Jim Pethokoukis points out what he calls a “gimmick” in Governor Rick Perry’s proposed flat tax plan: taxpayers would get the choice to file under the current tax code or under the new flat tax plan. While I agree that this is a bit silly from a policy point of view, the problems go deeper than that. Why? Well, the flat tax is supposed to do three things: raise sufficient revenue, reduce compliance costs, and reduce economic distortions.
But if you can choose which tax code to file under then, to a first approximation, people will choose whichever costs them the least. In theory at least, to raise the same revenue in a static analysis the flat tax would have to be set such that no one could pay lower taxes than under current law, since if they could pay lower taxes they will pay lower taxes. It’s easy to respond that people would choose the flat tax for its simplicity even if it costs them more, but they can already have a simple tax code under current law: just don’t bother hunting down all your deductions.
The same goes for compliance costs: to know which tax code to file under you need to do your taxes under both, undermining the simplicity of the flat tax. One of the reasons compliance costs are so high today is that there can be such a reward for figuring out strategies to minimize your taxes; it’s not clear that Perry’s flat tax fixes this problem. And finally, if people have the option of filing under the current tax code then all the economic distortions embedded in it will remain, at least for that significant portion of the population who would do better under current law than the flat tax. A person may say to himself, “I can pay lower taxes than under the flat tax plan so long as I [insert governmentally imposed distortion here].” Marginal tax rates for high earners would be lower, reducing economic distortions, but it’s unclear where you’ll make up the revenue if low and middle earners get to file under current law where they pay next to nothing.
Back when I worked on Social Security reform, the idea of voluntary personal retirement accounts seemed liked a great one—if you want an account that’s great, but we won’t force it on you. But it ultimately made the policy a lot more complicated than it had to be. The same goes here: if you think a flat tax is superior, propose a flat tax. Will there be winners and losers? Sure, but that’s how life and policymaking go.