In yesterday's diary I posited that the Obama Administration lacks any clear vision for tax policy. I suggested that there is a principled way to pay for health care reform and they had not found it. The method they have chosen will ultimately lead to higher taxes on the working middle class as commentators have already noted. The best option would be to expand the existing tax we have to fund health care in a way that will make it fairer.
Currently employees, employers and the self-employed pay a 2.9% tax on all earned income to fund Medicare. The self-employed pay the whole tax and the employees and employers split the cost. The Medicare Tax is thought of as part of the social security tax, but in reality is very different. This tax can be expanded in a way that will make the tax system fairer, and meet other principles that our tax system should follow. Find out how below the fold.
Taxes Should Treat Earned Income More Fairly
The current Medicare tax is a perfect example of how the current system unfairly taxes earned, productive income. Although social security benefits are partially based on earnings, Medicare benefits are not. Accordingly, the earnings base for social security is capped, while the Medicare tax is imposed on all earned income. It is unfair for only employees, employers and the self-employed to pay for Medicare while investors do not. Indeed, the Medicare tax is just another example of an unfair medical system paid for only by business and workers.
Whether an expanded Medicare tax becomes the basis for paying for health care reform or not, it should be imposed on unearned income as well as earned income. Moreover, an expanded health care tax could be designed to satisfy another important tax principle.
Taxes Should be Simple, Efficient, Easy to Collect and Designed to Limit Avoidance The payroll tax meets all of these goals. The idea should be to extend the Health Care tax to unearned income while preserving these goals. Like the payroll tax, the expanded Health Care tax should be collected on all interest, dividends, royalties and capital gains at the source: the payor. Banks have successfully fought withholding by arguing that many payees might not pay federal income tax. However, the Health Care tax would not be an income tax and could not be reduced by losses, deductions or expenses. The tax would be collected on all earned and unearned income the same way. The result will to bring into the tax system cheats currently hiding under the radar.
By imposing the tax on capital gains, we would address one of the biggest problems with collecting the capital gains tax -- lying as to the amount paid for the asset sold. Brokers would have to collect the 2.9% tax on the entire purchase proceeds unless they had a record of the amount paid or the client swears to the basis when the asset is transferred to the brokerage.
Taxes Should Be Imposed on the Broadest Base at the Lowest Possible Rate
One of the most serious problems with the current income tax system is that it has lost its goal of being based on fairness. The income tax is simply indefensible in its complexity and intrusiveness unless its reason for being is fairness. As soon as different types of income are taxed at different rates or not at all unfairness results. Why is a person living off dividends less wealthy than a person living off interest? The cash is the same, but the one with bank CD's pays 35% while the one with stock pays 15%. Moreover, the investor living off municipal bond interest pays no taxes. Such a system is the definition of unfairness.
The Health Care tax could reverse this by being imposed on municipal bond interest and the unearned income of charities. Imposing a small tax on municipal bond income obviously increases fairness, but why impose a tax on charity's unearned income?
The proposed budget limits the deduction for gifts to charity to pay for health care. That change discourages current giving and penalizes those charities that spend their money for programs rather than create endowments. Churches and other charities close to their communities would be most affected. If a tax is imposed on a charity's investment income, those charities with significant endowments would pay more. Senator Grassley has been especially concerned about a few colleges building huge endowments while keeping tuition high. Rather, than let the government dictate to those schools how to spend their endowment they should share in the expense of our government.
Taxes Should Encourage Government Accountability
Taxpayers are more likely to view taxes more favorably when they understand what their taxes buy. Nothing could be clearer than a tax devoted to pay for health care. This tax is particularly desirable in that it does not cost a worker or business a cent more than they are already paying. Over time, however, real accountability depends on allowing the rate to reflect the real cost of providing health care. The problem with social security is that politicians are willing to increase benefits every year, but only adjust taxes to pay for those benefits only every decade or so. The budget should not only set forth the projected cost of health care for the next year, but the law should require the rate to be adjusted up or down to pay for it. No more passing on our fiscal problems to future generations.
Only by providing an immediate benefit to all taxpayers can public sentiment be mustered to put the brakes on the otherwise out of control spending. This check is missing in the President's plan. The setting of the yearly tax rate should take place over time as the health care reforms and efficiency gains kick in. However, being able to lower the Health Care tax rate would be a significant boost to the popularity of these reforms.