WASHINGTON, April 26, 2017 — President Trump has just introduced a tax plan that lowers the corporate income tax rate to 15 percent, and lowers the rate on personal income to somewhere between 10 and 33 percent, depending on income level. Since corporations will pay a single rate of 15 percent regardless of the level of income, why not apply that single rate to personal income?
The administration says that lowering the corporate tax rate to 15 percent will stimulate the economy and increase the growth rate to at least 3 percent per year. Since the economy has not seen a growth rate that high since 2005, this result would be welcome.
The administration observes that by lowering the federal corporate tax rate, it will leave corporations more money to invest. In addition, the lower rate will result in some previously unprofitable opportunities becoming profitable and worthy of corporate investment. That is simple to see.
If a firm determines that its capital costs 15 percent, any investment it is willing to make must return more than 15 percent in order to be profitable. Suppose an investment opportunity that costs $1,000,000 yields a pre-tax profit of $200,000. If the corporation pays a 35 percent tax rate, then post-tax profit will be $130,000, or 13 percent. The corporation will not invest money that costs 15 percent for a 13 percent return.
If the corporate tax rate were 15 percent, then profit after tax would be $170,000, or 17 percent. The investment would be worth making. Hence the 15 percent single rate tax on corporations will accelerate economic growth.
Shouldn’t the same logic be applied to the personal income tax rate?
The administration says it wants to cut taxes for the middle class, and to simplify the tax code so an entire individual tax return would be the size of a postcard. They want lower tax rates for individuals to come with fewer deductions, since deductions tend to distort markets and favor some taxpayers over others.
Currently, for example, the tax code favors homeowners by allowing them to deduct mortgage interest payments, while home renters receive no such deduction.
The administration also claims to want a tax code that will be permanent, not the usual financial patches and band-aids that are put on and then peeled off the tax code as political whims change.
There is only one tax policy that can meet all of these goals. That policy is a single 15 percent tax on all income above a livable minimum (twice the poverty level), with no deductions at all. All income would be taxed at the same rate whether earned through wages, salaries, rent, interest, profit, dividends or capital gains. The corporate tax rate would also be 15 percent.
The lower rate would make the tax form very easy to complete. A taxpayer simply adds up all income, subtracts the livable minimum, multiplies the balance by 15 percent, and that’s the tax liability. If a head of a household with a spouse and two children earned income of $80,000, the livable minimum income of about $50,000 would be subtracted to yield a taxable income of $30,000. Multiple that by 15 percent for a tax liability of $4,500.
While this plan could cause a slight decrease in total tax revenue for a year or two, the accelerated growth would bring tax revenue to higher levels by the third year. And it would be a permanent fix to the tax code.
If fiscal policy administrators need to stimulate the economy at some point, the 15 percent rate could be changed. If costs of living change, then the livable minimum could be adjusted.
Trump is right about the positive effects that would come from enacting a single, low rate corporate income tax. It will create growth, add jobs, raise wages and bring money back to the U.S.
But the same logic should be applied to the personal income tax rate. The 15 percent single rate tax on all income above a livable minimum with no deductions for anything would reach all of the goals of tax policy.
Let’s push for this plan.
*Cartoon by Branco. Image reproduced with permission and by arrangement with LegalInsurrection.