Principles of Sound Tax Policy Brunori Chapter 2 Mikesell Chapter 8

Four principles of Adam Smith The subjects of every state ought to contribute towards the support of government, as nearly as possible, in proportion to their respective abilities; that is, in proportion to the revenue which they respectively enjoy under the protection of the state. The tax that each individual is bound to pay ought to be certain and not arbitrary. Every tax ought to be levied at the time, or in the manner, in which it is most likely to be convenient for the contributor to pay. Every tax ought to be so contrived as both to take out and keep out of the pockets of the people as little as possible, over and above what it brings into the public treasury of the state.

Five Broad Principles of Taxation Raising adequate revenue Neutrality Fairness Horizontal equity Vertical equity Ease of administration and compliance Accountability and Transparency

Adequate Revenue The primary purpose of any tax system is to raise revenue to cover the costs of public expenditures. Balanced budget laws largely prevent states from deficit spending. Thus, the tax system must raise the requisite revenue to pay for those services the public demands.

complicating factors for revenue adequacy Anti-tax movement Shrinking tax base

Neutrality Most economists and political theorists agree that taxes should have as little effect on market decisions as possible. Neither businesses nor individuals should be forced (or encouraged) to take action solely because of tax consequences, either positive or negative. Policymakers widely agree the tax neutrality is best attained by a system with a broad base (i.e., one with few exemptions, deductions, and credits) and low rates. Tax systems built on a foundation of broad bases and low rates will minimize the opportunity and incentive to make economic decisions based on tax savings.

examples of tax neutrality High marginal tax rates for high income individuals Marriage tax Sin taxes

Horizontal Equity The principle that similar individuals who make different economic choices should be treated similarly by the tax system

Vertical Equity The principle that groups with more resources should pay higher taxes than groups with fewer resources.

Marginal and Average Tax Rates Marginal tax rate: the percentage that is paid in taxes of the next dollar earned Average tax rate: the percentage of total income that is paid in taxes

Vertical Equity Classifications Regressive: Average decreases as income increases Proportional: Average stays constant no matter what the income level Progressive: Average increases as income increases

Regressive Sales Tax Low Income Taxpayer Tax Rate on Food: 10% Personal Income: $20,000 Food Purchased: $5,000 Tax Liability: Marginal Tax Rate: Average Tax Rate:

Regressive Sales Tax High Income Tax Payer Tax Rate on Food: 10% Personal Income: $200,000 Food Purchased: $10,000 Tax Liability: Marginal Tax Rate: Average Tax Rate:

Individual Income Tax Low Income Individual Tax Brackets Top Rate: 12% Personal Income: $20,000 Tax Liability: $3,400 Marginal Rate: Average Rate:

Individual Income Tax High Income Individual Tax Brackets Top Rate: 35% Personal Income: $200,000 Tax Liability: $45,000 Marginal Rate: Average Rate:

Ease of Administration and Compliance The administrative requirements of sound tax policy entail minimizing the costs of compliance for taxpayers and of collection for the government. The more complicated the tax system grows, the greater the costs of tax payer compliance. The government faces many of the same problems as individuals when navigating a complicated revenue system. Ultimately, the complications (which are usually the result of a desire to ease regressivity or to provide incentives) require significantly more resources and thus raise the costs of enforcement and collection.

Accountability and Transparency Achieving accountability requires states to play several roles. The government must ensure that those charged with the administration and enforcement of the tax laws are performing their duties efficiently and fairly. The government must enforce the laws. Open, transparent tax policy has proved more difficult for states to achieve. Accountability requires states to review existing laws and determine whether they are serving the needs of the citizens.

Utah Tax Reform Principles Governor Olene Walker Be fair, just, and balanced Support a business friendly environment Focus on funding critical needs Have structural balance Be a tax system for the 21st Century Balance state and local obligations and revenues sources