Real World Problems with a Flat Tax System

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I read an interesting article in Forbes the other day and as a former public school teacher of 11 years, it really hit home for me. I was fortunate enough to teach in a school that was adequately funded but not well funded. I, like every teacher I knew, paid for certain expenses not always because the school wouldn’t pay for it but parting the red tape for a reimbursement wasn’t worth the hassle. Plus, I knew that I could write it off and get a portion of that money back and being a small business owner, that was attractive to me although probably not, financially speaking, the best way to go about it.

But here’s what I was thinking about: Sometimes we don’t completely think through what it is that we want. For those who salivate at the idea of a flat tax system, have they thought through the goods and bads of it or are they stuck with the fair versus unfair argument? Let’s say that a true flat tax system went in to effect. Here are just a few of the deductions that you and I may no longer see.

Student Loans

We’ve heard a lot about how student loans are crippling those who have recently graduated and got an entry level job. I was happy to receive tax credits as a young teacher for my loans. It helped me get a sizable tax refund at a time when I really needed it.

Mortgage Interest

If you own a home you know that the deduction you get for mortgage interest is sizable especially if you’re in the early years of paying off your home.

Home Equity Loans

Along the same lines, under current laws you can write off interest paid on a home equity loan up to $100,000.

Charitable Donations

Not only would you be affected but you’ll be much less likely to donate to charities if you can’t write it off. Either would the high net worth individuals who are responsible for sometimes all of the funding for some charities. What would the non profit picture look like if we couldn’t write off charitable contributions?

Home Office Tax Deduction

If you’re a freelancer, you can afford to be self-employed, in part, because of deductions like these. You could make a good argument that this is more of a cost basis deduction where you’re simply subtracting out expenses but the IRS would be happy to get rid of it since it’s responsible for large amounts of filing errors.

Job Search Deductions

If you’re unemployed or making just enough to get by, you’re happy to deduct the costs of job searching.

Moving Expenses

With the amount of foreclosures, short sales, and general downsizing, a lot of people who need all of the deductions they can get may lose the moving expense deduction if the flat tax system was enacted.

Retirement Deductions

What if there were no incentives for retirement savings? No more tax advantages to IRAs, 401(k)s, 529s or other future savings vehicles.

Bottom Line

I’m not a flat tax expert nor am I smart enough to know how a system would work where we kept the best of what we liked and got rid of what we didn’t. What I do know is that the middle class benefits from our complicated tax system just like the rich. Maybe not as much but still, each of us are receiving our breaks.

Of course the argument would be that the flat tax would make up for the loss in deductions but would it? I haven’t seen how that would work. Have you?

{ 23 comments, please add your thoughts now! }

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23 Responses to “Real World Problems with a Flat Tax System”

  1. Arvin says:

    I’m no tax expert either but are Flat-Tax advocates entirely opposed to deductions? Yes of course that means people won’t actually end up paying the same tax rate but would it be a decent compromise to just be taxed a flat percentage to your AGI (aka after deductions)?

    • Glenn Lasher says:

      Flat tax advocate here. I can’t speak for all of us, but I personally favour a continuation of deductions. I just want brackets and categorization eliminated. I’m okay, though, with a standard deduction that everyone gets that sets up an effective 0% bracket so the poorest don’t suffer from this.

  2. Des says:

    The problem with this argument is that most people claim the standard deduction, which negates many of these items.

    Also, while I’m not in favor of a flat tax per se, I don’t think that getting “stuck on” fair vs. unfair is a bad thing, regardless of the good and bad. There are many areas of life where we, as a society, think that being fair is more important than being utilitarian. For example, we could perform scientific experiments on a few people and all of humanity would benefit. But we’ve decided that it is more important to be fair to those few even if it means slower scientific progress. I think that is a good thing. Also, we could randomly select a small percentage of adults to be enslaved by the rest of us. Most people would benefit from that, but it wouldn’t be fair. Eugenics is another example of this thinking. Sacrifice a few for the benefit of all. Just because something has positive consequences doesn’t mean it is a good idea.

    I would be more inclined to favor a Fair Tax system (a misnomer, to be sure, but the idea has merit). It is progressive and simple. I don’t think we’ll find a perfect system, but I think we can do better than what we’ve got now.

  3. Elizabeth says:

    Interesting! Some of these items (like interest on mortgages) aren’t tax deductable here in Canada. I wonder what would happen if they were?

    The U.S. system confuses me even more than the Canadian one 😉 Glad to know Americans are just as confused

    • tbork84 says:

      Oh don’t worry. The American tax system confuses us just as much if not more than you. That’s partly why the tax preparation industry is so large in this country.

  4. Andy says:

    Yes, the flat tax system does have it’s drawbacks, but the current system certainly isn’t devoid of them either. Most of us seem to be unhappy with the current system, so why not give the flat tax system a shot.

  5. newt says:

    Yeah, bring on the flat tax. Just another way to penalize the middle and lower class of the USA.

    No matter how greedy and rich you are, you only get one vote. So the key to Republican power is convincing the majority to vote against their best interests. Seems to be “working”.

    • Donald says:

      So true. My own elderly mother rails against the “death tax” even though she is nowhere near being a millionaire. Republicans have a lot of us believing that we will someday become millionaires and should therefore sympathize with their sad, rich fate. Unfortunately, most Democrat politicians don’t want to be the Debbie Downers who will break the news to us that we cannot all be millionaires. Egalitarian and socialist are the dirtiest words in American politics.

  6. govenar says:

    Mortgage interest deduction might not matter if the prices of houses go down such that the overall amount you pay after interest is the same. And since I don’t own a house now, I’d like prices to go down before I buy. Though, people who currently own a house might complain about prices going down when they want to sell, so maybe this means the deduction will never go away (but if these people are currently benefiting form the mortgage deduction, it kinda seems fair for them to sell at a lower price).

  7. Shirley says:

    If the flat tax system with no deductions were to become the tax law, at what % would it need to be set to become workable?

  8. AndrewB says:

    I came from a Caribbean country that simplified its tax code so the individual tax return is 4 pages long. They instituted a Value Added Tax of 15% on purchases with the exception of food and medicine. There is no mortgage interest tax deduction or charitable giving deduction. Personal exemption is much higher than the USA, but because of the VAT taxation system you really pay your taxes when you consume.

    In the more than 15 years since its original implementation (with adjustments along the way), there has not been a decrease in home ownership from the loss of the mortgage interest tax deduction, nor a decrease in other incentives that were originally tax deductible. This system is not a flat tax system, but due to the high personal exemption, most taxpayers pay the 15% tax consumption rate as their only tax.

  9. saladdin says:

    I have not seen any flat tax idea that I would consider realistic. I want to see what the plan is for payroll taxes and what is the bottom number revenue a flat tax will generate..

  10. Tony Lovasco says:

    As pointed about in another comment, the FairTax is far superior (and simpler) than a Flat Tax that keeps current deductions.

  11. Ed says:

    Simple exercise, I took the last five years form 1040, took the amount of taxes paid as a percent of gross income and resulted in an average of 9.438%. I would be happy with a flat tax of 9%. I would be happy to get rid of the hassle of all the record keeping.

    Two problems Herman’s sales tax of 9% and nothing to keep them from raising or changing the rules later, as they are constantly doing now!

  12. It depends on what people mean by flat tax. I mean if flat tax is only on the income you generate I’m thinking that many people who have alot of money don’t have alot of income so they still would not pay much… So we would still have a tax that would fall disporportionatly on the poor. Sort of like the sales tax.

  13. timparker says:

    Fair is subjective and that’s the problem. Corporations will say that they pay less because there pumping more money in to the economy in other ways while the poor are the beneficiaries of public services. (I’m not saying I agree or not. That’s what some say) Tax revenue isn’t the only way to fund operations. Hiring people an d giving to charity accomplish the goal as well. My point in writing this was not to debate the mechanics but, instead, to say that we’re all beneficiaries of this system and in a flat tax system of some sort, some of what we like about the system will be gone. It’s not “fair” to say that we want to keep what we like and get rid of what we don’t.

  14. Interesting Economist article. IMHO, we can start with as flat a tax as anyone can imagine, flat as sheet of plate glass. But it won’t be long before the lobbyists and their pet politicians muddle it with complication after complication. A flat tax will soon become a warped tax.

  15. Scott Emigh says:

    Maintaining a horribly convoluted and inefficient tax system because you can take advantage of a few deductions is a little like thinking that a coupon for 10% off “saves” you money on a purchase you don’t neeed.
    Instead of kidding yourself that deductions might make up for the tragedy which is our tax code, let’s clear the smoke and mirrors and deal with situation from a clear field of view.

  16. Greg says:

    a flat tax would be constitutional because it is proportional. if you are unfortunate enough to be suckered into being over your head in debt, why should you be entitled to any deductions?

    Perhaps the price of homes would become more affordable if real estate sales people didn’t have the mortgage write off card in their back pocket.

    Get the federal government out of the business of giving loans, and advocating that every person should go to college. if we didn’t have federal loans, tuition would also be cheaper since it would left to the private banks to compete for those kinds of loans.

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