When TurboTax spit out the estimated amount of our federal and California income tax refund would be this year, I nearly soiled myself.
I was flabbergasted.
My wife and I checked and rechecked the numbers, because the amount was the largest single tax refund I had ever seen.
As we combed through the numbers, it soon became clear what was afoot. For my family, the major difference between 2011 and 2010 was that, for various reasons, we earned about 35% in 2011 what we had earned in 2010. While our income in 2010 was nearly 3x our income in 2011, we paid about 16x as much in federal income taxes. Our federal refund alone is nearly 65x our 2010 federal refund.
These year-to-year extremes are far from atypical. In fact, even wealthy individuals earning similar incomes can have widely disparate tax bills.
For instance, investment manager James Ross paid 102% of his taxable income in federal, state and local taxes in 2010. that said, taxable income is “what’s left after itemized deductions like mortgage interest, charitable contributions, and state and local taxes are subtracted.” Ross’ total tax as a percentage of his adjusted gross income was 20%. However, since Ross’ deductions are based on expenses he already incurred, he had to draw on his savings just to pay his taxes.
More importantly, many individuals in Mr. Ross’ tax bracket pay far less than he does. The only difference is that they are able to take advantage of loopholes in that tax code either because of their chosen profession, tax jurisdiction, or the services of highly paid lawyers and accountants.
The bottom line is that the tax code is not meant to be unfair, it is just unnecessarily complex. The solution is not even more punitively progressive taxes – as my personal example clearly shows, they are already far too skewed – but a simpler tax code. If most Americans paid 10-20% of their income regardless of source, the government would likely earn more overall revenue. Of course, for reasons of long-term economic stability, some deductions would have to remain in some form like the mortgage deduction. However, the government should do everything in its power to streamline and/or minimize them.
Will the government ever endorse a modified flat tax of this nature? Probably not, but it is certainly worth a shot.
I’m sure the tax preparation industry would oppose a simpler tax code. It would put them out of business, along with a few IRS agents. Think of all the jobs that would be lost 🙂 The current tax code isn’t just overly complex, it’s downright absurd. I remember a few years ago, that thanks to the so called Bush tax cut for the rich (which we weren’t) and my husband working most of the year in a combat zone, we got back more than we actually paid in taxes. I was happy for the windfall but it still didn’t feel right. I had the tax guy check it several times before I was convinced it was correct. I wonder, what is your take on the Fair Tax?
“I wonder, what is your take on the Fair Tax?”
I think most economists would say it is the most efficient way to raise revenue, but it would never pass in this country because the left would claim it was too regressive. I think flattish tax systems are the simplest.
The current Income Tax system has been falling apart for years.
Even CPA’s and tax preparers do not understand the Income Tax system, as evidenced by the different answers you get to the same questions about how to report various income transactions.
Just look at the enormous amount of tax court cases where people pay money to argue with their government over what is deductible, what is not deductible, what can be carried forward, what can be carried back, what are the facts and circumstances surrounding the income and/or deductions, etc. etc.
If this 75,000 page income tax code was clear and understandable, there would be very little arguments over much of anything!
So instead of people spending their time making money, they end up spending time and money figuring out how to comply with the government’s bookkeeping requirements, which change every single year!
The current Income Tax system is a horrid mess and hurts everyone.
“The current Income Tax system is a horrid mess and hurts everyone.”
I completely agree.
I agree that the current income tax system is overly complex and needs to be simplified. First of all, approximately 50% of Americans pay no income tax at all, thanks to the Democrats and liberal Republicans who have been in power the last 20 or 30 years. Everyone except the very poor should pay something, most likely a percentage of their income. Without a “dog in the hunt,” people who pay no tax have no stake in the financial well-being of our country. Most of them are being subsidized by the rest of us, either directly or indirectly. And a Margaret Thatcher said, “Sooner or later [the government] is going to run out of other people’s money.” We are at that point in the Untied States. We now borrow necessarily half of all the money the government spends. That is completely unsustainable.
But, Scott, there will always be tax disputes. The 75,000-page tax code would have to be 10 times as long to itemize everything that can be deducted or carried forward or back. Most disputes are over the facts of the case, not over the tax code or regulations themselves, and there is no way the code and regs can spell out all of the situations under which something is deductible or can be carried forward or back. All the tax code can do is mention categories for deductions and carryovers. The courts will always have to decide whether the facts of each situation falls within the purview of the tax code, the regulations and court cases who have dealt with similar situations before. So even a modified flat or fair tax will give rise to legal disputes. Granted there will be fewer disputes and many fewer tax preparers and IRS agents.
In regards to the Income Tax code, It is an utter waste of time and money to have to argue over what is deductible, what is a credit, what is part of basis, what is not part of basis, what can be carried back, what cannot be carried back, what can be carried forward, what cannot be carried forward, what can be depreciated over 3 years, what can be depreciated over 5 years, what can be depreciated over 7 years, how all the logs need to look, what is a trade or business, what is an active trade or business, what is an investment, what is not an investment, what is a business, what is not a business, what is a hobby, what is not a hobby, who are related parties, who are not related parties, etc etc etc.
The Income Tax Code is strewn with page after page after page of contradictions and the tax court is no better.
Nobody actually understands this code!
I have personally read about 70% of the tax publications, 20% of the revenue rulings and about 30% of the 75,000 page income tax code itself.
Just read the form 1040 instruction booklet from cover to cover (that is only 189 pages).
There is nothing else that is as contradictory and and convoluted as our U.S. tax code.
Currently there are about 26 other countries in the world that do not have an Income Tax code like we do.
And I would bet you anything that most of them are doing financially better than we are.
Our current Income Tax code IS the problem.