Done right, a flat tax can make the U.S. more competitive and help working people. So let’s stop making it so partisan.
Here’s the bottom line on the hottest issue in the presidential campaign: A flat tax, done right, is a good idea. Herman Cain’s 9-9-9 plan is definitely not a good idea. Rick Perry’s plan is better but a bit murky. We’ll be hearing much more about such plans, and since some kind of tax reform is vital to America’s future, it’s worth taking two steps back from the campaign sound bites to see what’s really on the table.
Today’s thinking on a flat tax originated 30 years ago when Stanford professors Robert Hall and Alvin Rabushka proposed a detailed plan. The basics were simple: Individuals would pay a 19% rate on wages, salaries, and pension income above a generous tax-free allowance; no deductions. Businesses would pay a 19% rate with deductions only for what they paid in wages, salaries, pension contributions, goods, services, and investments, which could be fully expensed in the year made. The system is progressive and efficient, and it offers incentives for the right behavior. They designed their plan to be revenue-neutral, even without assuming it would increase economic growth, though they believed it would do so.
Cain’s plan at first included no tax-free allowance for individuals, making it hugely regressive; he has since promised to fix that, but the plan on his campaign website is unchanged. In any case, the plan’s 9% sales tax still makes it regressive. It’s thus a nonstarter, one indication among many that Cain is just not ready for primetime. Perry’s plan with a flat 20% rate, a big tax-free allowance, and no sales tax is closer to the real deal. But it skews incentives by retaining deductions for mortgage interest, charitable donations, and state and local taxes.
So both plans are flawed — but considering the importance of fixing America’s indefensible tax system, isn’t it a good thing that these reform proposals have become a campaign issue? Maybe not.
The injection of the flat tax into the campaign makes the issue bitterly partisan, which it should not and need not be. Perry is portraying his plan as a badge of true conservatism, distinguishing him from Mitt Romney; such positioning pushes the flat tax far to the right as an issue. President Obama, who has never concealed his fondness for redistributing wealth, wants to make the tax system less flat by imposing a surtax on those with incomes over $1 million, making flat-tax opposition a core value of the left. In the take-no-prisoners culture of today’s Washington, the odds of the two sides coming together on the issue are trending rapidly toward zero.
It was not ever thus. In the ’80s, Hall and Rabushka’s plan was endorsed on successive days on the editorial pages of the Wall Street Journal and the New York Times, making it the most bipartisan policy proposal since Congress created Mother’s Day. Before conservative Republicans Steve Forbes and Dick Armey pushed the flat tax in 1995, liberal Democrat Jerry Brown made it the center of his campaign for governor of California in 1992. Under cool analysis, a flat tax — done right — offers a lot for almost all to like.
Just don’t call it a flat tax. Call it a top-to-bottom overhaul that will put people to work, close loopholes that serve only certain corporations and the rich, make America more competitive globally, and improve life for people who work hard and save money. A flat tax, done right, can achieve all those benefits and more. Nor is it just theory. Several Eastern European countries have successfully used flat-tax systems for years.
Emphasize that it’s a big change, bigger than most people first realize. Asking whether your taxes would go up or down under a flat tax is too small a question. Such a system would change your income, your taxes, interest rates, the value of assets, and prices of things you buy. All those changes combined would determine whether you’d be better or worse off. If it’s done right, most people would be better off.
A flat tax can be a good idea. Let’s hope it can escape the campaign war zone and get the serious attention it deserves.
This article is from the November 21, 2011 issue of Fortune.
