The Debate Over Taxes, Part 1

The word taxes has, through the years, come to be seen with purely negative connotations. This is much to the dismay of Democratic politicians who believe in higher taxes for higher earners and much to the liking of Republican candidates who have long campaigned on the principles of low taxes for all.

Following the two-year extension of the Bush tax cuts in 2010, the debate over the tax code between elected representatives was re-ignited. Now, with debt ceiling talks stalling almost solely due to the fact that Republicans will not except any form of tax increase, understanding the tax code and the way in which taxes go to fund government projects has become more important than ever. In order to understand the current tax system, we must first lay out what taxes are and provide a brief background to the current debate.

What are Taxes?
The United States tax code is ridiculously complicated, made up of over 16,000 pages long. For those who prefer examples, the US tax code is more than seven times the length of the bible. But broken down, the idea of a tax is relatively simple. The problem comes into play when you begin to go through the actual process of determining who deserves tax breaks and what type's of credits you will give to what segments of the population. But let's start with a few definitions.

A tax is essentially a mandated contribution from you to the US government. This means that a portion of your income is taken out of your paycheck and goes to the US government, who, through Congress, creates a budget and determines just how to allocate that money. Taxes can also come in the form of an additional cost on a good or service, like Washington State's gas tax (which is an extra free of 37 cents per gallon of gas). Politicians also love to invoke what are called "sin taxes," which are extremely high taxes on goods like cigarettes. This tends to be a fairly good moneymaker for the city or state seeing as demand for cigarettes is relatively inelastic among the smoking community. Put in a much simpler fashion, because the nicotine in cigarettes causes smokers to become addicted and thus crave more cigarettes, politicians can invoke extremely high taxes on them because they know that smokers will continue to purchase the product. Some of the major forms of taxes include:

• Sales Tax: In the US, we most often see this tax as a method for states to raise revenue for themselves. Customers make purchases from a retailer and pay a tax that is a percentage of the sales price. States vary the rates they charge, and the rate also varies based on the product. For example a t-shirt has one tax, food has another, and gas has still another. Retailers oppose sales tax (especially in places like Washington, DC where the tax is as high as 10%) because they have to collect the tax directly from the customer as opposed to it being built into the price of the good. States, on the other hand, love the sales tax since they are able to collect revenue from people who do not live in the state (because whether or not you are a local or a tourist, you will pay the same percentage of tax on that carton of milk or that restaurant check. Proponents of a sales tax say that it is one of the fairest of all taxes because it is a tax on consumption, meaning that you can avoid paying tax by simply avoiding the product. People also argue that those that make more money are more likely to buy more products and therefore pay a greater amount of tax. This would seem to signal that the sales tax is, thus, progressive (meaning that those who make more end up paying more in taxes than those who don't make much) but critics often argue that although this may be true, the sales tax impact the poor much harder than it does someone who is rich. A 10% tax on food or on clothing would mean very little to a rich individual while that 10% could seem like a monumental amount for someone who is poor. 
• Capital Gains Tax: This is a tax on the profit made from the sale of an asset. It’s most commonly cited when it comes to profits made from selling stocks. If you buy a share of Stock A at $10 and then sell it for $15 you have a $5 capital gain. You must pay taxes on this gain. States will also take a chunk of the capital gains. The great thing about this tax is it only taxes people with enough excess income to actually invest. In other words, it’s a tax the poor don’t have to think about. 
• Income Tax: This is the most high yield and important tax.  Most states and the federal government rely heavily on income taxes. The income tax addresses the financial income of individuals and companies. Most systems tax income in different brackets. So a person making $25,000 a year will pay less as a percentage of their income than someone making $60,000 a year, and the same came be said for someone making $250,000. This system provides governments with a relatively stable income, simply because our earnings tend to be predictable. 

There also exist taxes like the property tax and the value-added tax, but the above three are the most important and highest grossing for local and federal governments. 

How Do Tax Brackets Work?

Think of the tax brackets as a series of increasingly steep steps. Let's use the 2011 "brackets" and tax rates as an example:

Income Tax Rate Schedules for 2011

2011 Single Return Rate Schedule			2011  Married Filing Jointly Rate Schedule
Taxable income levels	Tax rate		Taxable income levels	Tax rate
0 to $8,500	10%		0 to $17,000	10%
$8,501 to $34,500	15%		$17,001 to $69,000	15%
$34,501 to $83,600	25%		$69,001 to $139,350	25%
$83,601 to $174,400	28%		$139,351 to $212,300	28%
$174,401 to $379,150	33%		$212,301 to $379,150	33%
Over $379,150	35%		Over $379,1500	35%

For instance, let's completely oversimplify the tax code and say that I somehow, with two purely academic majors that make me all but destined to make mediocre money (political science and history), luck out and receive a salary of $500,000 for this year. The chart above  lays out it out perfectly. As a single man, I would pay 10% in taxes on the first $8,500 (so I would pay $850), 15% in taxes on the next $26,000 (I'd pay $3,900), etc. until I hit the 35% tax bracket. After $379,150, you will be taxed 35% on the rest of your income, regardless of whether you are like the hypothetical me who makes $500,000 or you make $54.4 million like Lloyd Blankfein, the CEO of Goldman Sachs, did in 2006. 

Remember that I have completely oversimplified the tax code for this example (I have not factored in all the different credits, exemptions, and other taxes like capital gains) but it gets across the way in which the tax code works at a basic level. 

A Brief Tax Timeline

While the history of the tax code could even put the most noble student to sleep, I think it is important to establish how taxes and tax rates have changed in the last few decades:

• "In 1862, in order to support the Civil War effort, Congress enacted the nation's first income tax law. It was a forerunner of our modern income tax in that it was based on the principles of graduated, or progressive, taxation and of withholding income at the source. During the Civil War, a person earning from $600 to $10,000 per year paid tax at the rate of 3%. Those with incomes of more than $10,000 paid taxes at a higher rate. Additional sales and excise taxes were added, and an “inheritance” tax also made its debut." [Info Please]
• Jump ahead to World War II: With such an expensive war to pay for, the top tax rate climbed to 91%. 
• On Oct. 22, 1986, President Reagan signed into law one of the most far-reaching reforms of the United States tax system since the adoption of the income tax. The top tax rate on individual income was lowered from 50% to 28%, the lowest it had been since 1916. In an attempt to remain revenue neutral, the act called for a $120 billion increase in business taxation and a corresponding decrease in individual taxation over a five-year period.
• In 1993, Bill Clinton passed a series of tax increases in an attempt to reduce the deficit. Clinton added two new tax brackets, at 36% and 39.6% for America's highest earners. Under Clinton's presidency, the government began to run surpluses (meaning that it took in more money than it was spending.

Because of this, President George W. Bush believed that if the government was taking in too much in taxes, that it should then pass a tax cut and give that money back to the people. According to Infoplease, "The Bush tax cut created a new lowest rate, 10% for the first several thousand dollars earned. It also established a slow schedule of incremental tax cuts that would eventually double the child tax credit from $500 to $1,000, adjust brackets so that middle-income couples owed the same tax as comparable singles, cut the top four tax rates (28% to 25%; 31% to 28%; 36% to 33%; and 39.6% to 35%)." These tax cuts also temporarily lowered the capital gains rate from 35% to 15% (a loophole that was extended as a part of the recent budget battle between President Obama and congressional Republicans and is now being looked at for possible elimination). Obama has asked that we simply let the Bush tax cuts that lowered the top four tax rates expire, meaning that rates would, for instance, go back to 39.6% from the current 35%.

Analysis: Why the Republican Fight Over Taxes Is Not Worth Defaulting On Our Debt

The fight over taxes has become the main (and at this point only) facet of the debt debate left to talk about. Not considering cuts to entitlement programs like medicare and social security (which I admit are extremely important), trillions of dollars in spending cuts have already been agreed upon by the President and Congressional leadership. At this point, the only thing holding back a deal on the debt ceiling is whether or not the elimination of tax loopholes should be included in the debt ceiling package. As previously noted, President Obama is looking for what he calls a "grand deal" - which would save something along the lines of $4.2 trillion over the next ten years. Congressional Republicans, however, are looking for a much smaller, spending-cuts-only deal, which would save somewhere around $2.6 trillion dollars. President Obama's plan, $1.6 trillion more than House Republicans, would allow the four highest tax rates that had been cut to expire, which would essentially be synonymous to a tax increase (a small one, however). Additionally, Obama wants to cut loopholes for industries that take huge government subsidies, like big oil and timber. 

As debt negotiations continue to stall, politicians and commentators alike are becoming more and more frustrated with the state of the Republican Party and their complete and utter aversion to anything that could ever be construed as a tax increase. Democrats have given up trillions of dollars in cuts, made countless concessions, and the President has even offered to do something so controversial as to look into ways to raise the age that one can qualify from medicare from 65 to 67. These are major concessions on the part of Democrats, concessions, I might add, that liberal commentators are extremely frustrated with. And what have the Republicans given in return? Nothing. Not only have they given nothing, they've actually taken the negotiations in the wrong direction, exacerbating the problem with their mantra of the "anti-tax party" that polls show is actually out of line with the political mainstream.

I understand why Republicans do not want to pay taxes. Taxes are not something that most people enjoy paying, and if you can afford to keep taxes low during a period of economic prosperity than I am all for that. But that is not the case. In fact, that is about as far from the case as humanely possible. Despite narrowly avoiding the collapse of our entire financial infrastructure in 2008, we are now right back on the edge of falling off an economic precipice. Instead of being ecstatic that Democrats have given in to almost every Republican demand, freshman conservatives have instead decided to continue to play politics with the debt ceiling, something that is so fragile that it could completely decimate any economic recovery and result in a lost decade, if not worse.

Minimizing the deficit is about shared responsibility, mutual sacrifice. I will be the first to admit that both sides have wrongly made the debt ceiling a political issue, and both Democrats and Republicans should be reprimanded for playing chicken with such a fragile vote. 

But Democrats have at least given in to many Republican demands for lower federal spending. They're sacrificing a number of programs and regulations that they believe have greatly benefited our economy, and that is commendable. Republicans, however, have not sacrificed. Despite the dozens of concessions, Republicans continue to play politics, hypocritically refusing to share in any of the responsibility. 

Refusing to sacrifice is in no way commendable. In fact, it's downright reprehensible. 





Part II of the tax discussion will deal with explaining progressive vs. regressive taxes, and will break down all of the ideas that have been suggested by politicians and commentators-in-the-know over the past few decades for reforming the tax code.