I have a confession to make. Though I am a fully paid up lefty, I am in favour of a flat tax.
Is it progressive?
A flat tax can be fairly progressive, if the tax-free allowance is quite large, though this means the marginal rate has to be higher, to get enough revenue.
I’m not too worried about the efficiency costs of a moderately high marginal tax rate. As Stumbling and Mumbling pointed out, high marginal rates may not be a very big disincentive in practice. Before you take away my subscription to The Economist as well, I do believe that incentives matter. But my guess is that for most of the population, the substitution effects are broadly offset by the income effects, and the impact on labour supply is minimal.
Admittedly, this isn’t quite as progressive as having higher marginal rates on very large incomes: but in practice those upper rates don’t raise much revenue, so they don’t make much difference to the post-tax distribution of income.
Furthermore a flat tax would, by definition, do away with a whole host of tax breaks that have been designed for the benefit of the middle classes. Getting rid of those would do more to make the tax system progressive than the regressive effects of a single tax rate.
What would it cover?
Here’s the kicker. I’m in favour of a flat tax, provided it covers all income, just like our right wing friends say. You want a broad based tax system? So do I. To ensure that there are no incentives to distort economic behaviour, all income should be taxed equally in all its forms:
- all income from capital, including dividends and interest (what I’m pleased to say we still call "unearned income") – which are currently exempt from
part of income taxNational Insurance
- all capital gains, with no additional allowances and no exemption for houses
- all inherited wealth (which is a form of income to the inheritor)
- all benefits-in-kind, including company cars at full value, air miles, corporate entertainment and hospitality etc
- imputed income of home ownership
- Trusts and other instruments for avoiding tax
- income of non-domiciled residents
That should do it. If we have a broad enough tax base, we should be able to abolish National Insurance, introduce a reasonable untaxed Basic Income Guarantee, and still have a moderate flat tax on all income above the Guarantee.
I think there was something in Nigel Lawson’s efforts to broaden the tax base and reduce tax rates. Not because lower tax rates make much difference to economic performance, but because it is fairer to get rid of all the loopholes designed by and for political lobby groups, and because it is simpler and cheaper to adminster.
The left should be bold enough to sieze this agenda, and use the natural transparency of a flat tax to expose the way in which the incomes of the wealthy are currently shielded from tax.