Taxation: Applying Principles to Issues

Taxation: Applying Principles to Issues

Context always makes famous quotes all the more interesting. In late 1789, Benjamin Franklin wrote this: “Our new Constitution is now established, and has an appearance that promises permanency; but in this world nothing can be said to be certain, except death and taxes.” One intriguing aspect of the italicized observation—a phrase Franklin borrowed from prior writers—is that it came in the context of questioning the longevity of the Constitution, which he had signed and helped prepare. 

Benjamin Franklin may have been unduly pessimistic about a constitution that now has lasted well into its third century, but he has been right about the other two subjects. And, little did he know that taxes would become an even bigger part of American life when the very U.S. Constitution to which he was referring was amended in 1913 to allow federal income taxes to be imposed on individuals.  

Warning! This post is going to talk a lot about life’s infamous certainties of death and taxes. While we primarily will discuss the latter (as in, individual and business income taxes), death and taxes do go together for what some call “the death tax.” We prefer the term “estate taxes,” and we will discuss what our principles tell us to believe about those, as well.

As Low as Possible

With taxation, the first issue always is rates. For every dollar an American earns in income, how many cents should the Internal Revenue Service receive in taxes? For every thousand dollars of profit an American business turns, how many of them should be remitted to the federal government? These simple questions, obviously, are more complicated to answer than they are to pose.

To wrestle with tax rate issues, the principles of freedom and free enterprise, limited government, protecting the vulnerable, equality, and transparency all are helpful. Freedom and free enterprise, along with limited government, tell us that taxes should not be imposed beyond what is absolutely necessary to pay off federal debts as they come due and to fund essential and properly-budgeted government services.* Other than for those necessities, the principle of freedom sees no reason to take earnings or profits away from any taxpayer. Low tax rates are good. In addition, free enterprise says our national economy does better when resources are allocated by businesses rather than the central government.   

*Our prior posts on the principle of limited government have identified several legitimate categories of federal spending: infrastructure, disease prevention and control, national defense, the environment, protecting the vulnerable, foreign relations, the legal and monetary systems, and ensuring the future.

The principle of equality comes into play when analyzing whether tax rates should differ among taxpayers. On the surface, one might think equality would mandate that everyone pays the same income tax rate. But, as we have discussed in a prior post, requiring a single parent who makes $20,000 per year to pay the same percentage as a childless person who makes $20,000,000 annually is not right. It stands to reason that the biggest earners should pay higher tax rates than poor and middle-class people because, even after the taxes are paid, the wealthy person still has far more money left.

Transparency, in turn, simply insists that the federal government be clear in disclosing the rates each category of taxpayers actually pays. This is where obscure deductions and credits cause turmoil, as reports begin circulating that billionaires pay lower rates than their assistants, and that some large corporations occasionally pay no federal taxes at all. Anything that can be done to simplify and clarify the tax code also is good. 

Ultimately, the principles weigh in favor of keeping income tax rates low. Corporate rates, which were reduced in 2017 from 35 to 21 percent, continue to produce business investment, jobs, and the repatriation back into the United States of profits earned abroad (which occurs at a reduced rate of 10.5 percent). As of the 2020 tax year, Americans with the lowest earnings pay virtually no income taxes, the “top one percent” pay a tax rate of more than 30 percent, the remainder of the top one-fifth pay 25 percent on average, and the middle earners hover around 15 percent. All of that makes sense.

An efficient federal government can do more with less tax revenue. Raising individual or business tax rates is not the answer to balancing the federal budget.

Federal Estate Taxes

This is where the inevitability of death comes in. Currently, estates of people who die with more than $11.7 million are subject to federal taxation. The top tax rate for the largest estates is 40 percent, but no federal tax at all is paid on estates smaller than the aforementioned $11.7 million. 

Proposals are made from time to time to reduce “wealth disparities” by making more estates subject to tax, or increasing the rates paid by the wealthiest at the time of death. More subtle proposals involve complicated concepts like eliminating the “stepped up basis” for assets, which would have a significant impact on the amount of federal taxes collected. In short, this change would impose taxes on any “gains” in the value of estate assets since they were purchased. The problem with this approach is that it can cause the estate beneficiaries to have to sell all or a portion of the inherited assets (e.g., a family farm) to enable them to pay the related taxes.

For the most part, the applicable principles and the analysis of their effects are similar between income and estate taxes. In both cases, limited government, freedom, and free enterprise all strongly cut against increased taxation. Protecting the vulnerable and equality do allow some place for change, but if and only if the increased tax revenue is absolutely necessary to fulfill the federal government’s legitimate needs. 

If the government must raise more money to pay its bills and meet its budgets, the most logical way to do so is by subjecting more estates to taxation and at somewhat higher rates. The rate for the largest fortunes, however, in fairness to the wealthy, should never exceed half the estate’s value.

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In our next post, we will look at the tax-related issues of federal budget deficits and the national debt.

Written by Quentin R. Wittrock, founder of Principle Based Politics. 

Look for his posts each week, as this blog will explore and promote the idea of principle in politics, both as to individual elected leaders and our federal government as an institution.

After discussing federal budget deficits and the national debt, our next posts will focus on health care and foreign relations.  Other political issues we have analyzed under our principle-based method include: nomination of federal judges, guns, national defense, immigration, climate change and the environment, regulation, abortion, education and student debt, benefits programs (including Social Security), law enforcement, and racial and criminal justice.

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