The state of Maine, with a Democratic legislature and a Democratic governor, has enacted the country’s first (nearly) flat tax. The previous income tax, first enacted in 1969, had four brackets ranging from two percent, which kicked in at a mere $4,849 in income, to 8.5 percent at $19,450, one of the highest rates in the country. The new tax has a flat rate of 6.5 percent for incomes below $250,000, and 6.85 percent for those over it.
To make up for anticipated lost revenue, the state has broadened the sales tax on services and cut the state budget by $300 million out of $5.8 billion. (Cut the budget to meet a shortfall in revenue — what a concept!) I would bet a modest sum that a year from now the big story will be that Maine has seen its income tax receipts exceed estimates by a substantial margin, as Maine citizens become more willing to forgo tax shelters and other means of legally avoiding taxes.
The idea of a flat tax on income is spreading relentlessly because it is good. Over twenty countries, including Russia and the Czech Republic, now employ it. Even make-the-rich-pay-their-fair-share California is considering it as a means of ending the roller-coaster ride of tax revenue bonanzas in good times and tax revenue crashes in bad ones.
The ostensible reason for opposing the flat tax is that it is not “progressive”: there is a single rate on all incomes and the “rich” therefore don’t pay more than the less rich. But this confuses the marginal rate with the effective rate. Yes, the marginal rate (the tax on the last dollar of income) is flat. But the effective rate (the percentage of income taxed away) is not. It is actually quite steeply progressive. As an example, assume a 20 percent rate, personal exemption of $10,000, and no other deductions. For a family of four, the effective rate on a $40,000 income would be 0 percent; on $50,000, 4 percent; on $100,000, 12 percent; on $1,000,000, 19.2 percent.
And, because there are no deductions, no fiddles, no sheltering income in a corporation, etc. etc. etc., you know that your neighbor down the street with the bigger income is actually paying a higher percentage of that income in taxes. Today all you know is that he probably has a better tax accountant.
The real reason the flat tax is so bitterly opposed is because the two groups principally benefited by the status quo are politically potent. These groups are 1) the very rich and 2) members of Congress. The very rich fund the campaigns of members of Congress and the members of Congress provide loopholes to make sure that the very rich don’t pay their fair share (while, of course, demanding in public that they do so). The U.S. Tax Code is amended hundreds — sometimes thousands — of times a year and most of these amendments benefit very few — but very specific — people. It is a deeply corrupt system that profoundly and adversely impacts the economy and politics of the country.
But if the flat tax begins to spread among the states that have income taxes and begins to yield big benefits in terms of revenues and economic growth, more states will join the bandwagon and pressure will begin to mount on Congress to adopt a national flat tax.