Thanks to the IRS scandals, the political ground should be fertile indeed for tax reform. Two senior members of the Senate have announced a bipartisan effort to overhaul the income tax in this session. Orrin Hatch, who just won his sixth and probably final term, and Max Baucus, who announced his retirement at the end of his present term, will take a relatively novel approach to crafting a reformed tax code. Rather than look for deductions, credits, and exemptions to eliminate, they will start with zero and require fresh justification for any proposed additions:
Lost amid last week’s tumult over Edward Snowden and the Supreme Court was a glimmer of hope for tax reform. The Senate’s two main tax writers, Democrat Max Baucus and Republican Orrin Hatch, announced the principle that they are going to rewrite the tax code from scratch and that the supporters of every tax preference will have to justify its continuation.
This is the right principle, both as tax policy and reform politics. The goal of tax policy should be to meet the revenue needs of the government with the lowest rate possible and the fewest economic distortions. Starting with a blank slate helps to show how low the rate can be with a tax code unencrusted by the barnacles of the Beltway.
As a political matter, the tabula rasa principle plays no favorites and forces the Senators on the Finance Committee to judge one tax preference against another and decide which ones matter the most.
That’s true as far as it goes, but it’s not going to solve the problems in the tax system in the long term. The real problem isn’t the morass of exceptions built into the tax code; those are the symptoms. The real problem is the ability of Washington to use the tax code primarily for social engineering rather than straightforward revenue collection. Reform that leaves that power intact isn’t reform as much as it is a simple reset, a lesson we can learn from history, as I argue in my column for The Week:
If we fixed the problem in 1986, why do we need systemic reform again now? Congress and the Reagan administration made the mistake in 1986 of leaving the income-tax structure in place — and keeping the power to manipulate it on behalf of treasured constituencies. It didn’t take Washington long to start pushing the tax code back toward complexity and capriciousness; in 1990, just four years later, Congress pushed Reagan’s successor, George H. W. Bush, into an increase in tax rates that soured his relationship with conservatives, and we have hardly looked back since.
Now, the tax code — for both individuals and for businesses — has a tremendous amount of value for policymakers, and not just for their own electoral interests. Members of both parties push for tax breaks and tax penalties to incentivize or disincentivize a wide variety of behaviors, whether it’s to get investment in green energy, increase savings, or buy a new car — remember the $7,500 credit for buying an electric vehicle demanded by President Obama? The Low Income Housing Tax Credit provides a strong incentive to invest in lower-cost multi-family housing, while the mortgage tax deduction benefits millions by lowering their tax burden by having the rest of the taxpayers cover the interest costs of most mortgages. Thanks to the principles of federalism built into our constitutional republic, this is the only way in which members of Congress and presidents can dictate or incentivize our behavior.
Most of these credits, deductions, and exemptions are very popular. The power to create them is very popular on Capitol Hill and the White House, and in both political parties in the Beltway. As long as that power exists — as it will in the current income-tax system, regardless of how pared down it may get once a generation — politicians will use it. That means a reformed tax system won’t stay that way for very long, even when politicians have the best of intentions. Or perhaps it’s better say especially when they have the best of intentions.
Real reform would be to get rid of the current income-tax structure altogether, in a manner that ensured Congress couldn’t restore it, either by leaps or by increments. That would take a constitutional amendment to require a flat tax with no deductions, credits, or exemptions, or to eliminate the income tax altogether with a repeal of the 16th Amendment and create a consumption tax instead. The latter would eliminate the IRS and its abuses, while the former would render it incapable of real malice and bias. If we want to see truly innovative and courageous reform with the goal of eliminating abuses of power, those are the only real paths that guarantee results that endure.
The effort from Hatch and Baucus is well-intentioned, but doomed to failure. Future Congresses will lard up the tax code almost as soon as it’s simplified by this process because it’s the best tool they have to interfere in the lives of citizens. Unless we take that tool away, this will be another historical footnote.