Benefits of Flat Tax Over Progressive Tax Policy Term Paper

Excerpt from Term Paper :

Flat Tax over the Current Tax


The focus of this paper is to demonstrate effectiveness of flat tax over the current tax rate. Presently, the U.S. government employs progressively tax law as the current tax policy. Under the current tax policy, the government increases taxes with increase in income. Analysis of the current tax policy reveals that the tax system is very complicated to understand because corporate organizations face multiple taxations in a fiscal year. Moreover, the current tax forms are very complicated for an ordinary taxpayer to understand. Based on the complications associated to the current tax policy, this paper proposes the flat tax policy that will make all businesses and individuals to pay equal tax rate. The paper provides several benefits of flat tax policy over the current tax system. For example, the flat tax will adopt the basic principle of taxation. The tax returns of the proposed tax system will be easy for the business and individual to file. Moreover, the flat tax system will boost the U.S. economic growth because virtually all sectors will record higher productivities.


The flat tax is the system of tax rate where every taxpayer pays the same tax rate regardless of income bracket. A flat tax system employs the same tax rate to every individual with no exemption. Supporters of the flat tax argue that the tax policy will give taxpayers incentives to earn more because taxpayers will not be forced into paying a higher tax bracket. Supporters further argue the tax system is fairer because the tax system will provide incentive for people to earn more income because they will not be penalized for higher income. The United States is currently using a progressive tax rate where higher income earners pay higher percentages of tax rate than lower income earners. Under progressive tax rate, people earning up to $8,375 per year pay 10% tax bracket while people earning income greater than $373,650 pay 35% tax bracket. Under a progressive tax policy, individuals who make higher income pay higher tax rate. Contrary to the United States, many countries use flat tax rate system on business and individual. For example, Lithuania, Latvia and Estonia are currently using flax tax rate and these countries are recording economic growth since adopting flat tax rate systems.

Objective of the paper is to demonstrate that flat tax rate is better than the current tax rate that the United States is currently adopting.

The study uses theoretical frameworks to explain the reason the flat tax rate is better than the current tax policy. The study uses CGE (computable general equilibrium) model to investigate the effect of the flat rate system on the economy. Opponents of the flat tax rate claim that the system will benefit the rich disproportionally, make lower income earners to be worse off and increase the federal budget deficit. Using 17% flat tax rate, this paper argues that the current tax rate declines the U.S. growth rate because it affects savings negatively. Using the CGE model, the flat tax rate will be beneficial to the whole economy because the entire sector will record a growth rate.

Complexities of Progressive Tax Rate

Presently, the United States is currently applying progressive tax system where the share of income tax paid increases with rise in income. Typically, the progressive tax system is characterized by the inequality of tax system because all income earners are not paying the same tax rates. Piketty, & Saez, (2006) point out that everyone in the United States pay the share of progressive tax as rise in income. Contrarily, regressive tax occurs when the share of tax paid decline as income decrease. However, the current tax is so much complicated to be understood by an ordinary taxpayer. For example, the current tax system costs tax payers more time spent worth more than one hundred billion dollars in order to comply. Moreover, the current tax system costs the economy more than several hundred of billion of dollars of wasteful investment because it leads to more than hundreds billion of dollars of tax evasion and cheating. More importantly, the current tax system encourages lobbyists and lawyers to seek for tax favors from Congress and tax authorities instead of earning an honest living.

The current tax law is so complex that it consumes enormous quantities of paper and ink of West Publishing Company, an official publisher of the federal government tax code. The complexity of the current tax code has led to grown up of massive tax industry ranging from the service of tax lawyers, tax scholars, tax planners, tax accountants, to tax filers. Moreover, the IRS has 140 tax forms, the common one is Form 1040 and another 280 forms to explain the 480 tax forms. Thus, the current tax system constitutes thousands of pages in order to explain all forms to ordinary taxpayers. The complicated of current tax policy makes ordinary citizen feel threatened and overwhelmed by the service of IRS (Internal Revenue Service). Moreover, the current tax system imposes huge costs on American people:

Compliance costs, welfare costs, indirect economic losses, and tax court cases.

Understanding the tax requirements such as copying, preparing, and sending forms,

Generally, the current taxation is designed to decline income disparity between the upper income earners and lower income earners thereby redistributing wealth using a welfare state model. Since the early 20th century, government has been using progressive taxation policy to increase tax with increasing level of incomes and assets. The major objective of progressive taxation is to redistribute the burden of government taxation from lesser income earners to people having more affluent. Analysis of the progressive taxation model shows that progressive taxation has failed to reduce real income disparity between upper and lower income earners. Typically, the current tax policy is an inefficient tax policy because it causes the national economy to be smaller in three ways:

1. By failing to levy tax on capital as well as other production input at uniform rates. Thus, the tax policy prevents efficient allocation of resources and prevents resources to be allocated to the highest value.

2. Moreover, it creates the loopholes, exemptions and exemptions. Moreover, it creates marginal rates much higher on all inputs that needs to be, and

3. The taxation on investment income creates lower capital stocks that would have otherwise created.

Hartman, (2009) points out that theoretically tax share paid should increase after the government tax the increase in income. However, meticulous analysis of tax share vs. income between 1957 and 1997 reveals that there is no obvious cause and effect. "Instead, there has been an evident negative relationship between tax share paid by the top 10% of incomes and the after-tax income share of the other 90%. In other words, when tax share of the top 10% goes up, the after-tax income share of the other 90% goes down." ( Hartman, 2009 p 1). This evidence strongly suggests that the progressive taxation has lowered the real income effects of marginal taxation of intellectual and financial capital. Thus, federal government needs to adopt a more effective taxation policy to enhance economic efficiency. Typically, progressive taxation does not encourage productivity in the economy because it leads to unproductive misallocation of assets due to confiscation of the efforts of productive citizens.

Weller, & Rao, (2008) argue that progressive income tax affect the income formation in the United States because progressive tax policy reduce amount of money left for private savings that an individual will have for domestic investment. The effect will translate into a higher cost of capital and consequently impede physical capital formation. Additional impact of progressive taxation is that it can adversely affect skill development and it may discourage unskilled workers to develop their skills. With increase in tax rates as income rises, many workers will be discouraged to further their education and people who have already accumulated higher skills may emigrate out of the country to search for employment in countries that practice flat rate taxation policies. Thus, progressive taxation may lead to brain drain and leave the country with mass of unskilled labor. Thus, the progressive tax will discourage people to work hard.

Typically, the practice of progressive taxation policy reveals that it encourages disincentive to invest in activities such as financial risk-taking, investment and entrepreneurship, and these are real engines to economic growth. Thus, the progressive taxation will encourage brain drain because individual with higher earning potentials are often the nation's most talented people. Forcing them to pay higher tax may make the considering relocate to other countries that adopt lesser tax effects. Moreover, current tax system may increase unemployment situation in the country because the taxation model discourage business expansion and investment. To avoid higher corporate taxes, many corporate organizations may decide to expand their business and invest broad rather than investing domestically. Thus, the progressive taxation is arguably seemed unconstitutional because it treats all citizens unequally and differently. The complexity of the current tax law has made…

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