In my discussion with Andrew on important considerations for a tax system I argue that simplicity is something to seek whereas Andrew believes that simplicity is not so important. Andrew has his Simplicity write-up for your viewing pleasure.

All things being equal (i.e. does it treat taxpayers in a fair and balanced way), I do believe that simplicity in a tax system is something to strive for.   When I consider simplicity I am essentially considering the following:

1. 1.       Can the taxpayers (and tax collectors) understand what is expected of them without having a degree in taxation?
2. 2.       Does the taxpayer have to jump through complex hoops to comply?
3. 3.       Is the taxpayer restricted unnecessarily?

Since our current system is what we are used to, I provide examples from my own experience of what is required for our current tax filings. I have a small business and a family of four. My CPA does taxes for both entities because he has expertise that I would never be able to apply in order to pay my required share. 

On the business side I am required to withhold income and payroll taxes from payroll checks. I am required to withhold at different rates for different earning brackets and to stop withholding certain taxes when certain thresholds are reached. I am required to file 941 payroll tax deposits with each pay cycle. I am required to file quarterly reconciliation reports. I am required to report new hires. I am required to keep track of all revenues and expenses. Some capital expenditures I must expense years into the future. Some provisions allow me accelerated depreciation when the government wants to prime the economy. I file W2s, 1099’s etc. as well an annual tax return which, as a subchapter S corporation, flows income for my personal income filing through a for K1.

As an individual I may have to file quarterly estimated taxes. I fund my Individual Retirement Accounts, Health Savings Account, College Savings Account, Variable Life Insurance (all to reduce taxes and make my financial planners money).  I gather up all my W2s, 1099s, 5498-SAs for investment income, salary/wage earnings, interest income, dividend income so I can file my annual tax returns… I can write off mortgage interest. I get child credits. I can also write-off some losses (but I may have to take losses over time so that the government is sure to get their money). I may get some tax credits for certain activities. I may be subject to the alternative minimum tax. I may or may not get a tax refund.

Oh, and if I have a significant event in my life… I better talk to a tax specialist. If my health deteriorates and I am forced to cash in an investment, I must prepare to pay Uncle Sam before I take care of my specific needs.

Perhaps complexity is by design… If our politicians in their infinite wisdom make things complex, perhaps folks just won’t itemize & the government gets to keep taxes in excess of what is actually due… If so, who does this affect the most? Not the wealthy who can afford tax planners.

Does the current income tax pass my litmus test? No.

1. 1.       No, not everyone can understand it. It is 66,000 pages… not exactly a weekend read.
2. 2.      Yes, taxpayers have to jump through hoops to comply.  Businesses pass these compliance costs onto consumers as a cost of doing business.
3. 3.      Yes, taxpayers are unnecessarily restricted. To avoid paying more than due, we must separate funds into IRAs, HSAs, Variable Life Policies, etc.  We have tax consequences when we need to cash in on investments and even when we leave money to our heirs. 

There are too many entities and too many moving parts. Every business AND individual has significant filing requirements. The average person cannot understand this complexity.

As an option, we have the FairTax bill which has the following requirements:

1.       Registered Sellers file regular Sales Tax returns and remit payment of 23% based on the sale of new goods and services. These sales tax filings will likely be made part of a combined Federal and State sales tax filings vs. a separate federal and state sales tax filings.

2.       Consumers consume and see the 23% tax appear on their sales receipts.

3.       Qualified Families can register annually in order to receive monthly prebate checks.

Is it really that easy? For most of us, yes. Can it be more complex? Sure. Families using unregistered domestic help are required to remit the sales tax. There will be other possible complexities as well but this is far simpler than our current system. Does the FairTax pass the my litmus test?

1. 1.      Yes, everyone can understand it.
2. 2.      No, the taxpayer does not have to jump through hoops to comply.
3. 3.      No, the taxpayer is not unnecessarily restricted. Consume services and new goods? Pay the tax. Consume used goods, pay no tax.

Now, in fairness, a Flat Tax that is void of massive complexity would be simpler than what we have now but… where the FairTax puts only a small filing burden on registered sellers (sellers of new goods and services) the Flat Tax puts a more significant burden on every family and business to track revenues & expenses. Both are an improvement over what we have currently but, in my estimate, the FairTax is simpler and better.