Our Country’s Taxing Dilemma The Great Tax Debate Of 1996 Has Helped Define The Presidential Race But There’s No True Winner In Sight

It is not true that the only sure things in life are death and taxes, because for many years in this country, hard though it may be to believe, there was no federal income tax.

Instead, the nation relied on customs duties - fees on imports - that consumers could avoid if they didn’t buy imports. And, later, sales taxes on various items. Politicians did not dare impose a permanent tax on every American’s income until 1913, when the 16th Amendment to the Constitution was ratified.

The law creating the income tax was only 16 pages long. Today’s federal tax code stretches 2,823 pages - and taxpayer frustration has grown right along with it, sometimes turning national elections into debates over tax fairness.

Steve Forbes’ surprising candidacy for president earlier this year injected the tax issue into the politics of 1996. More recently, Bob Dole led a GOP drive to roll back the 4.3-cent-a-gallon 1993 tax hike on gasoline to highlight his criticism of President Clinton as a tax raiser.

The tax debate is likely to flare anew before Election Day - and afterwards too. Dole is under heavy GOP pressure to ignite his struggling campaign by calling for dramatic tax cuts.

And a push for comprehensive tax reform seems all but inevitable next year, especially if Republicans retain control of Congress, and even more so if Dole wins the presidency. Virtually all GOP leaders and their business support groups favor some such overhaul - and the public may too.

A 51 percent majority of Americans favors abolishing the current tax code and replacing it with a wholly new system, according to a recent national survey by the American Institute of Certified Public Accountants. Some 27 percent opposed such a radical step, while 22 percent said they are not sure.

Some complaints about today’s federal income tax are nearly universal: Taxes are too high. They are unfair. The code is too complicated. It is shot through with loopholes for special interests that curry favor with members of Congress.

Most emerging reform plans aim to make tax rates flatter, loopholes fewer, the overall code simpler and - by some standards - fairer. But leading reform advocates add more-sophisticated economic arguments as well.

The main one most business reformers share is the belief that taxes should give people more incentives to save. Higher national savings would channel more money into investment - the key to raising productivity, competitiveness, wages and living standards.

One example of the sentiment uniting GOP tax reformers was voiced not long ago by Texas Rep. Bill Archer, chairman of the House Ways and Means Committee, which is laying the groundwork this spring for a comprehensive tax-code overhaul next year:

“I want to pull the income tax out by its roots and throw it away so it can never grow back,” Archer said. “In its place I favor the creation of a tax on the consumption of goods and services.”

Before anything that radical happens, however, it is worth considering that much of what we think we “know” about federal taxes is inaccurate. And much of what is promised as “reform” is not as simple as it sounds. Indeed, there is little reason to believe that Congress, in any reform effort, could resist carving out breaks for powerful special interests.

What follows is a sometimes surprising examination of federal taxation, and of some leading proposals for reform.

OVERTAXED?

Of course; who isn’t? But Uncle Sam’s tax bite may not be as bad as you think. Or, at least, it may come from unexpected sources.

By one authoritative measure, total U.S. taxes - federal, state and local combined - are lower than almost anywhere else in the developed world. They equaled just under 30 percent of the 1993 U.S. gross domestic product (the value of all goods and services produced here.)

Only Japan, Australia and Turkey had lower tax-to-GDP ratios among the world’s richest 24 democracies. By contrast, Denmark and Sweden’s taxes equaled almost 50 percent of GDP while Germany’s equaled 39 percent, according to the Organization for Economic Development and Cooperation, an international research group.

Most U.S. anti-tax fervor is directed at the federal income tax. To be sure, its bite has gotten bigger over time. It took 5.64 percent of the average family’s income in 1955 and swallowed 11.42 percent at its peak in 1980, according to the Treasury Department’s Office of Tax Analysis. Today it takes 9.16 percent of average family income.

However, escalating payroll taxes chewed bigger holes in average family paychecks over the past 40 years. Payroll taxes pay for Social Security and Medicare benefits. Each employee’s payroll was taxed at 1.71 percent in 1955, 5.20 percent in 1975, 7.05 percent in 1985, and 7.65 percent since 1990. Employers match these dollar for dollar, so today’s combined payroll tax rate is 15.3 percent - a hefty but little-noted job tax.

Combine the income tax with the payroll tax - including both employee and employer’s shares - and the total federal tax bite on an average family’s income soared from 9.08 percent in 1955 to 24.46 percent today, the Treasury Department says.

And that’s not all.

Next, load on state and local taxes. In 1955 they took about 7.5 percent of average family income. By 1995 they took 12.5 percent, according to the Tax Foundation, a nonpartisan research center.

Finally, wrap in odds and ends like select excise taxes, and the combined total tax bite - federal, state, and local - rose from 27.5 percent of median family income in 1955 to more than 38 percent in 1995, the Tax Foundation reckons.

Tax reform, anyone?

LEADING REFORMS

A sketch of leading proposals follows:

Flat Tax.

House Majority Leader Dick Armey, R-Texas, champions a Forbes-like plan that would impose a flat tax rate of 19 percent on all earned income above a standard deduction of $25,500 for a family of four. All businesses would pay a flat rate of 17 percent.

Armey’s proposal is simple; tax returns could fit on a postcard. And its flat rate is arguably fair - it would take 19 cents from every dollar, whether you are rich, poor or in-between.

Critics note, however, that Armey’s flat tax would not apply to income from investments - interest, dividends, capital gains - that are the primary source of wealth for most rich people.

In addition, Treasury analysts say a 19 percent rate would not produce enough revenue to cover current federal spending commitments, and thus would produce whopping new budget deficits.

Finally, one price of the flat tax’s simplicity is that it would eliminate all itemized deductions - including such popular ones as those for mortgage interest, charities, and state and local taxes.

But around 70 percent of Americans favor keeping those deductions even if the tax code is reformed, according to the AICPA survey. Yet keeping them would require either a higher tax rate or would produce still-bigger deficits.

“Every time somebody starts putting back a deduction, the tax rate starts going higher and higher” to cover the resulting revenue shortfall, said Clinton aide Sperling. “Soon you’re offering a 21 percent flat tax to millions of Americans who currently are paying 15 percent, and they may wonder why.”

USA Tax.

This proposal tries to combine the virtues of a flat tax with corrections for its problems. It is backed by Sens. Sam Nunn, D-Ga., and Pete Domenici, R-N.M.

It would impose a flat tax of 11 percent on all businesses, while offering a series of rates on individuals up to 40 percent. It would simplify the current code by eliminating most deductions, but would retain popular ones for mortgage interest and charities, and expand those for savings.

However, critics say this proposal appears to remain regressive - hurting the poor disproportionately - and too complicated.

Sales tax.

Both former GOP presidential candidate Richard Lugar and Ways and Means Committee Chairman Archer call for some unspecified national sales tax.

Most European democracies rely on one called a value-added tax. Typically it applies to imports, but not to exports. It taxes consumption, but not savings and investment. All those features benefit a nation’s economy.

But any consumption-based tax falls heaviest on those who must consume all their income, i.e., the poor, so critics fault this too as regressive.

Any sales tax also would require private business to create cumbersome new record systems and be responsible for help to collect taxes, which business leaders may oppose.

MEMO: Robert A. Rankin is a member of Knight-Ridder’s Washington D.C. bureau.