In 1913, the major source of revenue for the government was a complex, lobbyist-driven set of tariffs, which had become politically unpopular and economically unsound. Rather than fixing a tariff-based system, the Revenue Act of 1913 substantially lowered tariffs and instituted an income tax that became the chief source of revenue for the government.
In 1986, the country lived under a complex, unfair, and economically uncompetitive income tax. The Tax Reform Act of 1986 was an attempt to fix things. The act may have been successful for a short period, but today our revenue system is once again broken and, some say, beyond repair.
John McKinnon’s Wall Street Journal piece on Monday suggested that the time for a new type of taxation–as in 1913–may have arrived. In the last Congress, the chairmen of the congressional tax-writing committees, Rep. Dave Camp and Sen. Max Baucus, tried to fix the income tax but failed, because today’s tax preferences are too politically entrenched.
But a shift is emerging in thinking about tax reform, from fixing the income tax to replacing it with a consumption tax.
The evidence: the progressive consumption tax proposed by Sen. Ben Cardin (D., Md.) is getting respect in the Senate Finance Committee, which writes tax legislation. In conservative Republican circles, Sens. Marco Rubio and Mike Lee’s tax reform plan is getting rave reviews.
The Rubio-Lee proposal eliminates the tax on personal saving and includes a consumption tax for businesses. Sen. Orrin Hatch (R., Utah) and Rep. Paul Ryan (R., Wis.), chairmen of Congress’s tax-writing committees, are open to a consumption tax because of its positive impact on economic growth and U.S. competitiveness. Sen. Cardin, for example, would reduce the corporate rate to 17%, which is lower than the Republican goal of 25%.
Both Democrats and Republicans need to remember, however, that for American companies to be competitive, what is taxed (new investment, for example ) is as important as how much is taxed (the corporate tax rate).
Consumption taxes aren’t a novelty. In the U.S., there are local sales taxes everywhere. The value added tax (VAT) is common around the world–its absence in the U.S. is an anomaly. Former Treasury Secretary Larry Summershas observed that the U.S. has no VAT because liberals think it’s regressive and conservatives think it’s a money machine. The U.S. will get a VAT, Mr. Summers has said, when those positions are reversed.
Sen. Cardin addresses “regressivity” by providing, for example, a large income tax exemption for joint filers making less than $100,000. He addresses the “money machine” issue by requiring that revenue in excess of 10% of GDP be returned to taxpayers. This 10% circuit breaker is an innovative idea that could open negotiations with conservatives and result in a compromise on a lower tax rate.
President Barack Obama, Rep. Ryan and Sen. Hatch want to start tax reform this year, beginning with the corporate sector. Replacing the corporate and business income tax with a consumption tax has political appeal and makes economic sense. Those who cannot learn from history are doomed to repeat it. And 2015 is more like 1913 than 1986.
Mark Bloomfield is president and CEO of the American Council for Capital Formation and co-authored “The Consumption Tax: A Better Alternative?” He is on Twitter: @MrCapitalGains.