Tax Reform: The Key to Preserving Privacy and Competition in a Global Economy
by Dan Mitchell, Ph.D on 02/07/2002
24 Pages
The personal income tax requires individuals to either disclose or make available upon demand almost every shred of their personal financial data to the Internal Revenue Service (IRS). This sweeping assault on privacy might be justified if it represented appropriate and necessary enforcement of good tax policy. But that is not the case.
This loss of financial privacy is caused by the fact that the Internal Revenue Code taxes some forms of income more than one time. Indeed, the combination of the capital gains tax, corporate income tax, personal income tax, and death tax means that some income is taxed as many as four times.
Economists routinely condemn this bias against capital formation since it has a powerfully negative impact on growth rates, productivity, and wages.
Eliminating the bias against income that is saved and invested is a core feature of every major tax reform plan. This means that fundamental tax reform is the solution to an invasive tax code that gives government the right to know every detail about a taxpayer’s financial existence.
The Flat Tax: In a flat tax system, households directly pay tax only on their wages, salaries, and pensions. As a result, the tax collection agency has no need to track how they use the money that is left after paying that single layer of tax.
Sales Tax: The final tax on a product would be the same regardless of how many times the product was sold as it moved from raw material to manufacturer to wholesaler to retailer. Sales taxes, by their very nature, do not require individual taxpayers to divulge any information on income and assets to the IRS.
Inflow-Outflow Tax: Taxpayers would be able to fully deduct all forms of savings under the inflow-outflow tax, but they would pay a tax on all withdrawals, including both interest and principal. While the inflow-outflow tax would yield economic benefits similar to the Flat Tax and the sales tax, the impact on privacy would be muted. In short, politicians must keep track of the money flowing into this front-ended IRA.
But any potential for true tax reform and privacy protection in the U.S. will be seriously undermined if international bureaucracies are allowed to rewrite the rules of international commerce and taxation. The Organization for Economic Cooperation and Development (OECD), the European Union (EU), and the United Nations (UN) want to give high-tax governments the power to tax income earned in low-tax countries.
This policy, known as “information exchange,” would strike a fatal blow to financial privacy. Governments around the world would be collecting and sharing private information on personal investments. Information exchange also would be a deathblow to tax reform, which is based on the principle that income should not be taxed more than one time and the principle that governments should not tax income earned outside their borders.
It is bad tax policy that undermines financial privacy. Fix these flaws in the tax code and financial privacy—along with economic growth—will be the result.
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