Ron shared with us his thought on the origins of taxation, the enlightenment thinkers on taxaxtion and as a CPA, the alternatives to the current tax system in the United States. Ron acknowledged that many insights he shared were found in Charles Adams great book, For Good and Evil: The Impact of Taxes on the Course of Civilization.

1. Ron Baker, Founder
VeraSage Institute
@ronaldbaker
The History
of Taxation:
For Good
and Evil

2. • “Taxes are what we pay
for a civilized society”
– Supreme Court justice
Oliver Wendell
Holmes, 1927
– Inscribed above
entrance to IRS,
Washington D.C.
• “I want a refund”
– Anonymous

3. “Prices and quantities only change as the result of
human action. Where in the world can a new
price come from if not a human bidding or asking
above or below the market price? Supply and
demand curves give us a rough picture of market
behavior as an effect of human action, and
certainly not the cause of it. No one acts with the
into balance.”
“The prosperity as well as the decline of nations
has always had a tax factor, and this we will
see time and again throughout history.”

4. Civil War to 16th Amendment
• Prior to 1894, government revenue came from tariffs
• IRS created by Act of Congress on July 1, 1862
• First income tax (1862) four pages
• A shrewd Illinois lawyer overpaid his tax in 1864 by
$1,250
• Tax evasion: World’s oldest profession
• History: Don’t tax you, don’t tax me, tax the guy behind
the tree

5. Alternatives to the Current Tax
System
• Reform, not Revolution
• History
• Application/Mechanics
• Effect on international trade
• Transition issues
• Rate needed to replace existing system
• Advantages and disadvantages
• Political prospects

6. VAT: Very [easy to raise] A [hidden]
Tax
• Average tax burden in VAT countries = 41.4% vs. 32%
in non-VAT countries
Australia 8%, 1973; 10% today
Denmark 10%, 1967; 25% today
Britain 10%, 1967, 20% today
Italy 12%, 22% today
• Rate increases averaged 71% in 12 OECD countries
that adopted VAT before 1973
• Total taxes as share of GDP = 27.2% (1965 Pre-VAT)
• Total taxes as share of GDP = 41.4% (1993 Post-VAT)

7. National Sales Tax
• CATO Institute––16% national sales tax
• Administered by the fifty states, not the IRS
• The CATO proposal includes the following:
• A 16% tax goods & services, except
housing and securities;
• Every American receive annual rebate first
$4,000 of purchases;
• 2/3 supermajority in both houses to raise
taxes

8. Advantages of Sales Tax
• Taxes the underground economy
• Lowers administrative & compliance burden
• More visible than a VAT
• Difficult to evade, easy to avoid––just save, don’t
spend
• Indirect tax (not direct)
• Eliminates IRS and most audits (of personal T/Rs)

9. Advantages of Sales Tax (cont.)
• Perceived as being fair
• Removes filing personal tax returns
(majority of T/Rs)
• Taxes the elderly more (who’ve been
receiving massive subsidies from Social
Security and Medicare)

10. Disadvantages
• A 19% rate needed, not 16%
• Exempt business/government/exports, 32% rate
• Have to tax all services––few states do; exempt
services, 65% rate
• Exclude food, 6% increase; exclude medical care,
11% increase; on top of average state rate
• Incredible evasion temptation above 10%

11. Disadvantages (cont.)
• 5 states would have to adopt a sales tax
• Admin burden mandate––increase rate 1%
• Tenth Amendment issues
• 43 states piggy back on IRS tax laws and may still
require T/Rs
• Self employed still file returns
• States continue audits of both tax returns
• Cascading

12. Disadvantages (cont.)
• Requires tax registration number
• Transition to a sales tax (boom/bust cycle)
• Social Security benefits recalculated, as based
partly on income
• Regressive tax
• Who tracks the credit to the poor, requiring a 7%
increase
• Intergenerational effect/eliminates consumer
surplus

13. Individual Consumption Tax
• Except India and Sri Lanka, tax authorities
around the world have had no experience
with an individual consumption tax
• In April, 1995 the individual consumption
tax proposed by Senators Nunn and
Domenici, The Unlimited Saving Allowance
(USA) Tax

14. Individual Consumption Tax
Application
A typical calculation of the individual consumption
tax would be as follows:
Income $100
Plus:
New loan for Auto $15
Reduction in Mortgage Principal ($10)
Net New Debt $5
Less:
Beginning of year bank balance $40
End of year bank balance ($50)
Increase in savings ($10)
Equals Consumption Tax Base $95

15. The Nunn-Domenici USA Tax
• Eliminates individual and corporate tax
• Retains estate, gift and payroll tax
• Progressive rate structure to 40%
• Favorable treatment for housing, charity,
and state and local income taxes
• Two part tax: Individual Tax; Business Tax

16. Advantages of USA Tax
• Increases savings––Salutary Substitution
Effect
• Discourages consumption (Luxury Fever,
Robert Frank)
• Shifts burden from young generation to
elderly

17. Disadvantages of USA Tax
• Ridiculously complex
• No country has experience with it
• Central planning mentality
• Why is consumption bad?
– Purpose of work is to consume
– Savings not an end to itself, but a way to
finance future consumption
– Should we work harder and die wealthy? Or die
happy?

18. The Flat Tax
• Robert Hall and Alvin Rabushka, The Flat
Tax, Second Edition
• Application
– Fringe benefits are currently not taxed at all
– Dividends and capital gains are taxed twice
– Interest income, supposed to be taxed once,
escapes tax (interest deductions exceed income
in the aggregate)

19. Two Components to
Hall/Rabushka Flat Tax
Individual Tax
Business Tax

20. Advantages of the Flat Tax
• Lowers compliance burden (up to 94%)
• Air tight––taxes all income once, closest to
source
• Eliminates tax arbitrage
• Levels playing field––eliminates
differentials in worth of deductions
• Interest rates would drop (by 25%, Federal
Reserve Board)

21. Advantages of the Flat Tax
(cont.)
• Effectively taxes government––labor intensive
• Difficult for Congress to increase––supermajority
• Doesn’t require repeal of 16th Amendment
• Removes rewards/punishments––neutral towards
behavior
• Marginal rate = effective rate = no penalty for
earning more

22. Disadvantages of the Flat Tax
• Doesn’t tax underground economy
• Alleged windfall to the rich
• Inherited wealth (coupon clippers) not pay fair
share
• EIC is repealed, hurt the poor
• Loss of mortgage deduction = real estate crash
• Loss of charitable deduction will halt charity

23. Disadvantages of the Flat Tax
(cont.)
• Simplicity is the enemy of fairness
• Not a perfect tax
• An old tax is a good tax––flat tax never
been tried (broken odometer)
• The Pinocchio Press Effect (Rabushka)

24. America:Who Really Pays the Taxes,
Donald Barlett and James Steele
Bush
AGI $1,324,456
Total Taxes $239,083
Effective Rate 18.1%
Royalties $889,176
(Millie’s Book)
Contributions $818,803
% of Income 62%
Net Income $505,653
Effective Rate 47%
Portland Oregon
$33,499
$6,618
19.8%
-0-
N.A.
N.A
N.A.
N.A.

25. Who Pays the Tax? 1996
Top % Taxes Income Avg Rate
1% 32.3% $229,230 28.7%
5% 50.8% $101,202 23.9%
10% 62.4% $74,981 21.4%
25% 81.3% $45,833 18.0%
50% 95.7% $23,160 15.9%
50% 4.3% $23,160 4.4%
Bottom

26. Who Pays the Tax? 2012
Top % Taxes Income AGI Share
1% 36.7% $434,682 21.86%
5% 58.95% $175,817 36.84%
10% 70.17% $125,195 47.87%
25% 86.4% $73,354 69.25%
50% 97.22% >$36,055 88.9%
50% 2.78% <$36,055 11.1%
Bottom

28. Progressive Taxation
Thought Experiment:
Jack earns $10,000 @ 30% tax = $3,000
Jill earns $100,000 @ 5% tax = $5,000
They both draw equal amounts of water from the
community well
Is this fair?

29. The Constitution of Liberty,
Friedrich A. Hayek
• Chief source of irresponsibility of
democratic action
• Arbitrary––no limit to top rate, can always
go higher
• Violates equal pay for equal work
• Horizontal equity––people under similar
circumstances bear equal burden
• Vertical equity––ability to pay

30. The Constitution of Liberty,
Friedrich A. Hayek
• Big business protection act
• Devised by salaried men
• Decreasing marginal utility––specious
argument (utility ≠ income)
• Doesn’t redistribute income, but taxpayers

31. Milton Friedman on Tax
Reform
Least bad tax: Henry George’s tax on undeveloped land
Next least bad: Flat tax with exemptions (progressive)
Three reasons major tax reform won’t happen:
1) Neither side trusts the other and both are right
(deductions creep back in; rates creep back up)
2) Importance of appearance vs. reality (fairness)
3) Congress would be out of business—nothing to sell

32. Charles Adams’ Nine Reforms
Tear down the spy system
Establish a crime for tax extortion as well as
a civil action for damages
Establish a civil action for damages for
tortuous tax admin including: malicious tax
investigations, extortions, leaked info, and
grand jury abuse

33. Charles Adams’ Nine Reforms
(cont.)
Have all federal tax districts coincide with
congressional districts and provide for the recall of
district directors
Adjudicate tax disputes like any other debt
Decriminalize the tax law––fraud is a crime, not
evasion
Make congressional representatives and federal
judges immune from the IRS

34. Charles Adams’ Nine Reforms
(cont.)
Make our federal tax system indirect as
much as possible
National consumption tax, like a sales tax
Indirect tax
Eliminates IRS
Only businesses under scrutiny
Exports more competitive
Taxes underground economy

35. A Modest Proposal
Compute the following ratio for each
Congressman:
Spending Generating Votes = Ratio
Revenue Generating Votes
Your Total Tax Liability (per Form 1040) x Your
Congressman’s Ratio

36. Giving money and power to
government is like giving
whiskey and car keys to
teenage boys
–PJ O’Rourke

38. Thank You!
ron@verasage.com
Twitter @ronaldbaker
VeraSage website/blog
www.verasage.com
(707) 769-0965
www.voiceamerica.com
Fridays, 1pm PT/4pm ET
www.verasage.com/tsoe

39. In every economy, one major
conflict:
• Between the past and the future
• Joseph Schumpeter labeled it “creative
destruction”
• Death of TV, newspapers, music, publishing
• Mainstream press
• Labor unions declining
• School vouchers/home schooling

40. Thought Experiment
A failed haberdasher
A Harvard sophomore dropout
A 6-month junior college dropout
College student with a C+ term paper
General Motors
Which one will the government invest in?

41. Two Effects From Changes in
Marginal Tax Rates
• Income Effect––people have more money,
so they work less (a target income theory)
• Substitution Effect––work pays more
relative to leisure, so people work more

42. The Laffer Curve
0
Percent)
0
Revenues
A

43. 4 Ways to Spend Money
Yours
Someone
else’s
You Someone
else
Family
car
Gift
Expense
account
Government

44. Individual Tax Levied On:
• Wages, salaries, pensions, workers comp,
and FMV of stock options when received
(not exercised); Social Security is tax free
• Interest, dividends, and capital gains are not
subject to the individual tax
• Rental income, sole props, partnerships and
corps required to file the Business Tax Form
for each activity

45. Individual Tax Levied On
(cont.):
• No deductions allowed, except for a
personal allowance and dependency
allowances
• No tax on gifts, inheritances or trust
income––Subtitle B of the IRC is repealed
• Children under 14 with income added to
parents––no “Kiddie Tax”

46. Business Tax is Levied On:
• Gross receipts and proceeds of business
assets; less
• Compensation, capital equipment, inventory
items, real estate, other business property,
supplies, services, travel and entertainment,
excise taxes (not property taxes) and any
transition deductions allowed
• No deduction for employer’s share of FICA
or for any fringe benefits

47. Business Tax is Levied On
(cont.):
• NOLs carryforward indefinitely, adjusted
with a Treasury Bill Index annually
• Hall/Rabushka allow owners to pay
themselves from business (Armey-Shelby
does not)
• Businesses would be able to purchase other
companies and retain any NOLs

48. Transition Issues
• State income tax conformity
• Fringe benefits
• Mortgage deductions
• Depreciation (unused basis = $597B in
1992)
• NOLs and credits

50. The problem with Category II