More Hall-Rabuschka commonsense

1. From page 182 of their Flat tax - Q&A (the figures are historic but the principles are unchanged):

Q: You keep talking about broadening the tax base. What’s so important about this?

A: Tax rates are high today because the tax base is so narrow. Personal income in the United States is about $5 trillion. A raft of exclusions reduces this number to about $3.6 trillion in adjusted gross income and $2.4 trillion in taxable income. A lower rate on all or most personal income would collect the same amount of money as a much higher rate on taxable income.

The same situation applies to business income. Much of this income escapes taxation because it does not fall into the net of taxable income. Altogether, less than half the national income is subject to income taxation, which means that relatively high rates of tax are required to collect enough money to run the government. The only way to enjoy the economic benefits of low tax rates and achieve real simplification is to broaden the tax base to all national income.

2. The main tax break they rail against in the USA is the tax deduction for mortgage interest, they explain on page 164 that removing the tax break is not a big deal, firstly interest rates would come down and secondly, people would be paying a lower rate of tax on a larger amount of income. The point of all this is not just making tax returns simpler, it is reducing the marginal rate - because it is the marginal rate on earned income which does most of the economic damage, and not the total tax burden (yes, there are good kinds and bad kinds of government spending, where the least bad is universal benefits).

3. Conversely, this is why campaigning for tax simplification is doomed to failure - politicians love buying people off with tax breaks, and voters imagine that this is a costless exercise. Far from it, one man's tax break is another man's tax burden, and by and large they all cancel out. So people complain about the large amounts of tax paid on some of their income, but are glad that the rest of their income is exempt (or worse, refuse to accept that their tax-exempt income is income in the first place); they fail to realise that the reason the they have to pay so much tax on some of their income is because the rest of their income is exempt.

The other insurmountable problems include things like people believing these fairy tales that the basic rate of tax is 20%, that there is a National Insurance fund which 'goes towards my pension' and/or that VAT (also 20%) is a tax on 'consumption'. Not true, they are all taxes on income (your spending is somebody else's income) which average out at a rate of 50%.

4. The main explicit tax breaks in the UK are for pensions savings (tax relief for mortgage interest was phased out a decade ago). There is also the tax-free personal allowance/lower earnings threshold is another kind of tax break. HM Revenue & Customs treat these as tax reducers or tax expenditures, and publish figures for how much higher revenues would be if these tax breaks were scrapped and the now-taxable income taxed at the same rates as everything else (approx. £45 billion and £90 billion respectively)

5. There is an implicit tax break for owner-occupation because non-cash rental income was exempted from tax under Schedule A nearly fifty years ago. HMRC still publish a figure for what they think they could collect in Capital Gains Tax if main residences were not exempt (£13 billion), which is strange, because main residences were never liable to CGT, but of course they no longer publish a figure for the value of the exemption of non-cash rental income. So let's estimate non-cash rental income at £220 billion (total value of owner-occupied housing £4,400 x 5%).

6. The list goes on, and then we have the Welfare State, which counts as proper cash expenditure; pensions £122 billion and working age welfare £110 billion in 2011 (from the excellent ukpublicspending.co.uk website).

But is the Welfare State really any different from all the other tax breaks? It's all just redistribution, some downwards (the Welfare State), some fairly downwards but not quite to the bottom (the tax-free personal allowance), some sideways and some upwards (tax breaks for pensions, tax exemption of non-cash rental income etc), which surely all cancel each other out?

7. To summarise the impact of all this in very round figures, total forecast tax revenues for 2012-13 (excluding duties) are pencilled in at about £500 billion and the average marginal tax rate (taking income tax, NIC, VAT, corporation tax and Tax Credits withdrawal into account) is about 50%, so therefore the total tax base must be about £1,000 billion.

We can then broaden the tax base as follows:
- Tax breaks for pensions (contributions, ongoing income and the lower rate for pensions in payment) £100 billion
- The tax free personal allowance £210 billion (30 million taxpayers @ £7,000 each)
- Non-cash rental income from owner-occupied housing £220 billion
Giving us a enlarged tax base of £1,530.

If we wanted to raise £500 billion from a much broader tax base of £1,530, we could replace the entire tax system (including all the odds and sods like Council Tax, Stamp Duty etc) with a flat rate on incomes/corporate profits of 33%, which looks a lot better than the 50% imposed at present. But a lot worse than the fairy tale income tax rate of 20% which most people think they are paying. The only wiggle room I can see here is that people don't realise that Employer's National Insurance Contributions are largely borne by employees. Er's NIC averages out at 8% of wages paid out, so we could shift to flat Er's NIC of 8% and a flat tax on employment income of 25%, people might go for that, I suppose.

8. Working age welfare costing £110 could be made less downwardly redistributive as well, by taking that £110 billion and dishing it out equally between 40 million working age adults and giving each of them £50 in cash every week (or knocking it off their income tax bill).

Unlikely Land Value Taxers: Enoch Powell

Spotted by DBC Reed in Hansard, 2 July 1957.

Dismissing a nascent Home-Owner-Ist proposal to reduce Schedule A Taxation, Enoch Powell had this to say:

I am sorry to have to break it to him that the cost of this new Clause would be £25 million and, therefore, he will see at once that it is quite outside the ambit of any alteration to the Budget proposals which could well be made...

Of course, the right hon. Member for Battersea, North (Mr. Jay) is quite right in saying that if the proportion of owner-occupation increases, the consequential net loss would also increase. This was a matter which was considered with great care by the Royal Commission on the Taxation of Profits and Income, and both the majority and the minority came decisively to the conclusion, after hearing a great deal of evidence, that the beneficial occupation of a house which is assessed under Schedule A is a proper subject of taxation and that there would be unfairness between one taxpayer and another if that aspect of taxable capacity were ignored.

So, both for the reasons of principle, which are firmly set out in the Royal Commission's Report, and also because on financial grounds it would be quite impracticable to make a change of this magnitude, I must ask the Committee to reject the new Clause.

The comments by Cyril Bence (high sarcasm) and Douglas Houghton (who points out that it will merely push up house prices, create windfall gains for existing home owners, and thus defeat the stated object of "spreading [home] ownership as widely as possible") are also worth a read.

Killer arguments against LVT, not (24)

Richard Teather (who did a fairly decent 'flat tax' manifesto in 2005) did a 'think-piece' over at the Adam Smith Institute explaining why reintroducing Schedule A taxation, to broaden the income tax base and hence enable the income tax rate to be reduced, would be a good idea. Interestingly, this proposal was already in Patrick Minford's flat tax proposal of 2006.

Arguments against were invited today.

martinwc2 chimed in with the inevitable...

Surely the main argument against a tax on homes is that cash is demanded when there is no underlying cash flow? E.g. income tax arises upon cash income, even with capital gains tax, it falls due after a realisation. With houses, cash is extorted and funds must be taken from elsewhere. It's utterly irresponsible to force house sales to meet tax or force borrowing, especially when values fall as well as rise..."

Richard Teather replied rather nimbly with this:

As I said, we already tax people where there is no cashflow. We tax employees on non-cash benefits (company cars, private healthcare, etc.). A property tax is very similar - the company car saves you the expense of buying your own; home ownership saves you the expense of rent. There are other examples already in our tax system of taxing non-cash income, but the "benefit in kind" tax on employees is the main one.

I gave a more detailed reply:

@ Martinwc2. You are advancing what Winston Churchill and Henry George dismissed as the "Poor Widow Bogey" over a century ago.

There are four stages to the home-onwership life-cycle. Even if the property tax were an additional tax (I'd like to see any new property tax replace Council Tax, Stamp Duty and Inheritance Tax as a start, for example, and then use it to reduce income tax rates by broadening the base), then ...

1. People saving up a deposit to buy their first home. Any property tax acts like a higher interest rate, so prices would adjust downwards and their total cost of purchasing is fixed as a certain fraction of their net income. So they can obviously afford it.

2. First time buyers, who have a mortgage debt approx equal to the value of what they have bought. As they ought to have budgeted with a possible increase in interest rates of a few per cent (depending how pessimistic they are) the sensible ones will be able to afford a 1% or 2% charge on capital values, as it's no worse than a 1% or 2% interest rate hike. This would be easily affordable if such high tax rates reduced income tax by an equal and opposite amount.

3. People who have paid off or nearly paid off their mortgage, who thus have lower mortgage repayments than those in category 2, and hence can also easily afford it (esp. if income tax rates reduced).

4. Retired people. They could simply 'roll up' the tax to be repaid on death (which is why I would always recommend getting rid of IHT as a quid pro quo - IHT only raises £3 billion, about as much as the TV licence fee, but is a particularly spiteful tax in its own right).

Now, let's try and invent a system that treats all asset classes the same. Ideally, people save up some cash to live on in retirement (as well as paying off mortgage). If they are cautious, they only spend the interest element, so on death, the nominal value of the cash = the nominal value when they first retired.

Similarly, as the long run trend in house prices is to increase in line with wages growth (about 2% faster than RPI), as long as the annual tax is less than 4% of the nominal value of the house (a very, very high rate indeed!), the nominal value of the house minus rolled up tax [on death] would still be no less than its nominal value on retirement (taking a long run average sort of view). So the annual rental value is not actually taxed at all - this is earned and consumed while you are still alive - much like interest income (glossing over the fact that interest income is and should be taxed if we are to have the broadest tax base and hence the lowest overall rate).

Hopes raised, hopes dashed

George Obsorne, after showing a glimmer of intelligence over the whole B&B debacle, has now  reverted to type. This bit of his conference speech sounds all well and good:

"We built an economy on the engines of finance and housing and government spending, and the government never stopped to think what would happen if the engines stalled. Now the credit has dried up, the engines of the economy have stalled, the party is over."

As does this ...

The [tax] freeze would be paid for by cutting consultancy budgets by £270m in the first year and £770m in the second. Budgets for frontline services such as NHS, schools and police - and the Department for International Development - would not be cut.The Central Office of Information budget would be cut by £230m in each of the two years.

Great. £1 billion of waste down, £99 billion to go ...

But which tax do they want to freeze first?

Council Tax, of course! According to this Tory opportunist "Council tax bills are the third highest monthly bill after housing and fuel bills - local councils must deliver high-quality services at the lowest cost to the taxpayer."

Does this joker not realise that all taxes are ultimately borne by individuals/households? So applying his 'logic', Council Tax (£20 bn) is only the seventh-biggest monthly bill after income tax (£130 bn), National Insurance (£85 bn), VAT (£80 bn), corporation tax (£40 bn), housing costs and fuel bills.

Agreed, The State should be delivering high-quality services at the lowest cost (or not at all), but why restrict this to a narrowly defined range of expenditure that happens to be covered by Council Tax, which raises barely 4% of total government revenues? AFAICS, nearly all services are local services. So if councils can run things more efficiently than central government (and they probably can - less layers of bureaucracy and corruption), why not devolve more stuff down to them, even if that means that local taxes (primarily Council Tax and Business Rates) go up a bit? 

It's all well and good George Osborne railing against an economy based on credit, but the flipside of the credit bubble is the house price bubble, which are now both bursting in tandem. So if you freeze Council Tax (which is more akin to a user charge than a tax) rather than cutting economically damaging national taxes (which are purely confiscatory; primarily VAT and Employer's National Insurance), all this will do is to kick-start the next house price bubble. Which is exactly what happened after they got rid of Schedule A taxation in 1964 and after it became clear that they were going to get rid of Domestic Rates in the 1980s.

Ah well. It's a good job I sold to rent last year, so I can make another small fortune during the next bubble. I'm going to keep doing this until they learn their lesson and replace all existing property and wealth related taxes with Land Value Tax. Twats.