TAX DEBATE
PRINCETON UNIVERSITY
JUNE 24, 1997
STEVE FORBES: I would like to thank Dick for putting on this forum tonight and I would also like to thank all of you for coming out on a very nice weekday evening to hear a lot of hot air from the people on this panel. It reminds me that sometimes people are a glutton for punishment, especially when it comes to tax reform. But it is a fair topic because as indicated Congress once again has taken up the topic of taxation and once again they are cluttering up the tax code with more complexity. Tax simplification in form or another will come to America because the American people feel basically that the code is today unfair, that it is a cesspool of political corruption and influence, that politicos do trade favors for contributions and support. So there is no rhyme or reason for the tax code that we have today and eventually enough pressure will be brought to bear to get rid of it. It is unfair and the fact is in Washington today there are now 68,000 lobbyist working in the lobbying industry in Washington, D.C. alone, not counting offices in Maryland and Virginia. Their principle occupation is manipulating and coping with the tax code. It is no coincidence that when you are a member of a tax writing committee you get more contributions than your piers in the legislature because the tax code holds the power to destroy, the power to give favors, and the power to influence society. What is happening today in the so-called budget underscores the need for tax simplification. Once again the American people have so-called budget agreement and unfortunately it is more apparent than real. Let’s look at the spending numbers for example. We’re now going to schedule the deficit, as was concocted in Washington, to rise for the next three years and then miraculously two years after President Clinton leaves offices spending goes down, spending restraints come in and – voila – the budget is balanced. It is sort of the budget version of the “immaculate conception”. After you leave somehow it miraculously happens. Unfortunately too the numbers are not worth the paper they are written on. For example, last year the official budget deficit (at least as announced in the newspapers) was $107 billion, yet the national debt went up over $200 billion. The reason is that they play games with the trust funds, particularly the social security trust fund. So you can’t even rely on those budget numbers and you must look at the national debt as one of the key indicators to get a feel for what is really happening to government finance. On the tax cutting side, if you look at tax collections today as a percent of our economy, they have been the highest in the last six months in American history – higher than even during World War II. If they wanted to reduce the tax take on the American people back to an average of the last fifty years we would have to see tax cuts today at five times what the Republicans and Democrats agreed to. Moreover you have to read the fine print once again. They promised for example a cut in the capital gains. How much of a cut will you actually get when they’re through. They have landmines in the tax code. Things like the alternative minimum tax and holding periods that won’t index for inflation. So you have to read the fine print. Even in other areas like Medicare which we are not touching on tonight, they’re making unfortunately not systemic changes but the usual shuffle and pretending they can put the problem off for a few more years before the system becomes an acute crisis again. So the fact of the matter is there is no real reform this year. There is very little progress even to real reform. They are simply cluttering up the code, taking more money out of your pocket, returning a little bit, taking a dollar out and returning 50 cents and you’re suppose to be happy with that. The real reform that is needed is absolutely becoming more and more apparent. Even today when the economy is doing fairly well, certainly compared to what we see in Eastern Europe and Japan, the American people still feel that they are on a treadmill and the treadmill too often is winning. Two incomes in a family cannot seem to do the job that one income could do in previous generations. The principle villain for this idea that even though on paper people are doing well that somehow they stay behind the curve can be seen in the tax burden. A typical family today pays 8 times as much tax to the Federal government on each dollar of income than a typical family did 40 years ago. You combine that with higher interest rates and you can see why a family still feels they are behind the 8 ball. A few months ago on an air trip I sat next to a machinist. He worked for one of the major airlines and was hitching a ride from one facility to another. It was at the end of the day so I let him do the talking. He was married with three children and said that as a machinist he makes a pretty good wage, but it is not enough. He has to work part-time at another job. He said his wife has to work as well – not out of choice but out of necessity. He said that they are beginning to worry that they are not spending enough time with their three young children. He said on paper they were doing very well. Far better than both their parents could have imagined, but somehow they can’t seem to get ahead. He said he finally figured out what the villain was. He was telling me this! He said is was those four-letter word taxes. He said that if you add up what you pay in Federal income tax, Federal payroll tax, state income tax, property taxes, sales taxes, gasoline taxes, utility taxes, you go on a vacation or business trip you pay occupancy tax at the hotel. You want to get married you have to pay a fee. If you want to drive you have to pay a fee. If you want a pet you have to pay a fee. It’s not just what they take out of your payroll, he said everything you do the government takes their share and that is why he figures in his family they pay over half their into to taxes one way or another. If there is just one thing you understand about the tax code you will be ahead of most of those who seem to be involved in taxation in Washington today and that is simply this. It sounds simple to say but it is profound in implication. That is taxes are not just a means of raising revenue, taxes are also a price and burden. The tax you pay on income, profit and capital gains is the price you pay for working. High taxes are burden you pay for being successful, productive and willing to take risks and build a foundation for the future. The proposition is very simple. When you lower the effective price and burden on people low and behold you get more of those good things. When you raise the price on those goods things like risk taking and productivity and being willing to work for the future you get less of those goods things, certainly when the tax collector comes around. So if you understand that basic premise you understand the need for fundamental simplification and reform.
The Federal income tax code today is an enormous dead weight on American business life and on family life. Nobody knows what’s in there any more. A magazine a few months ago did a survey. They took a two income family’s number – nothing very complicated – and gave them to 50 different tax preparers. They said don’t be aggressive, don’t be conservative, just play the numbers as straight as you can. Do you know what they got back? They got back 50 different tax returns. If you call the IRS on the phone today, 30 to 40% of the time if you ask them a question you will get the wrong answer. Just to see the truth of it – a few months ago – this is a true story. A couple in California had to file a petition in tax court. Their lawyer called up the IRS office and asked for the deadline date. They were told March 14th. Just to be sure they called another IRS office and got the same answer – March 14th. So on March 14th the couple filed their petition. Low and behold a few days later they got a notice in the mail that their petition was being rejected without a hearing because the real deadline date was March 13th. The couple didn’t think that was very fair so they went to a court and a Federal judge ruled a few months later that under current law the IRS cannot be held responsible for giving you false or misleading information. In a democracy that is an abomination. People should understand the tax code and they should have faith in it. People don’t like to pay taxes, but in America we have always had voluntary compliance. People have always felt a civic duty to pay their taxes unlike Europe or Latin America. We are the envy of the world with our voluntary compliance, but that civic-mindedness is being corroded with the acidity of this corrupt and unintelligible tax code. There is only one thing to do with this monster when you realize its length. Just remember Lincoln’s Gettysburg Address was only a little over 200 words in length; the Declaration of Independence was 1300 words in length; the Holy Bible which took a few years to put together is around 773,000 words and the Federal Income Tax Code and its attendant regulations are 7.5 million words and rising. There is only one thing to do with a monstrosity like that. You can’t reform it, you can’t tame it, the only thing you can do with the beast is kill it, drive a stake through it’s heart, bury it and hope it never rises again. There is no other way to do it.
Now I propose a flat tax – some propose a national sales tax – and while I think the Flat Tax is superior, either one would be better than the monstrosity that we have today. A flat tax would have generous exemptions for children and for adults on the personal side and that’s it. $12,000 for each adult, $6,000 for each child. For example, a family of four would pay no federal income tax on their first $36,000 of income. That is roughly the family median wage in America. So tens of millions of lower income people would be removed from the federal income tax rolls (and they should be in terms of getting ahead in life). So you have $36,000 exemptions and 17% rate above the $36,000 level. Above $36,000 you pay a flat 17% rate. No more worries about things like death taxes and the like. On the business side it would take several years to phase in and a bit of complexity, but eventually we would have a 17% rate. In terms of business investment you could write-off your investments in year one. In this day and age it makes absolutely no sense at all to have the government arbitrarily define the life of an asset. And so when you make your investment you write-it off in year one. If you have a tax loss you can carry it forward until your future profits cover it. Also if you enact something like the flat tax you must enact the Super Majority Provision so that once you do away with the old code and all deductions, you have a simple code, postcard simple so that politicos in Washington cannot easily raise it. So you need to have the 2/3rd’s majority provision in there so once you have done it you are protected from degradations in the future. It will take a transition period. It will be a couple of years on the personal side, maybe three years and probably longer – six or seven years on the business side. There are a lot of complicated issues on the business side, but it is doable. With the flat tax you have something that is postcard simple. You can fill out your tax return on a postcard. It is honest because it does remove the principle source of political pollution and corruption in Washington and it is fair because the more you make the more you pay and millions of people are removed from the tax rolls.
You have to expect criticisms when you attack something as important as the tax code which many of thousands make their living off of. After all, we spend $5 billion hours a year filling out tax forms. We spend the equivalent of $245 billion dollars a year just complying with this beast and there are many special interests tied to it. So when you get criticisms of simplicity they’ll make it sound like your home is going to collapse, universities will disappear, if you have hair you’ll lose it, if you have dogs they’ll get fleas. Let me just quickly hit some of the criticisms. Some opponents of a flat tax will raise the deficit. You can devise a revenue neutral flat tax. Instead of a 17% rate it would have to be increased to around 19%. But I think in the real world if you lower the price on work productivity and people are willing to take risks, you will get more growth. As we have seen in the past with the Kennedy tax cuts in the early 1960s of 20% across the board – did revenues go down 20%? No they soared. The same thing happened in the 1980s. Revenues soared with the revenue tax cuts. Unfortunately in the 1980s we had a congress that couldn’t say no, so they spent the money and then spent some more. It would be like getting a $10,000 raise and then spending $20,000. That is a spending problem, not an income or revenue problem. So tax cuts mean more growth because they lower the price. Also with simplicity you get far more compliance. Whenever we have lowered tax rates in the past compliance for a while has gone up because people can concentrate on their productive lives without worrying about coping with the tax code. So the deficit won’t grow and in fact it will shrink. We will get more growth and more compliance.
Opponents also say the flat tax will hurt lower income people. As I have pointed out this is untrue. Millions of people will be removed from the Federal income tax rolls that are on it today. They also say that investment income won’t be taxed. Yes it will. Investment income will be taxed at the source which is the corporation. They will pay the 17% rate. However, for political reasons it may be necessary instead of having the corporation pay the tax on their profits and income, you will have to pay it by still getting those 1099 forms. Somehow it is seen as better to have you cut the check instead of the corporation. Whether you write the check or the corporation writes it, investment income is taxed. Then they ask what will happen to home ownership in America. Home ownership will be strengthened. Why? For one you will get to keep more of what you earn. Secondly, even critics of the flat tax acknowledge (including the Treasury Dept.) that it will lower interest rates which means you will pay less on your mortgage each month. Now in the real world if you are keeping more of what you earn and your monthly mortgage payment is going down that should help home ownership – not hurt it. Only in Washington would they think that letting you keep more of what you earn and lowering interest rates would somehow damage home ownership. Then they say charities will be hurt under the flat tax. This is untrue. Americans when they have more, give more. In the 1980s for example the top tax rate was cut from 70% down to 28%. Many charities worried that with the value of deductions going down no one would give money to institutions like Princeton. What happened? Charitable contributions went up in the 80s. The growth rate of charitable contributions went up higher than in the previous two decades. When Americans have more they give more. We have had great givers in America long before we had a federal income tax code. Americans do not need to be bribed by the tax code to be charitable. As a matter of fact in the future with something like the flat tax you will be able to sell the work of your charity instead of trying to get a tax gimmick out of it. Then they say it will hurt municipal bonds. No it won’t hurt municipal bonds. With lower interest rates your principle is protected. What it means for the future is in order for a government agency to sell a muni bond it won’t just be able to say tax exempt and you buy it, you can actually look where the money is going and what the project is for. So I think there will be more accountability, but it doesn’t hurt the principle value of muni bonds. As I said a national sales tax is superior to what we have today. I think the flat tax is superior for a couple of reasons at least in terms of making it politically feasible. One problem with the national sales tax is compliance. When you do get a rate and depending on what you chose to exempt at 20-30% you can get some problems with the idea of wholesale. What also goes not just on products, but also services. Services are very hard to tax. If a kid cuts your lawn you owe a 20-30% tax on it. Which is why in Europe they went from sales taxes to a value added tax which is a hidden tax and that is something we don’t want. It’s very complex for businesses as well. Then you also have the fairness problem. There are various proposals for rebates, but with the flat tax you take care of that because you remove millions of people from the tax rolls. So one way or another tax simplicity is going to come and the only losers will be the special interests. The American people and the nation will move ahead and the world will follow our example. There was already a flat tax simplification debate in Germany where they have real complexities only the Germans can do. So if we implement this system, I think we will see much more of it around the world and all of us will come out ahead.
QUESTIONS TO S. FORBES:
Q. How will the flat tax proposal handle inheritance taxes?
A. There is no inheritance tax because everything has already been taxed. The virtue of the flat tax is it tries to tax income only once instead of one, two, three, four or no times. Sometimes you can get away with taxes all together. So zero inheritance tax.
Q. If you are going to go to a revenue negative flat tax, are you willing to put everything on the table (including defense, medicare, medicaid)?
A. Well with the flat tax you are just dealing with the federal income tax.
Q. I am referring to a revenue negative flat tax.
A. Well with a flat tax you don’t lose revenue.
Q. What if you collect less than you already do?
A. In the real world you wouldn’t. At 17% or 19% first you would get better compliance and that’s worth $100 billion alone – so you wouldn’t. Even if you did which you will if you keep the current code as it becomes more and more top heavy what you get is more impetus for real reform on things like social security, starting a new system for younger people and medicare with medical savings accounts. Contrary to the critics medical savings accounts would save the system because it gives you better coverage and more control at less cost. For example we at Forbes magazine instituted a variation of medical savings account for five years and our costs per person are less than they were five years ago, the benefits are the same and not one person is in managed care. Consumerism works. In the real world we will get more revenue. So in terms of government finances and financing I think there is real reform that can be done that will give people more rather than the zero sum mentality that we have now. Social security is heading for the financial rocks as well as Medicare. That is why in Washington they always call for a bipartisan committee which is Washington ease for “bomb shelter”. Give us cover so we can raise your taxes and cut your benefits.
Q. Aren’t tax simplification and the flat tax two entirely different things? In other words, if we want a flat tax we could do it tomorrow morning with the present tax code just saying on the bottom line a “flat tax”. Aren’t they two entirely different things to be confusing when we say “flat tax is simple”?
A. No. A flat tax is postcard simple. With the 7.5 million word tax system we’ll probably have to keep some words in there.
Q. Yes, but I can do that with a tax today. If you want a postcard and I have 15%, 28% for instance it’s just as simple as the flat tax. In other words, flat tax and tax simplification are two different things?
A. Well, we tried simplification along your lines of reducing the number of brackets in 1986 and the way the Congress worked is that if you don’t go for cutting the code and starting over again, you get a 1000 page bill like you did in 1986, a 15%-20% rate because you had all the garbage in there and all the lobbyist still in business. Within four years we had a tax increase and three years after that we had another tax increase. We have a bigger monstrosity today than we did ten years ago. That is why you have to kill the beast and start over.
ZIMMER: I think the point of the question is that you can for purposes of argument simplify the tax and get rid of the loopholes.
FORBES: But the problem is if you have more than one rate, that is the wedge, the camels nose under the tent. If you have more than one rate, then you can tax someone over there. The old saying of tax the guy behind the tree. I guarantee you rates will start to go up and when rates go up what happens is you have to put in exemptions so you don’t mess up the economy and then we’re right back to where we started from. One rate with exemptions so you do have progressivity in the sense that the first $36,000 is free from tax and you have the simple rate above that. This prevents politicos from getting involved and junking up the system again. Once you get above say 25%, by golly people are going to look for ways of getting around the shoals.
Q. Would you index the flat tax to inflation?
A. You should index the exemptions so you don’t get to tax increases which is what happened in the 1970s where people as you know with the wild inflation pushing people into higher brackets, their exemptions went down. For example, in 1948 if you took the exemptions for children which were about $600 indexed for inflation and the growth of incomes that exemption should be around $8000 today instead of about $2500 so yes, those exemptions should be indexed.
Q. There is one thing that I did not hear you address and that is the threat to our morals. The government is using their taxing power to do social engineering. I think that whole aspect is just as important as any other. Can you comment on that.
A. I don’t know how people can believe in social engineering if they are brought up with siblings around and when you raise adolescents too you see the limitations of social engineering. Human nature doesn’t change, it can be very contrary. Also too that is unfortunately a game in Washington to uphold their targeted tax cuts. They say we have a worthy objective, but what it means is power. You have to go to them to the favor renewed and expanded and it always has unintended consequences.
Q. The state income taxes which are much closer to the flat tax, but not quite.
A. Not in New Jersey they’re not.
Q. Is there any reason not to have the same concept on a state level?
A. It would make sense on the state level. Some states have it – Illinois has a 3% rate and a handful of other states too. The research shows that compliance, all other things being equal, is better than when you start making your own state income tax code more progressive. By the way, experience and research shows that states that don’t have a state income tax grow better over time, have more growth, more job creation than states with an income tax. And when a state gets hit by hard times as Texas did in the 1960’s and New Hampshire did in the early 1990s, states without an income tax make a comeback faster than states with a heavy income tax – more opportunity is created.
As you know in economics Adam Smith talks about the invisible hand, but before a not so invisible hook comes I would like to say goodnight.
At this point we will hear from Martin Armstrong and learn why he backs a National Sales Tax.
ARMSTRONG: I would like to point out one thing. There are a few fragmented groups in the national sales tax community itself. There are those who propose only a sales tax and the complete elimination of income taxes even on business. I am not one of those and I think what we are involved in is really the international side. We have offices in Australia, Hong Kong, Tokyo and London. Our firm is one of the largest around. We have over $2.5 trillion in corporate consulting business under contract. I have been in the business for 30 years and what Steve is talking about with the invisible hand and things moving around is absolutely unquestionable. There is an international consideration to changes in tax code which I do not hear in the debate on either side. Just ask yourself a few things. Here in New Jersey we know that we are losing business to the south. Why? Because business moves basically to where ever it gets the best deal. That happens on an international level as well. Why are we also seeing over the last 20 years the fact that foreign multinationals are growing bigger- expanding and taking market share away from American multinationals? Nobody seems to really ask the question why does a competitor get in bed with its own worst enemy? Why do we know see joint ventures between General Motors and Toyota? Nobody seems to ask those questions. Why are American jobs leaving? The reason happens to be because of our tax code. We all hear that Americans pay a lower tax rate than Europeans. That is an absolute lie. America and Japan are the only two countries in the world who tax world-wide income. That is a significant difference. When a German company sets up a plant here they pay their taxes here in the US and are completely tax free back in Germany. I testified before Congress before Bill Archer’s House Ways and Means Committee and he called me on the phone afterwards and thanked me. He said he wished that C-Span was there because there were a number of accounting firms that testified as to the effects of this worldwide income tax. Take the Gulf War scenario for example. An American company going to Kuwait bidding on a rebuilding project. If the American company gets the deal, they have to pay 31% taxes back here in the US. A Germany company bidding on the same project pays zero tax at home. Why is American losing market share globally? Because our tax code is very inward looking. We are caught in this debate between socialism and entrepreneurism. We are killing ourselves in the global market and we don’t even know it.
The tax code is very critical. If I wanted to go into business and open an office in Hong Kong I cannot go into partners with an American. Why? Because our tax code assumes that anyone who does anything outside this country is a crook. They do not distinguish between someone trying to create a legitimate business and someone that has an account in the Cayman Islands. Consequently, two Americans cannot do business together. You must find a foreign partner. This effect on small business in this country – I talk to small business people all the time and they ask me how can they get into the international market. They can’t do it. You’re not allowed to accumulate capital, if you make money on a foreign venture it has to appear on your personal income tax that year. If that money stays there for three years and the government know about it, they charge you interest and penalties when you finally bring the money back because they assume that was your money all the time and that money belongs to the government. We have a very serious problem in this country and if we do not address our tax code the United States and going to wake up and say that foreigners bought 40% of New York, they have all our manufacturing jobs – where is it going? American used to be the greatest country in the world and I seriously doubt if that will be the case 10-15 years from now. What do you think all this EMU talk is about? They want to unite Europe. This is why we are saying that a sales tax makes much more sense. The problem with a flat tax is that a flat tax – although again on a domestic level it seems as though you’re reducing the tax code and it’s not as complicated – it sounds nice. In five minutes I can tell a company how to absolutely rip that apart. All an American company then has to do is go into a joint venture, set up an operation right off-shore, bring those goods in at the highest possible cost, accumulate most of your profits off-shore and pay that back as interest and dividends. Under the flat tax system that would be tax free. There is a way to get around absolutely every tax code we have. It is ridiculous to think that we can stop it. They say if a thief wants your car, he’s got it and we see the same thing with the tax code. Congress quite frankly created the 1987 stock market crash. We were one of the firms that Ronald Reagan called in to help investigate. I think Bill Archer was the only person who stood up and said that if you change the tax codes on real estate you will create a one way market. Nobody listened and they eliminated all the deductions on interest, second homes, etc. What happened? Everyone that had invested in real estate suddenly realized they had to sell. They created a one way market. They change tax codes so many times without thinking about how capital will respond. They put luxury taxes on boats and the boating industry lost 500,000 jobs in the first year. Well, I guess that was a mistake. They do this all the time and they do not use any common sense and do not consider the implications of their actions on a global basis. We have to really look at things globally and a sales tax does this. A sales tax means that everyone ways. Foreigners, underground economy, etc. We have looked at a 10% national sales tax with exemptions for food, clothing (the basic necessities) and a 2% sales tax on the transfer of real estate. Why do we have the real estate transfer tax? Because 40% of the real estate in this country ends up being bought and sold between foreigners and we don’t even consider these figures in trade statistics. Everyone focuses on the trade statistics between the US and Japan when in reality those numbers are bogus. We are talking about creating jobs. Why is it we put up a building and create American jobs, but the a Japanese institution comes over and buys it and then the government says that has nothing to do with trade. Why? Because they didn’t pick up the building and take it away? In fact we would be better off with a national sales tax because then we would at least get real estate taxes out of the company. If they take the asset back to Japan we get nothing. Put up as many building as you want. It creates jobs; it is an export of labor if a foreign company is buying it and we get tax revenue off of it. Everyone gets upset at the idea, but a sales tax is very important.
When you look at Europe they have a VAT. Now I am against a VAT because it’s far too bureaucratic. But the significant importance of the VAT in Europe is that the tax is internal. Europeans then can export their product and that is not applied to exports. Therefore they become more competitive. Why? Because Europeans also do not pay income tax on what they earn overseas. An American company pays full income tax, cannot deduct anything from shipping and the IRS looks at them as if they are a crook. So a sales tax accomplishes what we need in the global economy and that is coming very rapidly. I was quite surprised when I testified before Congress on July 18th last year. There were a few congressmen who were smart enough to realize what was coming. They asked me about the internet and I could see where the conversation was going. They realized that if the internet takes off like the fax machine over a ten year period in time you can create a tax free global market. With new encryption codes being created every day, transactions can be sent over the internet and no government will be able to keep track of it. It is important to understand what is driving this money off-shore. Today it is estimated that $4 trillion exists in off-shore funds, untaxed and unregulated. We saw the stock market drop 200 points yesterday because Japanese said they might stop buying our bonds. The statement is then retracted and the Dow rallies 350 points today. This is the work of foreign capital. If you consider that we have a national debt of $6 trillion, you then realize just how much money $4 trillion really is. We do not realize the amount of money that is being driven off-shore – not just by our tax code – but every country around the globe. We need to realize that with the globalization of the world we need to be competitive. An income tax is a stone age system that will not be applicable in the future. The only type of tax system that will work in the future is to tax purchases. This system is more efficient and less burdensome to the economy. Instead of the government having to keep track of 240 million people, they would only need to regulate 30 million businesses. We would see a much higher compliance rate. You just heard Steve Forbes say that Texas survived their down turn. Yes they did. He was correct in saying that Texas does not have an income tax, instead they have a sales tax. Over the past 20 years the sales tax has been automatically indexed to inflation because it based on the price of goods. The percentage of disposable income has remained very stable between 4.5 to 5% of the past 20 years. Tax increases are automatically built into a sales tax because as inflation rises with the price of goods, tax rates also increase. With an income tax Congress needs to debate over and over again about tax rates and they only wind up creating more problems.
So the sales tax that we are advocating is a combination of plans. We are looking at a 10% sales tax for the economy, a 2% sales tax on real estate and a basic 10% or probably 15% corporate income tax which would be a flat income tax. The reason we suggest a flat 15% tax on companies is that if you eliminate taxes on companies completely suddenly we would create a great deal of unemployment. All the foreign companies that have moved to the US would suddenly have to pay 100% income tax to their country of origin. As long as foreign companies pay some level of income tax in the US, then the income is tax free. However, if foreign companies earn money in a tax free zone (such as a Cayman Island venture) then the income is 100% taxable at home.
We need to consider the global implications of our tax code. We have tested our plan with static models and it is revenue neutral. We have approximately a $6 trillion economy. If you take a gross level of sales tax and corporate income tax that equates to approximately $200 billion more than we are collecting today. Anyone who has a house, I think you know that if a workman comes to your house he has two prices – a cash price and a check price. Even according to the IRS’s own internal numbers, our underground economy is now estimated at as much as 40% and this figure is continually growing. This underground economy is costing the average taxpayer money and we receive no revenue in return. So that is our general proposal.
GOVERNOR FLORIO:
Thank you very much and good evening. I am genuinely impressed with the very nice turn out to deal with a subject that is not exactly titillating. At the same time this issue is very important and the fact that there are so many people here tonight helps me to believe that we are all willing to become engaged in making our own views felt. I think this is important because I am always troubled when I hear about the conspiratorial “theys” who are out there. “They” are doing this and “they” are doing that to all of us when in fact it is really our ability to make changes.
What I thought I should do tonight is share with you two points that go with some of the discussions that we have heard here tonight. My main point is progressivity in an income tax system is a socially, politically and economically desirable characteristic. Conversely a regressive system is not going to do anything to bring about hope, growth and opportunity and, most importantly, equity. Because a system that is not equitable in reality as well as in perception is not one that is going to maintain support for any prolonged period of time. My second point that I want to develop a bit is the fact that I am not troubled by the difficult task of trying to reconcile our legitimate quest for greater simplicity in the tax code. This is certainly something that everyone wants, although I will hasten to add that 70% of taxpayers use the 1040 system and you are not going to get much simpler than that. Nevertheless, there is a need to make the system more simple than it currently is. So there is a need to reconcile simplicity with what I regard as an acceptable approach to taxation, which is to use the tax code to reinforce certain desirable social and economic outcomes – the charitable deduction being one, home interest deductions from mortgage payment so as to be able to reinforce the desire for home ownership and all the other what I regard as legitimate items that are in the tax code. Now there will clearly be an argument over those, but I want to establish a premise in my presentation that this decision making process is a legitimate exercise of the power and to the degree that there are things in the tax code that should not be in the tax code that is a defficiency in the system as it plays out. I guess the reason why I make that point is that in the flat tax proposal that has been promoted by Mr. Forbes he says that there should be none of these deductions and of course the trade off is that brings in revenues that allows him or her a 17% flat tax. So I am suggesting that there is a need to evaluate whether that trade off is valuable or not and I would prefer keeping in the mix the ability to make those types of decisions. Whether home interest mortgage is desirable or not, whether we want to have pension or health care contributions deductible or not.
Going to the progressivity question or aspect of my point there are two components. The first is the case for a progressive system. Who is included in the tax base? Distinctions between sources of income I am not sure are meritorious. That if you make your wages on an hourly basis it is income. Likewise income from clipping coupons or trust fund dividends or whatever is income. I guess both proposals or though the flat tax deals with it more directly make those types of distinctions and would in fact rule out levying the income tax or flat tax on certain types of income. That is not only in my opinion artificial, but it also facilitates income redistribution the wrong way. Then in fact the system becomes that much more regressive if we are only going to tax wages because disproportionately people in the middle and bottom of the income scale are the wage earners. An income tax system that makes those types of distinctions it seems to me should be discouraged. Again, very important is the fact that not only is it in my opinion really inequitable but equally as important it is perceived to be inequitable. I guess we have all heard the comments why should the workman who works every day be paying taxes and the person who is getting dividends from a trust funds not be paying taxes under a system such as this.
The second issue on progressivity deals with the basic question of the flat tax is different rates for different income levels to be able to raise the money that is necessary to equally shoulder the burden of financing legitimate public sector needs. The flat tax of course says we should not have differing rates for differing levels of income. Admittedly there is a superficial attractiveness of saying that we are all going to pay the same rate regardless of our level of income, but that discounts a very important economic concept that is established among economists which differentiates between necessary income and discretionary income. That is to say that necessary income, particularly if we are talking about lower income levels is a higher percentage of income than it is the case if you are talking about people with higher incomes – they have more discretionary income. Therefore to say that we are going to have the same rate apply to someone who has lower amounts of necessary income for food, clothing and shelter versus someone who has a higher percentage of discretionary income is again by definition regressive. Again to be more specific if you are talking about someone who makes $40,000 in income for a family the percentage of their income that is required for necessities is infinitely higher than the percentage of someone who makes a $1 million per year for their family income. Again if you think about the flat tax proposal 17% on both of those family situations you get a better sense of the fact that it is really not equitable and is as most people acknowledge a regressive tax system.
Let me for a moment be less than academic by talking about the reality of what it is we are facing out there in the real world today. First of all, keep in mind that the median family income in this nation is $32,000. That is, 50% of American families live on $32,000 or less, sometimes substantially less. Over the last 20 years 80% of Americans families have experienced no growth in their real income. That is to saw that the core inflation level has risen beyond their wage level increases. So they are behind the curve in terms of their real purchasing power. It seems to me that if you are then going to talk about putting a more regressive tax system than we have now into operation you are really building a situation that is going to be full of potential for political and social instability. If I am able to say that now, and I think there is some legitimacy to that, think about the next down turn. We have not yet repealed the business cycle. Mr. Forbes stated very correctly that there really is a high degree of instability out there already now which he attributes to the tax code. I think it is much more attributable to the disarray in our economy along with some of the changes that were just discussed such as the global workplace and mobility of capital, technological changes, etc. All those things combined are resulting in a higher degree of instability and distress out in America’s families. So what I am suggesting to you is that if you are going to make the tax code more regressive when all those numbers that I gave you before are the case, you are talking about potentially some even more distressed people.
Let me just briefly touch on my last point – the legitimacy of using the tax code to induce or reinforce different courses of conduct. This would of course be eliminated by the flat tax initiative. Again, there are many examples. Here at Princeton University charitable deductions are important. Mr. Forbes seems to think that eliminating the charitable deduction would have no impact on individuals. Likewise, I hate to say this, but I would suspect he would also feel getting rid of capital gains would not have any impact on those who make charitable deductions of stocks and bonds to philanthropic organizations. It is interesting to note that the people who are the beneficiaries of those gifts don’t share that optimism that changing those laws would have no impact. But I guess whether you agree or not, I think it is fair to say, at least in my opinion, that we ought to be able to retain the policy capability of making those decisions. That of course would be eliminated by the flat tax. We could do the same thing with regard to a mortgage interest rate deduction. We could do the same thing with our goal of trying to provide for a higher degree of employee security with regard to the pension deduction. To eliminate that in today’s times where defined benefit pension systems are disappearing from the scene, to eliminate the deduction to induce contributions would be a double problem for most people. An issue that is relevant to New Jersey particularly is the ability to deduct state and local property taxes. That would also be eliminated under a flat tax.
Let me conclude with just a couple of questions and maybe one to our guest on the sales tax. I am sure he could answer this. I would be curious as to what the impact of the sales tax would be on those jurisdictions that already have fairly substantial sales taxes, state or city sales taxes. I would be curious to know how that would work. But I think more importantly the flat tax deficit capability, that is the inevitability of creating larger deficits with the flat tax. The Treasury Dept. has said that a 15% flat tax as advocated by Mr. Forbes would result in anywhere from $140 to $200 billion deficit per year. In order to make the flat tax revenue neutral that number from the Treasury Dept. was 20.8% flat tax. So 21% is almost what you would have to bring the flat tax up to and if you did there would be virtually no tax relief for anyone in the most expansive definition of the middle class. And to the other gentleman’s point as to can’t you still keep some of the deductions and then have either a flat tax system that is higher or a gradation tax system. The answer is that if you start putting in some of those deductions, even those that most people would agree with, the amount of revenue that would be lost would result in the flat tax having to go up dramatically and you would very rapidly lose any attractiveness because no one would benefit other than people at the extreme high levels of income. I would just finish by saying that I am convinced that there are things would can certainly do to make our system better. I have always been of the belief that the system in this nation or the problem in this nation is not so much taxation as it is unfair taxation. Again, I have no doubts that the proposals put forward as well as others being put forward are being put forward in good faith However, I would be concerned that some of the proposals would not only not make the deficiencies in our own system better but would conceivably make them worse and that would be troubling. Thank you.
ZIMMER: I guess I should begin the exchange here on the panel. We will open the floor for questions in just a moment. I would like to ask Marty Armstrong the point that the Governor raised. What impact would a national sales tax have on states that already have a sales tax?
ARMSTRONG: Right now we see many people getting around sales taxes by buying products through the mail. This has gone all the way up to the Supreme Court. The states have been trying to get around this problem and they keep loosing. If we move to a national sales tax and we produce uniformity into the tax code, then you eliminate this underground economy that is taking place between the states now.
FLORIO: My real question is: Is the national tax going to pre-empt the field such that the revenues generated by the New York City sales tax and the New York State sales tax would no longer be available to them, or if in fact it is continuing to be available to them, at what point to you reach diminishing returns with a national sales tax on top of a state sales tax on top of a city sales tax?
ARMSTRONG: The point is that the federal government is really taking a large chunk of income tax out of the state anyhow. What you are talking about is how to readjust that. I understand what you are trying to accomplish with progressivity and I think we have social obligations. However, I believe that you do not have to accomplish them purely through the tax code. Take the food stamp program for example. Everyone knows it’s the biggest black market around. Food stamps are bought and sold like a second currency. What is wrong with changing the system so that not every store would redeem the food stamps but instead the food stamps would be redeemable only for a specific product? Food stamps specifically for bread to be redeemed by the manufacturer. There are many ways to accomplish good social behavior and I think we have to live up to those obligations. My point is that I fear every time Congress tries to do something, like the luxury tax on boats, they shoot themselves in the foot. Capital has a way of moving around every law written and we are not always smart enough to figure out the loopholes beforehand.
FLORIO: I guess my only observation, which is again philosophical, is that what we have done in the last couple of years especially I think to our detriment is start making policy on a budget driven manner rather than formulating together what it is we want as an education system, as a food stamp system or whatever. After that we could then evaluate how we could finance the systems. That is not what we are doing and that is not the atmosphere that we are creating more and more. We are saying here’s what’s there, what will it buy us? It ends up buying us Ruth Goldberg type systems that everyone is dissatisfied with. So I guess your example of food stamps to be redeemed at the manufacturers, it is still going to cost money. If you are going to pay for the food, the farmers have to be paid and it is a system that involves resources. I guess what I would prefer is that more and more we come together to say what is it we want to pay for and then after you make that determination, then define a legitimate system that would define how we will pay for it. As opposed to the flat tax proposal of 17% that says – guess what – we are going to have to do with $200 billion less in annual revenues, let’s now figure out how we will accommodate the shortfall.
ARMSTRONG: I agree in that I don’t particularly like the flat tax. All the flat tax is doing is basically continuing the current trend in motion. Ever since 1970 we have been constantly reducing deductions – the 1986 tax reform, the 1987 tax reform they break down the rates and eliminate deductions. The flat tax is simply taking that trend that has been in motion and brining it to the extreme. Quite frankly I think it is ludicrous because then what will happen is that the same problems will still exist.
Many people talk about our trade with Japan. If you take the Japanese postal administration for example, they have $12 trillion in cash. Our trade deficit with Japan is $50 billion per year. If you take Nippon Life (a Japanese company) who has $1.5 trillion dollars and they decided to move even 10% of their portfolio into US government bonds, what happens? That is equal to 20 years worth of trade numbers. How has Japan amassed all this money? Quite frankly, if you analyze the numbers you will find that Japan owns 1/3 of our national debt. This means that the interest expenditures on our debt is being exported. When a foreigner buys our debt, they do not pay income tax. All these debates about income taxes and progressivity, they apply to Americans only. The more foreigners buy, the more we export our capital. We are bleeding.
FLORIO: I guess my one observation as I listened to both the speakers was that considering the terrible, terrible systems that we have we are the richest nation on the face of the earth and everyone else in all the economies around the world are trying to emulate what we have and it is startling to me that we would want to shift to tax systems such as they have. I know we would not want to aspire to 12% unemployment like Europe.
ARMSTRONG: Clearly Europe’s problems are not just their tax systems. Europe’s problem is also its unbelievable regulation on labor and everything else.
FLORIO: So our problems are exclusively tax related and there’s are not.
ARMSTRONG: No. Our problem here is basically that we are extremely dependent upon foreign capital. Just ask yourself this: If the Japanese had no bought 1/3 of our national debt when they only owned 7% in 1995, this entire bull market that everyone thinks is purely American would not have happened. Where would interest rates be if that capital hadn’t come to the US. Would interest rates be 50% higher today? They might be.
FLORIO: If you talk to certain people, they will offer a mark of excellence for our economy that we are able to attract capital from overseas and that is a strong point that allows for investment in this nation which ultimately results in dividends. One of the problems that I have with the flat tax proposal is that if it is going to create an added deficit such as the Treasury Dept. has stated, what will that do to interest rates. Over the last four years we have just gone from a $280 billion deficit to a $60 billion deficit this year and if we make the suggested changes in the codes that would add on another $150 or $160 in deficits. This will undoubtedly result in higher interest rates as well as an economic slowdown with all its subsequent consequences. So all I am suggesting is that many of these proposals have not been thought out. People are cavalierly saying that our current system, which admittedly needs some work, should just be thrown out the door notwithstanding the fact that it has brought us to the pinnacle of world supremacy seems to me to be a little less than thoughtful.
ZIMMER: If I could speak up on behalf of the absent Steve Forbes, I think there are two separate issues as the question indicated some time ago. The structure of the taxes could be flat or graduated and the level. Steve wants the government to collect less money. So would I, but you can have a flat tax that is revenue neutral. You can argue that the Treasury Dept. says that number needs to be 21% and I think Steve says 19%, but what I would like to discuss is not whether taxes should be higher or lower because that is a simple issue, but instead what the structure should be. One way to focus on this issue is to perhaps look at the 1986 tax revision because that is the closest we ever got to moving towards a flat tax. Now, Steve was correct in saying that the reforms did leave the tax code more complicated. As a matter of fact, 1986 was when I stopped trying to figure out my own taxes. But the fact is that tax rates were brought down considerably, the base was broadened considerably and I believe you supported that reform in’86, didn’t you Jim?
FLORIO: I did. But you are also eliminating the observation that there were an awful lot of deductions, some of which were regarded are meritorious. If we have any housing people in the audience they will tell you chapter and verse how the housing market was impacted dramatically and adversely. So all I am suggesting is that there are trade-offs to be considered.
ZIMMER: In looking back on that vote in 1986, do you think it was a mistake to enact the 1986 tax plan.
FLORIO: No. What I am suggesting is that there is a difference between modifying, tinkering, hopefully making improvements and just throwing out the entire system for a new system that I don’t believe we have truly evaluated, particularly when it eliminates so many things that are at the heart of our national reason for being such as home ownership. What was not said was that the evaluation again out of the Treasury Dept. said that property values will decrease by 10-15% as a result of eliminating the home interest mortgage. Now for a middle class person whose major asset in life is their home, to discuss making these changes without further evaluation will be somewhat traumatic.
ZIMMER: I think the estimate as to how much home values would go down became an issue in the Republican primary last year when it was used as a Dole attack ad, the accuracy of which was questioned. Marty, do you have any lessons from the 1986 tax change?
ARMSTRONG: Yes. I do not think we can create a tax bill that is ever going to work efficiently. Part of what we do for clients is figure out ways around tax codes. Take the flat tax and the issue of eliminating home interest deductibility. How can you get around that? It’s very easy. You set up a company and the company then buys a house. The company then holds the investment and you simply pay yourself dividends which is the rent. Guess what – that’s tax free. There are so many ways to get around absolutely every law ever written.
ZIMMER: Including the sales tax. That is one point I want to raise before we go to questions. You have said that there is a tremendous underground economy and two prices to have work done on your house, but many people will tell you that services that would be taxed under your proposal can ask for cash as well.
ARMSTRONG: This is very interesting. California has done a study on this issue where they assessed taxes on services. Let’s say a guy buys wood and goes around working on various houses. They have the formula down to a science depending upon how much wood is bought and the wholesale value. They determine how much he should be charging and that’s what he’s billed for. He can then collect the tax from his customers and if he chooses not to, then that’s his decision.
ZIMMER: And that would be part of your plan?
ARMSTRONG: If you really took the resources the IRS instead of trying to regulate 240 million people, they would only have to regulate 30 million businesses. If you want to open a business, you have to have a business license so they are easy to keep track of. It is much easier to enforce a tax on a smaller group of businesses.
FLORIO: Can I ask what the rate of the sales would have to be to be revenue neutral?
ARMSTRONG: 10%.
FLORIO: 10% on top of local and country and municipal taxes?
ARMSTRONG: It would depend upon how the state wants to handle it
FLORIO: But they would be permitted to do so?
ARMSTRONG: Yes and I think what you would find is that it would eliminate the federal income tax. Now you are talking about the lower income people. There is another issue with the current income tax system that is not discussed. We still take the money out of their checks and then at year-end we pretend to be Santa Claus and give them their tax refunds. We are borrowing from the poor and not even paying them interest. We do this all the time, but then want to look like a compassionate government so we give refunds at year-end.
FLORIO: And whom do you define as poor?
ARMSTRONG: Someone earning $10,000, $12,000, $15,000 per year. They have to pay taxes.
ZIMMER: Let’s take some questions from the floor.
QUESTION #1: Gentlemen. What are your thoughts on abolishing cash and going to a national debit system. What Mr. Armstrong said before about the huge underground economy is more than enough to balance our budget and give us a huge surplus. I don’t know if you remember the movie Total Recall, there was a segment where Arnold Schwarzenager checked into a hotel, he didn’t pay but instead used credits. I think you could potentially balance your budget, come up with plenty of extra money and eliminate our biggest problem.
ARMSTRONG: We have debit cards now.
QUESTION #1: But what I am saying is physically abolish cash.
ARMSTRONG: Yes, I understand but I am saying that the system is already moving in that direction. The government already put together something called the Bank of America Project. They eliminated cash in two cities in the US and it worked. Europe is moving in that direction also. As I was saying before, ten years from now I do not believe you will see much cash anymore.
FLORIO: [to audience] So you are saying that you think this system would be better?
QUESTION #1: Oh, hell yes. I think it would get rid of the underground economy.
ARMSTRONG: The federal government is already doing that. In 1932 the highest denomination bill circulating in this country was a $10,000 note. The highest bill today is $100. Now inflation has been substantial since then. We even had $500 bills in the 1960s, but we do not print them anymore. The government has been systematically reducing the amount of cash in circulating and the main purpose of this is to force everyone into debit cards.
ZIMMER: That might do away with the current underground economy, but you would still have bartering and you would be able to get around it that way.
QUESTION #2: The one thing I find attractive about the sales tax and something I haven’t heard mentioned is that the taxpayer has a choice. If you can’t pay the tax, then you hold off on the purchase or you can buy a cheaper product if you want to reduce your tax.
ARMSTRONG: There have been numerous studies done that show that the top income tax people do consume more. Accordingly, the more they spend on their million dollar yachts, they pay a higher sales tax. They got Donald Trump on his yacht here in New Jersey. I think that was under your administration Jim, wasn’t it?
FLORIO: Yes, I think it was.
ARMSTRONG: Trump bought a yacht overseas, docked in Atlantic City and then found out he had to pay tax. Those taxes are much easier to collect and it harder to avoid paying.
FLORIO: In some respects that presupposes a system that takes into account necessities. There are other areas in this country where they tax food. One would hope that we would move in a direction that would distinguish between necessary and discretionary income. It seems that this sales tax would be particularly regressive and burdensome if it was imposed upon necessities.
ZIMMER: I believe the current sales tax system being proposed would eliminate necessities.
ARMSTRONG: Yes, basic necessities would not be taxed. If you implemented a national sales tax, then you could have the states also come in at a 5% tax consistent across the board. Then New Jersey would gets its fair share of any tax on goods being produced somewhere else because you are eliminating the incentive to buy from another state.
FLORIO: It seems that all of us amuse ourselves with the idea that anything we do is not going to be evaded before as soon as the system is implemented people will begin to find ways around it. So I guess what I am saying is that I don’t have any difficulty with the understanding that you are trying to make it as foolproof as possible. However, we should not be changing the system, particularly in a radical form, just because there are evasions that take place.
QUESTION #3: There is a point that I don’t think has been touched on enough. Basically the national sales tax and flat tax are consumption taxes because they do not tax the fruits of investments and savings.
ARMSTRONG: But there is a substantial difference. A sales tax does not touch worldwide income.
QUESTION #3: Right, but conceptually you have a big difference between the sales tax and flat tax on one side and the current progressive income tax on the other which taxes earnings and the results of investments. I am surprised that neither you Marty or Steve are emphasizing the fact that the current system actually punishes people who invest and save and take risks thereby creating jobs.
I would like to ask Mr. Florio first, the savings rate of this country despite our recent growth in the stock market is very low. Do you think that by reducing the penalties on people who save and invest, we can increase savings and increase growth?
FLORIO: It is a hard case to argue that somehow we have not been doing the right things in terms of investments. As I have said, we are the wealthiest nation on the face of the earth and we are as productive as anyone else in the world is, so we have obviously been doing something right. I believe we have done so well because we are a consumption oriented economy. We believe that if you put dollars in peoples’ pockets most people have good sense enough to buy good products. The entrepreneurs and business people then respond to that market pressure and make the right investments. This approach has resulted in all the things we have today. If we really want to have forced savings in a way that the Japanese do, just be prepared for a radically different America that one would expect under a governmentally imposed savings system. We have done reasonably well with the way we accumulate taxes.
QUESTION #3: Marty may have better numbers then I, but since the mid-1970s I think our annual rate of growth has been 2.5% to 3% which is a point and a half or so worse than it was during the 20 previous years. This coincided with a lower rate of savings. Is that correct?
ARMSTRONG: Well, yes. The other point is that we were losing jobs left and right until the Reagan tax cuts. Now what the Reagan tax cuts did was suddenly attract foreign companies. It became more profitable for Japan to start manufacturing in the US. We have recently seen Honda move 100% of their final assembly here to the US. BMW and Mercedes are also here in the US. They never were before. What made them change? Our corporate tax rate at 70% in the late 1970s was either as high or higher than the rate these companies were paying at home. Once the rate was lowered it became financially beneficial for them to open plants here in the US.
Another problem that I think has been misconstrued about the 1980s is simply the amount of debt that we have – and I do not see that the 80’s were a period of greed and all that other nonsense. If you look objectively at the numbers, you see that when Reagan took office the national debt was $1 trillion. After his term, the national debt was $2 trillion. Now everyone used this proof that Reaganomics did not work. However, if you look at what happened you will see that revenues and spending were balanced. The national debt doubled by $1 trillion during Reagan’s eight year period due to simple compound interest. When you are getting a rate on average of 10% or higher, don’t you double your money in less than 10 years? When Reagan left office the national debt was $2 trillion and now our debt is $6 trillion.
FLORIO: I can’t just let that go by when it is factually incorrect.
ARMSTRONG: It is not incorrect. Is the national debt $6 trillion today?
FLORIO: Yes and it was $4.5 at the end of the Reagan.
ARMSTRONG: No that was at the end of Bush. I said at the end of Reagan the national debt was $2 trillion.
FLORIO: Okay.
ARMSTRONG: I am not indicting anyone. I am just saying it was interest.
QUESTION #4: I would agree that we are the greatest nation on the face of the earth. Eight years ago the greatest nation on the face of the earth was Japan. Japan’s interest rates are now around 1% while ours is close to 7%. Anybody that can do simple arithmetic can see that if you borrow at 1% and invest at 7% you got a good deal. Our friends in Japan are exploiting our debt and there’s nothing tricky about it.
I wanted to ask you Governor, you talk about a progressive system. Here we have a flat tax proposal that in moderate terms is a progressive system and I would like you to tell me when I am wrong. Just quickly, if a family of four is making $36,000 pays 0%. A family of four making $80,000 pays roughly something slightly less than 10%. Finally, a family of four making $300,000 pays approximately 15%. That to me is progressive.
FLORIO: I don’t know where you’re getting your numbers from. It is my understanding that Mr. Forbes’ system is a 17% tax.
QUESTION #4: But he said that the first $36,000 would be tax free. So someone making $80,000 doesn’t pay anything on the first $36,000 they merely pay 17% on the $44,000 this comes up to approximately 9-10%. Isn’t this progressive?
FLORIO: The answer is that it seems to me what we are talking about is again if you accept the definition of the differences between incomes, necessary and discretionary, that I don’t know how you would argue that a flat tax is anything other than a non-progressive tax. You don’t have to label it regressive, just at least label it non-progressive tax.
QUESTION #4: I think that is a terrible label.
FLORIO: I didn’t label it, Mr. Forbes’ labeled it.
QUESTION #4: Whoever labeled it is wrong. The math shows that as a percentage of income earned versus taxes paid, there is clearly a differential as you go up the scale. You have to go up to an extremely high number to hit a 17% rate. But if $300,000 is 17%, $80,000 is 9% and $36,000 is 0% – that is fair.
ZIMMER: We have time for one more question. After this, I invite you to join us for refreshments. I hope Mr. Florio and Mr. Armstrong will join us for some informal comments and for those of you who are not already members of Citizens for a Better New Jersey you can sign up outside.
QUESTION #5: Governor, I have tried to listen to you very carefully and you seem to be emphasizing pension deductions and particularly the home deduction. You said most people would be disturbed if those two deductions were eliminated. At the same time you said the average income of $32,000…
FLORIO: Not average – median.
QUESTION #5: Okay median makes the assumption of 50%. I think that’s most people. Yet according to the flat tax, people making under $36,000 would not be paying anything. So if I’m not paying anything, why would I be disturbed about losing my pension and home deductions? I just don’t see the logic.
FLORIO: First of all, a lot of these numbers are, as I said before, Mr. Forbes disputes the Treasury Dept.’s numbers on the deficit. No one will vote to increase the national deficit, nor should they. Again, whatever the range – whether it’s $145 billion per year or $200 billion per year, it’s not going to happen. Some of the leaders in Congress, even of Mr. Forbes’ friends, say they have to increase the level and they don’t want to do that, they want to put back in some of the deductions. The difficulty is as you increase the level of the tax, you knock more and more people out of those exemptions and more and more people don’t get any benefits. Then whatever exemptions you eliminate are to people’s detriment. Again, I mentioned earlier of what is happening with pension funds. The traditional pension fund system are being eliminated left and right and there are an awful lot of folks who are now beginning to understand, particularly, as they get older that they’ve got to make some of these decisions. And if in fact there in a situation where their employer is kicking in to the system and now we’re getting rid of the business deduction for kicking into that system, one of two or three things is going to happen. 1) it’s going to stop; 2) there is going to be a decrease in wage increases down the road to compensate. And by the way, the same thing goes with regard to health insurance. We already have 44 million Americans who have no access whatsoever to health insurance and we have been losing 1 million people per year largely because of the changes with employment situations. As we have more folks who are permanent temporaries they don’t get health insurance. If we are going to start taking away the deduction that the employer gets for health insurance, that’s not going to be available either.
So all of these things are up in the air and no one really knows of the outcome. This is why during the Republican primary I thought it was instructive seeing many people whose credentials say conservative and yet they were raising very legitimate questions about the particular proposal and then no one had a really solid answer because I don’t think anyone has really through the consequences. I can conceive of a situation where we could have a stratified flat tax system and then go through the intellectual discipline of making up our minds as to which of the deductions we would want to preserve. If you say the oil depletion allowance, if that is still in existence, is important or is not important you can either keep it or scrap it. I think for most people you could say that the home interest deduction is probably something you want to keep if we are going to reinforce home ownership. But I would suggest that if we really want to talk about simplification and a flat tax concept, a minimum that would be required is to keep some gradation so as to take into account income differences.
ARMSTRONG: I think we really do have to look at throwing the whole thing out. I do not like the flat tax and you might find it unusual, but I actually agree that there are many problems with the flat tax that have not been well thought out. My point is that I think it is very difficult for any administration to really take into account all the possibilities. The simplest thing to do is to really make a level playing field for the states as well as the federal government and move to that system because we will be out of the cash system shortly. We have to be internationally competitive. We cannot stand as the only nation taxing worldwide income and that is the way it is right now. Only the United States does that (and Japan). Yet the economy here in the US is growing – that’s true. We may have the best economy in the world – but who owns it. 40% of New York City is now owned by foreigners. The economy is still here, but Americans don’t own it. If we do not wake up to this international issue all the discussions about progressivity or flat taxes won’t make a difference because we are only taxing each other. We have to broaden our tax base. Foreigners can buy our government bonds and pay nothing. We discriminate against Americans. If you buy our government debt, you have to pay income tax, yet a foreigner does not. Somehow that seems wrong. We are exporting 40% of our interest expenditures, which is more than social security, completely tax free. Why can’t that money stay here in the US? Because we have to pay an income tax on it, so we are not interested.
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