Taxation, often seen as unavoidable, is more an art form than a mere financial obligation. It is a delicate balance between funding government operations and not overburdening the taxpayers.
“The art of taxation is the art of plucking the goose so as to get the most feathers with the least hissing.” Jean-Baptiste Colbert
This concept was famously summed up by Jean-Baptiste Colbert, who knew that taxation was the art of collecting the most taxes while minimizing the complaints over taxation.1 This analogy is more relevant today than ever, especially when considering the U.S. tax system’s complexity and its relationship with citizens.
The challenge lies in the inherent tension between the need for the government to collect taxes to fund public services and the natural desire of individuals and businesses to minimize their tax liabilities. Tax policies must be designed to be fair, efficient, and effective, encouraging compliance while discouraging evasion and avoidance. This balance is precarious, and tipping too far in one direction can lead to dissatisfaction, economic distortion, or both.
The Challenge of Taxation
How to solve Unlimited Wants with Finite Means
Jean-Baptiste Colbert, serving as the Finance Minister under King Louis XIV of France, revolutionized the way we think about taxation.1 His philosophy emphasized the importance of a tax system that is as painless as possible for the taxpayer while still being effective in meeting the needs of the state. His approach underlines today’s tax policies, aiming for a system that extracts necessary resources without stifling economic growth or public contentment.
US Tax Code
The U.S. tax code, a labyrinth of rules and regulations, is a testament to the complexity and intricacy of modern taxation. It is akin to a vast, sprawling metropolis, where every street, building, and alleyway has been meticulously planned, yet can still confound those navigating it without a map. This complexity arises from the need to address a multitude of scenarios, ensuring fairness across diverse economic situations.
Taxation in the U.S. embodies a symbiotic relationship between the government and its citizens. As with the ebb and flow of a river, so goes our taxes. Over various periods of time we have expected our government to provide more or less services and that balance of what the government provides, and what individuals provide creates the basis for the Social Contract (See our article: Social Contract). It is a partnership where individuals and businesses give up some of their freedoms and liberties to live in a society fueled by their taxes that provide the public services everyone relies on, from roads and schools to national defense and social welfare programs. This relationship requires trust and transparency, where taxpayers comply with their obligations, believing in the effective use of their contributions.
The Art of Taxation
The “art” of taxation, therefore, lies in crafting policies that achieve the delicate balance of maximizing revenue without discouraging economic activity or provoking widespread discontent. It is about understanding the psychology of taxpayers, employing strategies that encourage voluntary compliance, and designing a tax system that is perceived by citizens as fair and just.
A Model used by economists called the Laffer Curve2 is a U-shaped curve that shows the relationship between tax rate and tax revenue. If you tax someone nothing and move the tax up to 1% people will continue to work and revenue will rise. As rates on taxes rise, revenue continues to rise until the rates reach a point where rates are too high. The curve begins to bend before plateauing and people begin actively avoiding paying taxes (through legal and illegal means). After it plateaus, revenue begins to drop and people are both actively avoiding taxes, and at a certain point dropping out of the workforce as it is no longer worthwhile. For example, if you were taxed at 100%, would you work? Obviously not, as there would be no reward for your labor, and the model reflects that knowing that people will stop working well before 100%.
The art of taxation is akin to weaving a complex tapestry, where each thread represents a different tax rule or policy, and the goal is to create a harmonious and functional whole. It requires a deep understanding of economics, sociology, and human psychology, like Colbert’s approach centuries ago, proving that while the tools and context may have evolved, the underlying principles of effective taxation remain timeless.
Imagine a vibrant tapestry woven from the threads of history, philosophy, and the aspirations of a nascent nation. This tapestry, constantly evolving and adapting, embodies the American social contract – an implicit understanding between citizens and their government, defining the delicate balance between individual liberties and collective responsibility, rights, and obligations. But within its intricate design, we can discern the distinct threads drawn from the ideas of our Founding Fathers, shaping the contract we strive to uphold today.
But how aware are we, the threads themselves, of this underlying fabric? Few can readily articulate the intricate details of the social contract in today’s complex world. Yet, we enter it every day, knowingly or unknowingly, through our participation in society. Our decisions to obey laws, pay taxes, and contribute to the collective good are tacit endorsements of this unspoken agreement.
Social Contract
The concept of a social contract has a rich history. Early philosophers like Plato and Aristotle grappled with the ideal form of government, suggesting that individuals surrender some freedoms for the benefits of a stable and just society. Later, Thomas Hobbes argued in “Leviathan” that humans, naturally in a state of war, agree to give up some liberties to a sovereign power in exchange for security and peace.
Jean-Jacques Rousseau, in his seminal work “The Social Contract,” further refined the concept. He envisioned a society where individuals, through an implicit agreement, create a collective identity and delegate power to a government that reflects their shared will. This agreement, he argued, ensures the common good outweighs individual interests.
Why Social Contracts?
Why are Social Contracts crucial? Before you can answer that, you have to ask WHY do we have a Government, and if we need one WHAT do they provide? A Social Contract does just that, it defines the basic relationship between an individual and Government, and in return for giving up some of your liberties, what responsibilities you place upon Government. They define the government’s role in providing essential services like infrastructure, education, and healthcare. These services, deemed valuable by the collective, that cannot be effectively provided by individuals alone. In return, citizens contribute through taxes, upholding the law, and participating in civic life. This reciprocal relationship forms the backbone of any functioning society. Our Founding Fathers debated vigorously over these items between compromises over individual rights, Federalism (strong central government), States Rights (Commonwealths), and Limited Government. We fought a Civil War upholding equal justice and rights under the law. The New Deal expanded government greatly into Social and Economic Security by encroaching on individual rights for the collective good. The debate goes on today with taxation and that a relatively few pay the vast proportions of our taxes, and what is fair, and should government be a redistribution tool. It lives on in regulation as seen in the banking and real estate sectors with the Great Recession and Gun Control debates. It is pervasive in our digital world with Privacy debates between safety and civil liberties.
America’s Social Contract
These threads are woven into the fabric of our society:
The Threads of Security and Sovereignty: Our founders, weary of tyranny and longing for self-governance, enshrined safety, and sovereignty as foundational threads. John Locke’s concept of natural rights, including the right to life, liberty, and property, became cornerstones of the Declaration of Independence. The Constitution further solidified these rights, establishing a sovereign government bound by law, responsible for securing its citizens from external threats and internal disorder. Yet, this security came with the implicit surrender of some freedoms – the acceptance of laws and regulations in exchange for collective protection.
The Threads of Freedom and Fairness: The struggle for freedom of speech, religion, and assembly echoed throughout history, informing the American tapestry. Inspired by Enlightenment thinkers like Voltaire and Montesquieu, the Bill of Rights guaranteed these essential liberties, recognizing their vital role in fostering individual expression and preventing the rise of oppressive regimes. This thread, however, remains in constant tension with the need for order and public safety, demanding ongoing negotiation and refinement.
The Threads of Equality and Justice: The ideals of equal justice and the right to rebel under tyranny were threads woven from the experiences of diverse groups seeking freedom and opportunity. The Declaration’s bold assertion that “all men are created equal” laid the foundation for the long and arduous struggle towards a more just society. However, reality often fell short of the ideal, requiring continuous efforts to strengthen this thread and ensure equal protection under the law for all.
The Threads of Individualism and Collective Responsibility: The concept of a commonwealth, where individuals contribute to the greater good, was present in the writings of Thomas Paine and others. This thread intertwines with the emphasis on individual responsibility, acknowledging that individual freedoms thrive within a framework of shared values and civic participation. The social contract demands active citizenship, not just the passive enjoyment of benefits, reminding us that our individual choices and actions contribute to the well-being of the whole.
Balance
However, no relationship is without its trade-offs. Our adherence to the social contract demands we surrender some individual freedoms for the collective good. We accept taxation, regulations, and limitations on personal behavior in exchange for stability and shared benefits. Striking the right balance between individual liberty and collective responsibility is a constant negotiation, a dynamic tension that defines the evolution of societies.
The danger arises when governments overstep their bounds, violating the implicit trust of the social contract. Excessive surveillance, regulation, taxation, unchecked power, or policies that disregard the needs of the citizens chip away at this unwritten agreement. When the perceived benefits of the contract no longer outweigh the sacrifices, social unrest and a breakdown of order can occur.
“Any government powerful enough to give you everything you want is strong enough to take everything you have” attributed to Thomas Jefferson
Maintaining a healthy social contract demands constant vigilance and active participation. We must understand our rights and responsibilities, holding our governments accountable for fulfilling their obligations and maintaining our individual liberties.
Civic Duties
So, the next time you pay taxes, vote in an election, or simply follow the rules of the road, remember, you are participating in a grand experiment known as a social contract, about the terms of our shared existence. The social contract, though woven from unspoken threads, forms the very fabric of our civilization, and its continued strength depends on our collective awareness and engagement. At the Tax Project we believe that all citizens should be participants in this intricate fabric, ensuring the tapestry of America remains vibrant and strong and that what the government provides, how we are taxed, and regulated, and the freedoms we give up in exchange should be open and transparent to all and be conscious decisions of every Citizen. The Social Contract hinges on citizens understanding our Tax system and supporting responsible policies to ensure this cornerstone of American society remains viable and thrives.
Every year, it’s the same frustrating story diving into tax season. Seriously, why can’t the IRS just sort it out for us? Given the rise of AI and tools like ChatGPT, do we really need to fill out endless forms and dig through receipts, especially since many are sent directly by Banks and Employers?
The IRS already knows everything there is to know about our finances, right? Plot twist: our tax system is a maze of deductions, credits, and blind spots where the IRS may not have all the data. Beside being our civic duty and mandated by law, doing our taxes has many perks and pitfalls.
So, what’s the deal with filing taxes? Are all these forms and the giant tax code really necessary? How much time and money are we spending on this, and what’s it costing the economy?
Do We Need to File?
Even though the IRS knows a lot about our financial lives, everyone’s situation is different. Filing taxes lets us tell our side of the story, like any extra money we made or tax breaks we should get which might not have been reported to the IRS.
Forms Galore
Most of us can get away with a 1040EZ, but for the rest of us the IRS has over 800 forms and schedules for every tax situation under the sun. Whether you’ve got a simple paycheck or a bunch of side hustles, there’s a form for that.
Tax Code
The Internal Revenue Code (“Tax Code”) is 6871 pages long, and approximately 75,000 pages including rules, regulations, and instructions2. No wonder tax season feels like a marathon, 75,000 pages lined up end to end is equivalent to the distance of a half marathon, and tax lawyers are expected to be familiar with ALL of it, and technically ignorance of it is no excuse for us either.
Time and Money
Americans spend over 6 billion hours (equivalent to 1 year of work for 3 million people) with a cost of about $34 billion10,11 every year just to file their taxes. To put that into perspective, it is estimated to cost $20 billion to end homelessness in the United States1, or give everyone under the poverty line 4 a $5000 car that could last them 6 years. Americans spent approximately $14 billion on software alone for tax preparation.11
Internal Revenue Service (IRS) Enforcement
The IRS spends approximately $12 billion a year and employs over 79,000 people to process taxes and make sure everyone’s playing by the rules.5
The Economy Feels It, Too
The tax process takes a lot of productive capacity from the country and costs the economy a significant amount of output, around 0.8% to 1% of our National Output12 (Gross Domestic Product or GDP).
Jobs, Jobs, Jobs
The tax prep world is huge, the AICPA estimates there are over 2 million tax professionals in the US (public accounting, private industry, government).6 We’re talking hundreds of thousands of jobs for tax lawyers, consultants, accountants, administration, and techies making tax software.7
Is There A Better Way
A lot could be done to greatly simplify our tax code and reduce or eliminate many of the arcane sections, and in lieu of that make preparation easier. America is home to brilliant technology that brings the knowledge and history of the known universe to our fingertips with tools that mimic human intelligence, and yet here we are. Several countries including Denmark, Sweden, Estonia, and South Korea have automated pre-filled tax submission where filers only need to review and submit. The IRS just rolled out Free File9 to allow online guided tax filing. While not fully pre filled or automated, and not as comprehensive as commercial software it is a step in the right direction. While this may not be of comfort as you file your taxes now, the march of improvement is never ending and eventually we’ll figure this out.
Summary
So, yes our tax code is overly complicated, our systems are not as easy or automated as they could be, and filing taxes feels like a chore we could do without, but until we see these improvements it is our Civic Duty. Taxes are a necessary component to support the services, freedoms and protections we enjoy. As Oliver Wendell Holmes succinctly said, “Taxes are the price we pay for a civilized society.”
1969. A year of moon landings, Woodstock, Tie Dye, the Summer of Love, Vietnam War protests, and less glamorously, the birth of the Alternative Minimum Tax (AMT). What began as a narrow measure to prevent a handful of very wealthy individuals from exploiting tax loopholes has morphed into a complex beast, ensnaring millions of taxpayers, including the middle class.
Born from Inequality
Imagine a world where billionaires could legally reduce their taxable income to zero – that is what sparked the AMT’s creation (Sound familiar?6). Congress, alarmed by reports of such tactics (In 1969!), devised this parallel tax system with stricter deductions and exemptions, aiming to ensure high earners paid their “fair share.”
A Modest Beginning
Back then, the AMT targeted a tiny fraction of taxpayers – just 155 individuals in its first year1making over $200,00 a year.4 It collected a mere $85 million, a drop in the ocean of federal revenue. Yet, it served its purpose, preventing blatant tax avoidance by the ultra-rich.
The Unintended Creep
Fast forward to today. The AMT’s net has widened significantly, instead of the handful of extremely rich it is netting roughly 5 million taxpayers and is projected to catch 7 million by 2026 (See TCJA update). The culprit? Inflation and a lack of indexing. Unlike regular tax brackets, the AMT’s exemptions have not been adjusted for inflation, meaning increasingly middle-class Americans get swept up as their incomes rise with the cost of living. In 1969 when Congress passed AMT to today the Consumer Price Index from the Bureau of Labor and statistics based on annual inflation has risen a cumulative 900%. Which means a dollar in 1969 would be worth $9 today2.
The Price of “Fairness”
This unforeseen expansion creates a paradox. While the AMT still catches some high earners who game the system (or just follow what the law allows depending on your perspective), it now also burdens many individuals simply earning a decent living, and while well off, most do not consider themselves rich. For example, in contrast to those it was intended in 1969 making over $200K or over $1 million in current dollars, a family of 4 in San Francisco or New York making $250,000, while in the top 20th percentile of income, is by no means “rich” based on the cost of living in these areas and nowhere near the 1969 equivalent. This is especially true as many caught in AMT are wage earners that do not derive most of their income from investments, capital gains, or have businesses that have significant write offs. They face unexpected tax bills, negating deductions, and credits they otherwise may have relied on. This “invisible tax” can be financially devastating, pushing families into debt, and causing hardship for many in the middle class, and depriving them of wealth creation that can help them in their later years.
Overhead
While it did “catch” the very wealthy, it trapped what has become middle income (if upper middle) taxpayers in a much wider net. While roughly 5M million users are subject to AMT, 9.7M must calculate it even if they are not subjected to it.2 For these taxpayers they must calculate their taxes twice, once for their normal taxes and a second time for the AMT to determine the higher of the two. The Tax Foundation has estimated that this burden adds up to $4.6 billion on compliance overhead. 5
A Call for Reform
The unintended consequences of the AMT have ignited a debate. Critics argue it has become a regressive tax, disproportionately impacting the middle class for which it was never intended and undermining its original purpose of catching the very wealthy who were paying nothing. Some advocate for complete repeal, while others propose indexing adjustments and raising exemption levels. Members of both sides of the aisle including Bernie Sanders, and Ted Cruz have called for the complete elimination, while members like Hillary Clinton have proposed raising the limit significantly and adding a 2nd tier she refers to as the Buffet Rule for the Uber wealthy based on Warren Buffets calls for higher taxes on the very wealthy3.Many question the basic premise of AMT to begin with, the whole reason AMT exists is because of the maze of deductions in the Tax Code, especially available to business owners and higher net worth individuals. Congress enacted these for beneficial reasons, like economic incentives for growth or other areas the government wanted to incentivize. Having an alternate parallel tax system seems to defeat many of those incentives and calls into question why have all the incentives and complexity if you just turn around and create another level of complexity on top of it defeating the original purpose. Some might suggest this seems to be a fight between congress and itself.
Update: Tax Cuts and Jobs Act of 2017
Well, amazingly after almost 50 years, major changes to the AMT and good news came in 2017. Prior to the implementation of the Tax Cuts and Jobs Act of 2017 (TCJA), approximately 5 million taxpayers were impacted by AMT. The TCJA increased the AMT’s exemption and exemption phaseout through 2025, reducing the number of taxpayers subject to the AMT, to an estimated 200,000.3 While this has been great news, it is set to expire next year and if so, we will be right back where we started. Hopefully, congress will correct this and make it permanent before it expires next year.
Citation
1. Bureau of Labor and Statistics (BLS) – Consumer Price Index (CPI) – annual inflation rate https://www.bls.gov/cpi
Tax Project Institute is a fiscally sponsored project of MarinLink, a California non-profit corporation exempt from federal tax under section 501(c)(3) of the Internal Revenue Service #20-0879422.
