Nightmare on Main Street

The Daily Reckoning PRESENTS: It’s a universal truth – we all hate taxes. Who really likes giving their hard-earned money to the government? Anyone? Probably not. And Steve Forbes points out in the essay below, adapted from his new book, Flat Tax Revolution, that the average American has no idea how much money they hand over in a given year. Read on…

NIGHTMARE ON MAIN STREET

“In this world nothing can be said to be certain, except death and taxes.”

Benjamin Franklin’s maxim about the inevitability of taxes is so familiar that it has the ring of a cliché. But it suggests a profound truth: Taxes are a certainty we dread almost as much as death. No matter what our politics may be, when tax time approaches we all do our best to pay as little as possible. Some people go so far as to avoid taxes altogether.

Taxes and tax law may seem like dry subjects, but they’ve incited passions from the beginning of time. Even the American Revolution, with its rallying cry of “No taxation without representation,” had its roots in a quarrel over taxation. Years later, the Founding Fathers’ need to repay the debts of that war resulted in an excise tax on whiskey, which sparked the “Whiskey Rebellion,” crushed by George Washington in the backwoods of Pennsylvania.

In the next century, protectionist tariffs on imported goods perceived to favor the fast-industrializing North helped divide the nation before the Civil War. In the late 1970s, a popular uprising in California against excessive taxation eventually led to Ronald Reagan’s election as president.

We so detest taxation that some people will resort to truly desperate measures. Lady Godiva’s famous ride was prompted by indignation over excessive taxes. Her nobleman husband agreed to honor her pleas for tax relief for her fellow citizens-but only if she rode naked through town. Her resulting one-woman protest made history, exposing the unfairness of taxes-and then some.

Today, hardly a day goes by when we don’t read about someone going to jail for tax avoidance. A handful of Americans have even given up their citizenship and moved abroad. Most of us condemn these tax dodgers, but shouldn’t the tax code get some of the blame?

Given America’s history of tax-o-phobia, how in the world did we end up with what we have today: our horrifically heavy, appallingly complex, corruption-inducing tax code? A monster of a system that not only reaches deep into our pockets-but overreaches into our lives. It influences our behavior, distorts our economy, and-yes- ruins our quality of life as individuals and a society.

Most of us don’t get ensnared in the agency’s toxic web. But even for the average taxpayer, the system is riddled with injustices. We all know the complaints:

First and foremost, we pay too much…and more than you’d think. Most Americans don’t realize how far the politicians reach into our pockets. Everything we do is hit with some sort of tax, fee, or toll.

Politicians and many economists insist that “only” about one-third of our “economic output”-i.e., what we the people produce in goods and services each year – goes for taxes. But actually, when you get away from their weasel definitions of what constitutes a tax, you probably pay something like half of your income – or more.

Feel like calling Uncle Sam to complain? Watch out. You’re paying taxes on that phone call – including an excise tax of currently 3 percent passed as a temporary financing measure to pay for the 1898 Spanish American War! The politicians have anesthetized us to the scale of their tax larceny. Did We the People really give them the mandate to empty our wallets like this?

Another complaint: Taxes are too darn complex, especially the federal income tax code. Consider this, for starters: Abraham Lincoln’s Gettysburg Address, which defined the character of the nation, is all of 268 words. The Declaration of Independence runs about 1,300 words. The Constitution, which has served us for more than 2 centuries, comes to some 5,000 words. The Holy Bible has 773,000 words. The federal income tax code and all of its attendant rules and regulations: 9 million words and rising.

An appalling fact about the tax code is that no one really knows what’s in it. That’s why there are endless court cases over what our system actually allows and doesn’t allow. And it’s why there is so much ambiguity and confusion, why so many people and small businesses miss out on taking lawful deductions or end up making mistakes. It’s why people with similar salaries can end up paying wildly different amounts of tax to Uncle Sam.

Indeed, how could anyone possibly know what’s in the code when it reads like the following passage from the 2004 American Job Creation Act. And we quote:

“Sec199(c) Special rule relating to election to treat cutting of timber as a sale or exchange.

– Any election under section 631(a) of the Internal Revenue Code of 1986 made for a taxable year ending on or before the date of the enactment of this Act may be revoked by the taxpayer for any taxable year ending after such date. For purposes of determining whether such taxpayer may make a further election under such section, such election (and any revocation under this section) shall not be taken into account. (p. 23)”

Uh, run that by us again. For those not fluent in taxcode-ese, the passage is explaining how cutting timber fits into the scheme of the new deduction for income from domestic manufacturing. If an owner of timber decides to cut and sell some trees, he can “revoke” his decision to file as having sold these trees for a gain under the new rules passed by Congress in October 2004.

We’ll take their word for it. Little wonder that experts deciphering the code’s perplexing prose are regularly flummoxed, as was powerfully illustrated in 1997 by a Money magazine survey. The editors gave 45 expert tax preparers a return to fill out on behalf of a fictional family, “the Bakers.” What did they owe Uncle Sam? The experts came up with forty-five different answers! Not one came up with the right answer – or at least what Money thought was the right answer. Differences in their calculations ranged from a few hundred dollars to over $50,000. At least that confusion was make-believe. Most of the time it is all too real.

Even the government’s own tax pros don’t understand the system. A 2003 Treasury Department study found that IRS experts manning the agency’s toll-free help lines gave the wrong answers to tax-related questions more than 25 percent of the time. And yes, you are still liable for any errors, even if it’s the IRS that makes the mistake!

Then there are those tax issues that are more exasperating – and inane – than the most arcane questions of medieval theology. Back then, they used to debate how many angels can dance on the head of a pin. Today’s equivalent: How should trees be treated for tax purposes? Trees take decades to grow, which make them very different from cars. An auto today can be manufactured in sixteen to twenty hours. Therefore, shouldn’t the sale of trees be treated as capital gains?

Do you really want to know the answer? Amazingly, countless treatises and legal briefs have been written by lawyers and academics debating what the proper tax status of trees should be! Ready to throw your hands up in despair? You’re not alone.

America’s federal income tax code is the chief political contaminant inside our nation’s capital, encouraging the crassest, crudest political conduct. Consider this: Fully one in six private-sector employees in Washington, D.C., is employed by the lobbying industry. Half of their efforts are directed at wrangling changes in the tax code. Each congressional term, endless interest groups and well-connected individuals push amendments with lucrative tax breaks favoring specific industries, companies – or themselves.

Many of these petitioners seek tax changes ostensibly designed to improve our lives. Shouldn’t we help encourage homeownership? Institute a mortgage interest deduction. Shouldn’t we help people adopt children? Give them a tax credit of up to $10,390 for expenses paid to adopt a child under 18. Shouldn’t we help reduce the marriage penalty? More credits and bigger exemptions for married couples. As appealing and well-intentioned as they appear to be, such popular tax breaks, including the mortgage deduction, are too often a cover for myriad payoffs to politically potent special interests. Besides, if tax rates were low and reasonable in the first place, would we need all these credits? The answer for most deductions, exemptions, credits, deferrals, et cetera is an emphatic “No.”

The tax code’s ambiguity and incomprehensibility invite abuses. Too often, tax breaks benefit the few at the expense of the many. For example, during the 1990s, complicated corporate tax shelters proliferated. Their sole purpose was to cut companies’ tax payments to Washington. Most pretended to be legitimate business devices even though no real business purpose was served.

To see how the process of tax legislation has become a feeding frenzy, consider the American Jobs Creation Act that came before Congress last year. What started out as an attempt to abolish a paltry $5 billion a year export subsidy turned into “the most important tax bill in the last 20 years.” It included about $140 billion of tax breaks. Our representatives somehow managed to find room for a $519 million tax break for small aircraft producers, a $44 million handout for importers of foreign-made ceiling fans and an $8 million loophole for bow and arrow makers (the Defense Department is looking to transform the military, after all). Starbucks (yes, Starbucks) notoriously had itself proclaimed a manufacturer and thus also qualified for a lower corporate tax rate.

After each round of new tax legislation, there is always strutting and breast-beating by lobbyists for those industries getting the most breaks. Publications routinely run lists of those who won and lost in each particular tax bill.

Ultimately the public is the loser. The Long Island Business News most aptly summed up the entire exercise: “American Jobs Creation Act: a 650-page boondoggle.” Too many tax code amendments and laws are the product of – and the excuse for – the exercise of raw political power. Politicians gladly rake in contributions – a form of extortion or protection buying – from groups or people wanting changes in the code.

Astonishingly, members of Congress’s House, Ways & Means Committee, which originates our tax legislation, usually rake in more contributions each election cycle than do most of their peers. Perhaps surprisingly, Ways and Means Committee members usually get more than even their colleagues on the House Appropriations Committee, which decides how and where your tax dollars are actually spent. No wonder congressmen and congresswomen fight fiercely to be on that committee – you’re set for political life if you are. Lobbyists, trade groups, and individuals will shower you with money in hopes of “gaining access” when new tax laws are written, which happens just about every year.

Chief Justice John Marshall once famously said, “The power to tax is the power to destroy.” He also might have added, “And the power to reward favored interests.” Think of it this way: Washington politicians take one dollar from your pocket – and then return fifty cents in various tax deductions. Wouldn’t it be better if they taxed you only that fifty cents in the first place? We would be better off – we’d keep more of what we earned – with a simple, flat tax.

Regards,

Steve Forbes
for The Daily Reckoning

Editor’s Note: The above essay has been adapted from Steve Forbes’ latest book, Flat Tax Revolution. To order your copy, click on the link below:

Flat Tax Revolution: Using a Postcard to Abolsih the IRS

Steve Forbes is president and chief executive officer of Forbes and editor-in-chief of Forbes magazine. Forbes is also chairman of the company’s American Heritage division and publisher of American Heritage magazine. In both 1996 and 2000, Forbes campaigned for the Republican nomination of the presidency. Key to his platform were a flat tax, medical savings accounts, a new Social Security system for working Americans, school choice, term limits, and a strong national defense. Forbes continues to promote this agenda. He lives with his wife and family in New Jersey.

“Don’t give your children too much money, too soon,” say the old timers. “You may not care about the money itself, but you’d hate to see it ruin their lives.”

Easy money can be as corrosive as battery acid or television, or as treacherous as a creeping tide.

At the beginning of the 16th century, Spain discovered easy money in the New World. All it had to do was to plunder it from the Aztecs and Incans. The Spanish crown was soon the richest and most powerful in Europe; the Spanish army pranced all over Europe. Only a few years later its fleet was washed up on the rocks of Scotland, and Spain itself was bankrupt. The Iberian Peninsula remained the poorest part of Europe for the next four centuries.

“In 1961, housewife Viv Nicholson won today’s equivalent of 3 million pounds on the pools [$5 million in the lottery],” writes Jeff Randall in today’s Daily Telegraph. She then “delighted the tabloids by telling them that she was going to ‘spend, spend, spend.’ In a matter of months, the woman was ‘skint’ [busted].

The report does not mention it, but we wouldn’t be surprised to find that she was also divorced, her children were in jail, and that she voted for Tony Blair. Easy money ruins people…and ruins whole nations.

Mr. Randall quotes our book, Empire of Debt, and then elaborates:

“Our see-it, want-it, have-it culture is creating a sad class of debt junkies who are in so deep that the bailiffs will need to hire Captain Nemo to find them.” Randall continues, “Instead of confronting their problems, these feckless borrowers simply close their eyes and sign the chit.”

“Plastic fantastic,” he says is creating a whole new group of people who live with far more debt than they can comfortably carry. In the old days, a man who saved money was a miser; nowadays he’s a wonder.

Mr. Randall refers to the British. Americans may be in worse shape. In America, debt has become an art form.

Last year, a new record was set for personal bankruptcies in the U.S. – more than two million people went broke. Right there, you might do a double take. There was no recession in 2005. There was no stock market crash. Employment was near its highest level ever. Why were so many people going belly up?

The Economist notes that, “consumer spending and residential construction accounted for 90% of GDP growth in recent years.” Yet, consumer incomes did not rise. Real wages actually sank in the last two years. People are simply spending more. And why not? Money was easier to come by than ever before. Every time we turn on our computer we find someone willing to lend us money; people we’ve never even met! We can walk into almost any shop anywhere in the world and buy practically anything we want. We just give the merchant a piece of plastic. He has no way of knowing whether or not we can afford it. For all he knows, we are millions of dollars in debt, have hocked grandma’s jewelry, pledged the ancestral home three times over to all our friends and neighbors, and moonlight at Payless as a shoe clerk. But he doesn’t care. That’s someone else’s problem. He’s going to make the sale!

Meanwhile, we notice that the Feds are trying to make money even easier to get. In the last two weeks, the money supply has shot up $93.5 billion. In the last six weeks, $192.96 worth of new money has come into the system. At the current rate, the U.S. money supply will balloon by about 20% over the next 12 months.

If this were the ’70s or ’80s, you’d hear investors howl. Back then, they knew that all this new money would raise prices. They would have dropped U.S. bonds – and the dollar – as if they were fire. But now, no one cares about consumer price inflation. For reasons never fully understood – at least…not by us – the easy money inflates asset prices, not so much consumer prices. Mainly it is because America’s empire has globalized labor rates. Anything that Asians can make and export is going down in price. This keeps prices low at Wal-Mart, but it also holds down the incomes of the people who shop there. It also puts pressure on prices for the things that Asians can’t export – such as houses, energy and healthcare. So, the working stiff is trapped between rising costs and falling income. He has to run twice as hard just to stay in the same place and fly if he wants to get ahead. His real cost of living is rising while his income is not. He’s had to borrow the easy money to stay even, but easy money has a way of turning hard. It runs out. Eventually, he can’t keep up with the interest payments…he goes broke.

If you owe $12,000 on a credit card, dear reader, and you make minimum payments of 1% of principal each month, it will take you 30 years to pay off your debt. And you will have paid more than $17,000 in interest. No wonder they’re hurting down in the lower depths of our economy. No wonder they’re filing for Chapter 11. No wonder they’re getting cross.

The rich, on the other hand, have been as happy as pigs in mud. They are the ones who own financial and real assets. And those assets have floated higher on this high tide of easy money. Spend, spend, spend – they can’t believe it will ever end.

They, too, will be ruined by easy money. We sit on the edge of our chair…waiting to find out how.

[Ed. Note: ‘Do as I say, not as I do.’ Every parent has said that at one time or another…but no matter what you say, children learn by example – and our debt-burdened country isn’t setting a very good one for upcoming generations. Even if your own finances are in good standing, the majority of the nation is putting your child’s future in jeopardy.

More news from our currency counselor…

Bill Bonner, back in London with more views, ideas, and kvetches…

*** “We don’t know which is a better plan for doing away with the IRS,” writes Addison, “the Flat Tax or the Fair Tax, but we’re going to find out.

“Steve Forbes was gracious, humble and very enthusiastic about The Daily Reckoning. We exchanged signed copies of our books. Heh. It was kind of fun. He extolled the virtues of the Flat Tax over the plan put forth by Neal Boortz. But was more interested in just getting the debate rolling.

” ‘Heh. I love stirring the pot,’ was his final comment after flipping through the pages of Empire of Debt.

“So do we…”

More from Steve Forbes below…

*** Gasoline may go back to $3 a gallon, says a Bloomberg feature. Oil is moving up.

And now Iran says it will introduce a new oil market, calibrated in euros rather than dollars. Some people think this marks the beginning of the end for the dollar. Others think it marks the beginning of the end of civilization; the United States will use nuclear weapons if necessary, they say, to prevent Iran from selling oil in euros.

The U.S. invaded Iraq not to turn the desert tribes into Democrats, the argument goes, but to stop Saddam Hussein from pricing oil in euros. Oil is quoted in dollars. Since the entire world is forced to buy oil, it must exchange local currencies for dollars to do so. This is the real source of America’s imperial finance: it exchanges dollars at par, and then gradually devalues them by diluting the world’s supply with more. “An exorbitant privilege,” said Charles de Gaulle. Saddam Hussein was taken out by U.S. forces because he threatened the empire’s money.

We cannot understand it. It may be true that oil is priced in dollars, but the United States has no way of controlling the rate of exchange. The Feds can control the quantity of dollars or the quality, but not both at the same time. The more they create, the less each dollar is worth. Foreigners could simply demand more dollars per unit of their own currencies. The market can erase the exorbitant privilege anytime it wants…by re-pricing the dollar, lower.

*** Oh no…there’s probably been no better business than installing granite countertops. Everyone seemed to want them. Whole mountains in New Hampshire must have been flattened to keep up with demand. But now comes the sad news that the boom in granite may be over. “Home renovation market simmering down,” says a headline at CNNMoney. In November, 5.6% less was spent on renovation projects than the previous year.