Tax. The Hong Kong Chinese are. As the Hudson Institute’s Alan Reynolds explains in his forthcoming Cato Institute study, Hong Kong’s 15 percent flat tax, which is the envy of the world, is optional. Hong Kong also has a convoluted system resembling our own Internal Revenue Code, but the flat tax option has rendered it obsolete.

Amazingly, the biggest adversaries of this common-sense flat tax have been tax reform purists. One avid flat taxer recently wrote in the Wall Street Journal that the freedom to choose flat tax was “worse than no flat tax at all”! (One wonders if such flat tax purists would have opposed the Hong Kong flat tax developed 40 years ago.) The complaint against the Freedom to Choose Flat Tax is that it does not end the double taxation of savings. No it doesn’t. But it gets the tax rate down so low that the double taxation problem is substantially mitigated.

Over the past four years the intellectual case for the flat tax has been made and won. The challenge for tax reformers now is to develop a political strategy for selling the American people on the idea. That will require steamrollering the political juggernaut in Washington that is opposed to change. The game plan for that is simple. Adopt the Hong Kong model. The flat tax will become the law of the land in the United States only if and when Americans are free to choose it.

Stephen Moore is director of fiscal policy studies at the Cato Institute.