Why Tax Reform Won’t Work

There is still talk of possible tax reform coming out of Washington DC.  With Trump getting beaten up every day by the establishment and its media, and with Congress in disarray, there seems little chance for any significant tax reform at this point.  Getting rid of Obamacare should have been easier than tax reform, and we have seen the lack of progress on that.

Even if we do end up getting some kind of tax reform passed, it probably isn’t going to make much of a difference.  There will be a slight shifting around of who pays more.  There will be winners and losers, at least as compared to before.  But it won’t be a win-win situation where the economy grows and our livings standards rise.

The biggest economic problem by far coming out of Congress is spending.  Without significant cuts in spending, tax reform is virtually meaningless.

I certainly understand the Laffer Curve and that a cut in marginal tax rates can actually lead to increased tax collections by the government.  But it is not as if tax rates are 90% or 70% as they once were.

If anything, there are going to be middle class tax cuts.  While these are certainly needed, it isn’t likely going to lead to much more in the way of savings and investment.  We aren’t going to see increased economic growth because of tax cuts for the middle class.

And as long as the government keeps spending around $4 trillion per year, this is going to suck resources out of capital investment that would have otherwise gone into satisfying actual consumer demand.  When the government spends money, it is misallocating resources.

Unfortunately, most of the proposals for tax reform are so-called revenue neutral.  In other words, these are not tax cuts.  They are just rearranging the tax code, but promising to keep funneling at least the same amount of money to the government.  If you have a slightly lower tax rate but also get fewer tax credits and deductions, it doesn’t do you much good if you are still paying about the same amount.

Of course, the big problem is the Federal Reserve and the ability of Congress to run massive deficits on a continual basis.  If the government spending isn’t coming directly out of your pocket through taxation, then it is being done indirectly (in a sneaky way) by depreciating the dollars in your wallet and your bank account.

There are some who will claim that tax reform is still important though because it will reduce compliance costs.

First, this is really far-fetched at this point.  We always hear politicians talk about simplifying the tax code.  How has that worked out so far?

Second, compliance costs aren’t that big of a factor in the big picture.  Perhaps it is significant for corporations, but that problem isn’t going to be solved unless corporate taxes are completely abolished.

For personal tax returns, it is a hassle, but not overly burdensome as compared to actually paying the taxes.  If you look at the average amount per household of federal spending, it is over $30,000 per year.  This does not include state and local spending.

Are you really going to worry that much about paying a CPA $500 to do your taxes, or buying tax software for $20 and spending a few hours to figure them out, when you are paying about $30,000 to the federal government?

I would rather do taxes once a month and pay half the amount than have the current situation.

For this to happen, the federal government would have to drastically cut spending.  This would include both the warfare and welfare state.  It would mean massive cuts to the military and major withdrawal of troops stationed (or fighting wars) overseas.  It would also mean huge reductions in so-called entitlement spending.  It would mean the elimination of several departments.

If we are not discussing major spending cuts, then all talk of tax reform is mostly meaningless.  If Congress is going to keep spending huge amounts of money, then it has to come from somewhere, no matter how the tax code is written.

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