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Financial Literacy - Taxes
The tax system needs an overhaul
The political environment is poisoned because most legislators have signed a no-new-taxes pledge.
Taxes made easy

Interview: Leonard Burman, Ph.D.

Would taxpayers ultimately win or lose if the government followed the paths of other countries like Sweden, where the government effectively does your taxes for you?

Talking points
Reform needed
Funding policy
Tax increases
Simplifying the code
Income gap
Consequences of inaction
Capital gains
Health care

I think it's a good idea, although it's not a panacea because the self-employed and anybody with substantial capital income would still need to file paperwork. California's been doing that for several years and it's been enormously popular.

How does the current tax system play into the gap between the rich and the poor?

The tax system is progressive and 40 percent don't pay any income taxes at all and millions of low-income families get money back beyond any income taxes that they owe through the refundable earned income tax credit and child tax credit. That being said, the tax system is less progressive than it was in 2001. The tax benefits of the tax cuts since 2001 have disproportionately benefited those with the highest incomes.

At the same time that the distribution of income has been becoming less equal, the tax system is doing less to decrease disparities. Economists Emmanuel Saez and Thomas Piketty, for example, have found that the share of income accruing to the top 1 percent is higher now than at any point since the Great Depression and twice as large as in the 1950s. There used to be support for the philosophy of using taxes as an equalizer, but that idea has apparently fallen out of vogue. The phasing out of the estate tax is one example of this.

What will be the consequences if we don't make changes?

If we don't increase tax revenues or decrease spending or both, in 30 years our economy will resemble Argentina's. That's probably hyperbole, but I fear that it may not be so far from the truth.

Considering that everyone, regardless of income, is expected to invest for their own retirements, what are your views on the capital gains tax?

The top tax rate on long-term capital gains is 15 percent. That probably encourages some investment, but it also creates a huge incentive for tax sheltering. The top tax rate on ordinary income is 35 percent. Thus, every dollar converted from ordinary income into capital gain, via tax shelters, saves a top-bracket individual 20 cents, a big incentive to buy into tax shelters.

The problem is that tax shelter investments are often quite inefficient, and all the brilliant people working to invent clever new shelters might otherwise be doing productive work. Thus, the economy loses from the misdirection of capital and labor.

A better approach is the one taken in the Tax Reform Act of 1986, which cut top income tax rates to 28 percent and eliminated a tax break for capital gains.

-- Updated: Dec. 26, 2007
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