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29 Jun 2008 08:37 pm

A Flat Tax Question

A reader writes:

I have a question about your support of a flat tax. The flat tax that Steve Forbes, Dick Armey, and the like proposed in the 1990s had a standard exemption and then taxed ordinary income at a flat rate.  One of the proponents' arguments was that a lower rate would reduce the amount of economic behavior driven by tax avoidance rather than rational economic decisions. Makes sense -- until you consider capital gains.  Their proposal -- which was endorsed by the supply-side establishment, and was thus the one with the most traction -- entirely exempted capital gains, dividends, and interest from taxation.  For someone who is truly interested in a tax code that does not alter economic behavior, this, to me, is heresy.

This regime would create a huge incentive for people to classify their income as capital gains, rather than ordinary income. Also, if you tax labor, but not capital, you create an economic incentive for a company to prefer investing in the former and not the latter. So, are you for a flat tax that would tax capital gains, dividends, interest, and ordinary income at the same rate?

In a word: Yes. Having a tax that treats all forms of income alike, with no deductions, is the truly market-friendly proposal. Neither the left nor most of the right will sign on. If I were running for president as a libertarian, this would be a central plank.

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