Friday, 10 March 2017

Economic Myths: A 'flat tax' is a 'rich giveaway'

Something which the current furore over the increase in NICs paid by the self-employed from 9% to 10% of earnings in the basic rate band has miserably failed to provoke, is any sort of debate about NICs suffered by employees, which are 23% of earnings in the basic rate band.

(I accept that the self-employed are at a disadvantage when it comes to claiming certain minor benefits, although under the new rules, they are accruing very similar state pension rights to employees and they can claim Working and Child Tax Credits. That side of the equation can be fixed by moving towards a Citizen's Basic Income).

The first point, which gradually seems to be dawning on people, is that NICs are just a tax on income. (I'm not holding my breath until they realise that about VAT though).

As to flat tax, for a good overview of the tedious and unfounded arguments for and against, see here. the myth underpinning this, and the false assumption made by both sides is that flat tax = very low rate or = lower overall revenues. No it doesn't.

The next point is that the combined effects of income tax and NIC vs endless exemptions for investment income means that basic rate taxpayers pay the same or a higher overall rate of tax on their employment income, than higher rate taxpayers pay on investment income. This must surely be wrong, whichever side of the argument you're on. The Indian Bicycle Marketeers sell this as "ensuring proper funding for the NHS" while simultaneously "encouraging people to build up capital", it requires DoubleThink or absolute cynicism to support both those things, but most people seem to manage.

To my mind, 'flat tax' is three separate concepts:

1. All income from whatever source is taxed at the same rate, be it wages, self-employment income, dividends or interest (rental income should be taxed at penal rates via LVT, of course) or company profits (dividends would come with a tax credit for corporation tax paid at source). Abolish all the fiddly allowances and exemptions for investment income and merge them into a higher personal allowance. This reduces distortions in the economy, saves admin costs etc. This still leaves room for basic and higher rates of tax, of course, but is half way there.

2. That there are no basic higher rates, just one single rate. .This reduces distortions in the economy even more, saves even more admin costs etc.

Because of the maths, low- to middle earners benefit far more from an increase in the personal allowance than from a reduction in the basic rate of tax. So if there is a fiscally neutral shift - a higher personal allowance combined with higher tax rates - low- and middle earners pay less tax and higher earners pay more tax. Conversely, if the personal allowance were scrapped and tax reduced to collect the same revenue, low earners would pay more tax and higher earners would pay less tax.

So a flat tax could be more or less redistributive than the current system - that all depends on the personal allowance and the actual rate.

3. Because of the economic damage and collection costs caused by taxing output and earnings, a lower rate is better than a higher rate. (Yippee! shout the Faux Libs). If you want to collect tax in way that does not drag the economy down while at the same time reducing net income inequality, you should be taxing land values instead, an idea universally loathed by left and right, Faux Libs and Homeys.

7 comments:

Lola said...

I cannot see why just because someone earns more than someone else he or she must pay more tax - all other things being equal. It seems to me to be simple envy. Clearly rentiers need to be taxed as they are extractive.

paulc156 said...

L. That position us only morally defensible if we presume perfect markets. Simply instituting flat tax rates even with much higher personal allowances doesn't achieve that. You could argue that in a full blown LVT system with basic income we might have such a world, (though I am not sure) but until that time comes a progressive form of taxation is the only morally defensible one, envy is besides the point. People see the system is rigged.

Lola said...

P156. It's the other way about. It is the current system that is 'rigged'. It is based on false ideas as to how people achieve higher or lower incomes. Excepting rent seeking, especially in respect to land rents. One you institute the LVT / CI/bank asset tax/auctioning of rents meme the whole 'progressive' tax justification falls away.
There is no such thing as a perfect market nor will there ever be one. The very point of markets is that they are imperfect. That imperfection drives discovery of prices. Markets are mechanisms that spend every day searching for efficiency. There is no other mechanism yet discovered that can do that.

paulc156 said...

That's pretty much what I said re rigged markets. Perfect markets being largely frictionless markets where prices can continually adjust with minimum or zero impediment from any exogenous source ie: The state or rent seeking oligopolists. Except you are asserting that post LVT et al we would have such a situation. I imagine rent seeking in effect would likely prohibit such a state of affairs from even arising. So I 'presume' /welcome only some travel toward such a system of LVT, C/B.I etc and as such only somewhat less rigged than exists now...but still rigged. Ergo progressive taxation would still be both desirable by the vast majority and morally justified, IMO. You seem to be presuming a utopian fulfillment of YPP manifesto!

Mike W said...

Lola, Paul156,

Good discussion above. Yes that captures the situation of the debate here it seems to me. But ten years ago -ish I used to lurk and watch Wandsworth debate LVT with various sorts on other sites. In the end they would admit defeat on the detail of Georgism. But they would invariably finally exclaim; 'well so what mate','no one will vote for your LVT! Ha, Ha, you lose!

So Paul,I agree with your need to point out the use and clarity of ideal type models, by whoever uses them, even YPP members. On 'Full LVT' model, you say, 'I imagine rent seeking in effect would likely prohibit such a state of affairs from even arising.' I hope you do not simply mean the above, 'Ha Ha' point.

I suspect what you mean is that even if we get to a 'unfinished business', 1910 moment again,a longshot in itself agreed, we will not be able to get many years of like for like, tax shift before we are halted. Is this so? I ask the question as it is central it seems to me. For there is no 'real world', 'cliff edge' move to 90%+ LVT on offer.So you are sound on that point.

Outside of academic model testing, even to get to a 1910 LVT 're-set' situation, some folks here need to also consider who the political, 'coalition of the willing', after the coming, 10+ years of Tory rule, may actually be.

paulc156 said...

M. Yes basically (if I get your question) I'm not mocking the effort to argue for a transition to a more land oriented taxation etc but welcome and hope for it. Only in the absence of 'it' and on the premise that we may never get to gthe desired end point but rather just some way towards it, we will need and should have some redistributive/progressive taxation. ie. Not a flat rate income tax unless as MW points out it is accompanied by a significantly higher personal allowance and/or merging NI or something which achieves the required progressive nature of taxation.

Mark Wadsworth said...

MW, "'well so what mate','no one will vote for your LVT! Ha, Ha, you lose!"

Fair enough, they are right so far. But it is a continuum, you can either have no LVT at all, or a little bit (council tax) or a bit more (business rates) or full on-LVT, it is question about nudging it as far as you can, while the Homeys try and push it back the other way.

PC, I am glad you accept that merging NI with income tax, having a higher personal allowance and a fairly high flat tax rate could be more redistributive that the present system. It's a maths thing and people who don't understand maths shouldn't talk about tax.