These days, people consistently oppose any proposed tax increases by the federal or state government. Candidates rally support by promising to cut taxes.
If that happens, the amount of money governments take out of people’s pockets ought to be going down or at least remaining the same. In Maine, the governor has led the drive to cut the top income tax rate and now wants to eliminate the tax altogether.
If taxes had been brought under control, people ought to feel better. The reduced costs imposed by government should offset some of the disappointing effects on personal income of the slow economic recovery. But this is not happening.
One reason is that government uses several ways of tapping the income of most people without the levy showing up as a tax increase.
The most frequently used method is the so-called “tax expenditure,” better known as a tax loophole. In theory, the tax system is supposed to treat each taxpayer in similar circumstances in the same way. That way, each pays its own fair share.
If government wants to encourage certain activities, it can allow some taxpayers to get a break on the amounts they pay. The U.S. Treasury estimates that these breaks – tax expenditures – in 2013 were $1.1 trillion.
The cost of any break is picked up by taxpayers not getting the benefit of that tax expenditure. It is built into the amount of money the government needs to raise. In practice, that means each time government creates or increases a tax expenditure, it raises the taxes on all other taxpayers.
With 169 different federal tax expenditures, each taxpayer may be both getting some benefits and picking up somebody else’s costs at the same time.
At the federal level, many of the tax expenditures go to corporations. Tax breaks for companies that develop oil production or earn some of their income abroad and leave it overseas are the targets of ongoing debate. Is a tax expenditure that may have once been justified to help a new business still worth the cost to other taxpayers?
Tax breaks not only go to big corporations to increase their profits, but to individuals. For example, if you are paying interest on a home mortgage, that interest may be deducted from your taxable income.
Breaks keep being added. Just this year, the House of Representatives added generous deductions for the dollar value of business gifts of food.
If a state income tax is mostly based on the federal return, as in Maine, the federal tax expenditures influence state tax collections. In other words, some people pay too much tax to the state, because of a federal subsidy for the oil industry.
The recipient’s most desirable tax expenditure is the “refundable” tax credit. That credit can be subtracted from the amount of taxes to be paid. If there’s a balance, the government sends the taxpayer a check.
The earned-income tax credit, for lower income workers, is perhaps the best known. Recently, the Maine Sunday Telegram revealed Maine is paying $16 million in refundable tax credits to investors in a project specifically designed to achieve that result. Maine taxpayers foot the bill.
The tax system is riddled with loopholes. The most elementary tax reform would be to eliminate as many tax expenditures as possible. Then, the tax rates for all taxpayers could be drastically reduced. That’s called tax simplification and is usually most strongly opposed by those benefitting from tax expenditures.
Without tax simplification, all taxpayers will be paying someone else’s bill. There’s no easy way to know who gets a net benefit, but average taxpayers may wonder how much their taxes could be cut with the end of tax subsidies for energy companies or those with foreign operations.
That’s not all. Governments can also boost their bill for people without even using the tax system.
The federal government is adjusting how much doctors are paid under Medicare, and the money will come from an increase in charges for upper income recipients. While not strictly a tax, the funds will flow to the government.
In Maine, a debate now goes on about a bigger adder to electric utility bills to finance support for efficiency measures. Again, increased rates are not taxes, but the money will flow to the government.
Congress and legislatures impose these new costs, secure in the knowledge they will not be seen as tax increases.
In a bewildering and incredibly complex world of taxes, loopholes and tax-like charges, the average person ends up blind to who gets what and how much.