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Saturday 23 May 2009
The Ultimate Tax on Harmful Activity?

Fortunately, there is a compellingly attractive alternative: abandon the income tax in favor of a much more steeply progressive consumption tax.  Doing so would generate more than enough revenue to balance the federal budget without requiring painful sacrifices from anyone.

Under a progressive consumption tax, each family would report its income to the IRS and also its annual savings, much as many now document their annual contributions to 401(k) and other similar accounts.  A family’s income minus its annual savings is its annual consumption, and that amount minus a large standard deduction—say, $30,000 for a family of four—would be its taxable consumption.  Rates would start low, perhaps 20 percent, then rise gradually with total consumption.  For example, a family that earned $60,000 and saved $10,000 would have annual consumption of $50,000, which, after subtracting the standard deduction, would mean taxable consumption of $20,000.  It would owe about $4,000 in tax, about the same as under the current income tax.

With savings tax-exempt, top marginal tax rates on consumption would have to be significantly higher than current top rates on income.  But that’s not problematic, because higher top rates would actually encourage saving.

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