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Principles-Based Income Taxes

Summary: The nation’s financial situation requires control of spending and improved tax systems. Many income tax systems, e.g., flat taxes and others, have been proposed. The present progressive income tax would be hard to replace, but it needs to be re-engineered starting from a set of principles. A re-engineered income tax system can expedite solutions to today’s fiscal problems, reduce future problems, and help unite a divided citizenry by being a simple, fair, and long-tern focused.

Politicians seeking votes and support from special interests have corrupted our present progressive income tax system. Their only principle seems to be short-term political expediency. Five principles should be used to re-engineer the present system: (1) fairness, (2) simplicity, (3) stability, (4) encouraging poor and middle-class citizens to save and invest, and (5) minimizing political divisiveness.

Fairness involves many issues that suggest the form of the tax system. Who pays and how much? How much of the last dollar earned should be given to our government? Although open to debate, this proposal assumes:

All voting age citizens receiving income pay income taxes so they feel the impacts of taxes and spending.
Progressive taxes need to be balanced when different income sources use different rate values.
No one should give up more than X% of his or her last earned dollar to the Federal Government, where X is a vetted number.
A principles-based cost-benefit analysis is used to determine if and when tax deductions, credits, etc. are warranted.

The proposed model uses one formula for tax rate determination, but allows great flexibility in its design while retaining simplicity. By changing constants the maximum rate, initial slope, “progressiveness” rate, and initial starting point can be set. This allows different tax rates to be established for earned and capitol gains incomes.

The total tax amount paid curve is derived directly from the rate curve[1]. The total tax curve is the sum of the incremental totals (the mathematical integral) of the rate curve. Thus the amount of taxes each person is to pay is easy to determine with one simple curve. The following aggressive earned income tax rate and total tax curve example demonstrates the concepts. In this example, R_max=50% (maximum rate), C_I=1 (initial slope), C_o=0 (initial offset), and G=2 (aggressiveness). These constant numbers need to be vetted, but once constants are agreed upon, Principle 5 dictates politicians must not frequently change the curves.

Several items are relevant to the five principles are evident by the curves. The vertical (Y) axis is both the tax rate percent (blue curve) and the automatically calculated total tax percent (green curve). The horizontal (X) axis is the fraction of the total number of taxpayers. The actual axis dollar amounts from the preceding year are used to set the annual dollar tax basis, e.g., 2010 income numbers are used for the 2011 tax basis. Several household incomes for 2010 are shown in the example. This feature assures taxes reflect inflation, productivity and other changes are automatically accommodated, and bracket creep — the cash cow for politicians — is avoided. Other features include:

Below one-half (median) earners’ have a top rate of less than 15%, and their total tax paid is less than 6.55%.
Three-quarter and below earners’ have a top rate of less than 27.5%, and their total tax paid is less than 17.2%.
The top 10% earners’ have a top rate of more than 40.3%, and their total tax paid is more than 27.5%.
The top earners’ rate is 50% (R_max), and their total tax is 36.5%.

Every income-earning citizen “owns a piece of the action.” Everyone pays some taxes independent of their income source. This eliminates the unfair situation where a majority of mostly non-tax paying citizens and others receiving a government check can vote to take (“free money”) resources from a minority of productive citizens. Also any increase in spending and/or taxes must be distributed. If our government leaders want to increase taxes by say 10% then everyone’s taxes increase by 10%. This takes away politicians’ ability to wage income distribution wars.

Principles 1, 2, 3 and 5 are addressed for earned income, but Principles 1 and 4 require a balance between earned and capitol gains income (fairness) verses assuring jobs, liberties, and future opportunities (investments). In the following graph the capitol gains rate (gold curve) and corresponding total capital gains tax (red curve) are shown to address these balances. An aggressive R_max=75% (maximum rate), C_I=1 (initial slope), C_o=-5% (an initial offset that provides a “negative tax” for one-third of the population), and G=4 (aggressiveness). Again, concepts are shown, but the constants need to vetted through debate.

Sample Tax Chart 10.01.12

This capital gains rate curve strongly encourages all taxpaying citizens to save and investing in the U.S. Several Principle impacts are clear:

Citizens with lower capital gains income pay zero or small taxes while upper income citizens pay more taxes.
- One-third of citizens with the lowest capitol gains incomes would pay no capital gains taxes. The “negative taxes” shown are Government provided funds for lower income citizens’ IRAs or similar restricted investment/saving accounts.
- The next one-half of citizens with capitol gains incomes would pay capital gains income rates ranging from 0% to 35% that are less than earned income rates.
- The remaining top one-sixth of citizens would pay capital gains income rates higher than earned income rates, ranging from 33% to 75% (assumed R_max).
- The total capital gains taxes are less than total earned income taxes for all taxpayers so all benefit from investing. The maximum total tax is 17.23%, a number that can be adjusted up or down by changing the constants G and R_max.
The playing field between the poor and middle class verses the wealthy is leveled. The wealthy have sufficient resources to own a wide range of risk-return and inflation protection investments that are too risky or costly for the less wealthy. Higher risk investments yield higher returns, and precious commodities (gold, art, etc.) hedge against inflation. Thus, the rich get richer because their returns on investments are greater than those of us who have modest or no excess funds for investments.

A final Comment: The above example is an aggressive income tax system. A much less aggressive example is clear by reducing the “Y” axis percentages by one-half, e.g., R_max=25% for the earned income maximum, and R_max=37.5% for the capital gains income maximum.

Our present progressive tax system has been corrupted by career politicians seeking votes and money from special interests and, therefore, is not fair, simple or in the long-term best interest of the nation. It is time to re-engineer whole U.S income tax based on principles that citizens can understand. This principles-based proposal has many needed features. It should also help unite rather than divide our citizenry, and result in a prosperous future for our nation. It is time “we the people” take charge of our present dysfunctional political system and its leaders by demanding rational changes.

[1] Income rate curve: Y_%={C_o+ C_N*[-1+C₁*X+ EXP^(G*X)]}_,where EXP is a mathematical constant, and C_N =[1/(Y value for C_N with C_N=1 and X=1)]*[Max. rate fraction, e.g. 0.5 for R_max=50%)] is a normalizing constant.

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Contributor Comment by Laurence Lynn Cleland on February 9, 2013 at 2:50pm: Allen Godin:

Thanks for your remarks. I believe my next comment is an aeample of how we might be able to implement some of the changes you mentioned.

Contributor Comment by Laurence Lynn Cleland on February 9, 2013 at 1:57pm: Terry:

One thing we can do to initiate change is to:

(1) Define our highest priority rule changes

(2) Assign a conservative from each congressional area to each rule change

(3) Have each assigned person sign up to speak and plan to attend their Congressman’s “Town Hall” meetings

(4) Each assigned person speaks to their rule issue. A typical statement for Congresses retirement program might be:

“Congressman, you participate in a retirement program (briefly describe it) that we constituents do not have nor can afford. Do you believe your retirement program is fair? If you believe it is fair, why? If it is not fair, will you here and now commit to initiating and supporting a rule that immediately replaces the present program with a funds matching IRA for all of Congress (could include the Executive Branch employees too).”

This is the kind of thing the TP should be pursuing, rather than talking to each other. We would be reaching independents and even a few liberals who might join us.

Comment by Terry A. Hurlbut on February 9, 2013 at 1:04pm: Oh, and BTW: when I say to "expel the remaining third," they can start with Representative Alcee Hastings, Democrat of Florida's Fourteenth District. Who, before he ran for the House and won, was a corrupt Federal judge whom the House impeached and the Senate convicted of bribery and removed. But: the Senate failed to forbid him any further office of honor, trust or profit under the United States.

Comment by Terry A. Hurlbut on February 9, 2013 at 1:02pm: The only way to force a change in Congressional rules is to elect a slate of Representatives, and at least two slates of Senators, pledged to change those rules.

I have my own particular dream along that line: Patriots elect two-thirds of the House and Senate. They then proceed, as first order of business, to expel the remaining third. After which they pass a completely new set of rules, in which anything short of a Constitutional amendment, that violates an existing part of the Constitution, is automatically out of order and can never be in order.

Contributor Comment by Laurence Lynn Cleland on February 9, 2013 at 12:57pm: Terry:

I like the "rules" you are proposing, but I believe we need to force changed in Congressional rules in order to implement the rule you propose.

Contributor Comment by Laurence Lynn Cleland on February 9, 2013 at 12:52pm: Thanks Bob. It appears we are in the minority. Yes, career politicians are the root cause of our problems. Most of my papers and my book, Save Our System, focus on this root cause. Conservatives need to focus on establishing consensus solutions that are marketable to all conservatives plus 15% of the other voting citizens.

Comment by Bob Elfers on February 9, 2013 at 12:32pm: Wow! All of you commentors are impressive with your solutions and have given them a lot of thought. But, therein lies the problem, doesn't it? We all profess to be Patriotic Conversatives, we all know that out beloved country is in deep trouble and yet we cannot come up with or agree upon a unified solution. No wonder the current 535 representatives can't.

I feel the above article is a logical solutuion to the taxation problem. Yes, the rich should have to contribute more to support the less fortunate because they can afford to - but not to a fault.

The most important sentence in the article is in the last paragraph:

"Our present progressive tax system has been corrupted by career politicians seeking votes and money from special interests and, therefore, is not fair, simple or in the long-term best interest of the nation."

Correct the REAL problem and the solutions for what is best for our country in the long term will follow.

Our representatives do not represent us and do what is best for our country. Simply, adopt the above fair tax solution for income, establish a budget that does not spend more than the income, adopt the 28th Amendment as rules for the representatives: term limits, reduce pay by 1/3rd and limit, contribute to SS, eliminate retirement benefit, banish and punish those who break the law- I'm sure you can add more.

But, the reality today is that we live in Obamaland with corrupt, greedy, selfcentered, egotistical politicans that are only concerned about manipulating tactics for the big "win"to turn us into an unsuccessful socialist state. So none of our make sense solutions will be considered much less be adopted anytime soon.

Our hope? To sustain until the 2014 elections, pray that he will do nothing catostrophic before then and that approximately 15% of the people who voted will change their minds and elect representatives that will get us back on track to the great nation we once were.

Ironically, we have to go back in order to go forward to exceed where we are!

Contributor Comment by Laurence Lynn Cleland on February 9, 2013 at 12:27pm: Terry: I agree with you and Allen, regaining control of Congress' power is long overdue. We need a strong effort to change the rules Congress follow. Of course they have established these rules, so we will need to force the change, but how?

Comment by Don Richard on February 9, 2013 at 9:32am: Fair Tax all the way!

Comment by Terry A. Hurlbut on February 9, 2013 at 7:57am: Allen Godin is right. Before we even talk about taxation, we should talk about the things that Congress really has the power to do, and re-examine some of those very powers.

Regulate commerce between and among the several States, with foreign nation-states, and with indigenous semi-autonomous peoples (Sioux, Apache, Navajo, etc.; in addition to Inuit, Aleut,...): Keep that, but maybe clarify what that means. No more telling a man that his home garden is unlawful because it might ruin interstate markets.

Making the uniform rule of naturalization and bankruptcy: keep.

Coin money, regulate its value, regulate the value of foreign coin, and fix standards of weights and measures: consider abolishing that. I suggest to you that an outfit like Underwriters' Laboratories can handle weights-and-measures just as well. (Today Congress sets conversion ratios between the United States Customary system of measurement, and the International System of Units. But guess what? The SI is a completely extra-governmental body! It's not even a UN agency! The only requirement should be: tell the truth about what a measurement unit is, and if you're lying, they can sue you, and that's what courts are for. Courts, not those quasi-legislative and quasi-judicial bodies we call regulatory agencies.)

Provide for the punishment of the counterfeiting of government securities: that, I suppose, would have to apply to government bonds, if we're going to retain the borrowing power. But if we abolish the Federal Reserve, then once again the counterfeiting of gold, silver, or copper coin would become a local police and judicial matter.

Establish post offices and post roads: Abolish. Let us mail our letters via Federal Express, UPS, etc.

Grant patents and copyrights: Keep. (Sorry, Larry Lessig. Some of us do have to sing for our suppers. And we can't do that effectively if somebody can knock off our ideas any time he d__n well pleases. But copyright and patent law should be uniform. No more special copyright extensions for the Walt Disney Company! Which means: Donald Duck goes open-source! Now! After all, Sherlock Holmes already is open-source.)

Constitute courts under the Supreme Court: Keep. That's a check and a balance against the court system.

Define and punish piracies on the high seas and offenses against the law of nations: Keep.

Declare war: Keep.

Issue letters of marque and reprisal: International law currently forbids our government to grant licenses to commit piracy in our name. The classic privateer is actually a buccaneer doing it in the name of a government. I recall a certain line that one pirate uses to describe another: "He was a privateer, but now he's honest!" But that shouldn't forbid the government to hire someone to do a little shore patrol, or lay on a little operation in a properly declared war.

To raise and support armies, and all the rest of it: the biggest problem is that Clause 17 is too broad. Those "other needful buildings" includes everything under the sun that Congress decides is "needful." That was supposed to apply to "the erection of forts, magazines, arsenals, dockyards," and other military facilities. I suggest explicitly making it apply to officer training schools and academies, air bases, space launch bases, federal courthouses, and maybe a few other carefully defined categories. And then stop it.

I might even consider an amendment to recognize the Air Force as a separate-and-apart category of armed service. But some of my friends (off-line) say that the Air Force is just another army, and the Constitution already treats it as such.