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I figure it's a dream of most people involved in public policy and/or political philosophy to have their own, brand-new country which could be shaped according to their principled and pragmatic whims. There are an extraordinary number of books about utopias and ideal societies and what they might look like, both in fiction and philosophy.  But there are basically no opportunities to actually take a clean slate and put any of these ideas in place.

Enough of all those utopian concepts though - if I had a new state, one of the first things I'd look at would be tax.

Dull? Well, yes, and admittedly I'm constraining myself to a new country in the world-as-we-know-it inhabited by people-as-we-know them, so some of the more imaginative utopias are out from the beginning. Within those constraints I assume there will be tax. And if there is going to be tax, surely we can make it better than the horrific systems we have at the moment!

Because the status quo is seriously awful. Put aside even considerations about how progressive a tax code should be, or the kooky (though possibly true, I don't know enough) notion that if we taxed land value we wouldn't have to do anything else. Let's just look at loopholes and deductions.

These are the invisible substance of US Republicans' promise not to raise taxes. We'll just close those loopholes. That's a fiction, because closing a loophole means somebody will pay more, so it's not quite the panacea that party makes it out to be - but it's still a good idea.

I think the problems with most tax systems can be broadly divided into two categories: silly inefficiencies, and actual rent-seeking loopholes.

The first kind. In Australia, the current income tax threshold is $6000. Above that, you pay 15 cents in the dollar. But if you earn less than $30 000, you get a $1500 Low Income Tax Offset at the end of the financial year which cancels out some of the tax you owe. If you earn over $30 000, you still get your offset but the amount is reduced by a certain amount for each extra dollar you earn. It cuts out at $67 000.

This is all quite complicated and boring, but the effect is that as you earn more money, proportionally more of it goes to tax. If that idea sounds familiar, it's because it's the concept behind progressive marginal tax rates, and the offset is nothing more than a weird way of double-implementing it. Do the maths and it means that, even though the threshold is $6000 you can earn up to $16 000 without paying any income tax. WHY!?

And it's not just an issue of bewilderment, which is probably inevitable in a tax code. It means that people earning between the technical threshold and the effective threshold have to get Tax File Numbers they might not otherwise and pay withholding tax for no reason. Their employers have to calculate that withholding tax - that process includes deducting some of the offset from the withheld amount, would you believe - and spend more money on administration. At the government end, all this necessarily costs more to implement than it brings in, because it doesn't bring in anything. At the economy end, businesses are less efficient because they have to waste more time doing administrative work and tax compliance instead of actually doing things people want. And staff have to spend more time (if only marginally) filling out forms and keeping up-to-date with their irrelevant tax affairs, rather than either being productive or, from a less strictly economic angle, being happy. (Tax and happiness are mutually exclusive; I work for an accountant.) There are no winners here.

(As an aside, one of the big carbon tax extras was a tripling of the tax-free threshold to $18 000. At the same time though, the government is slashing the LITO by 80% so the effective threshold is actually only moving from $16 000 to about $20 000. Political chicanery? Maybe, but at least it's going in the right direction - towards simplicity.)

In case you think this is just a weird Australian quirk, example the second. Scroll down through this article and you'll find this:

7. Starting in 2018, the law imposes a 35 percent tax on employer-provided health plans that exceed $10,200 for individual coverage and $27,500 for family coverage. The idea is a kind of roundabout second-best to capping the tax code’s (currently unlimited) deduction for employer-provided heath insurance. The policy idea is to give employers that much more reason to avoid expensive insurance policies and thus give insurers that much more reason to hold costs down.
Complicated, but it's much the same thing - different provisions cancelling eachother out, which is more or less a wash (minus implementation cost) fiscally but irritating deadweight legislatively and a drag economically.

These are both examples of things which are really badly and inefficiently implemented, but are basically okay in and of themselves. The more irritating category are the deductions and benefits that really shouldn't exist at all.

I don't know enough to write a comprehensive treatment of all that's wrong with the tax code as it currently stands. I'm not really inclined, either, to cross into the welfare system though the two are very much intertwined. So I'll just outline what I think in the general case.

The effect of a tax deduction is to incentivise certain types of behaviour. Deductions, then, should only exist when there is a positive reason to encourage people into behaving in certain ways. Charities are a pretty good example. Health insurance might be another. Things like Family Tax Benefit fall into a hazy middle category which is not so much about incentivising behaviour as helping people who (might) need it. This is the kind of thing which swings depending on your politics and the details of the proposal - means-testing and so on.

But take something like deductions for work-related expenses. Of course these are fantastically easy to rort - it's not within the Tax Office's capacity to ensure everything youbought really was for work purposes - but even beyond that they are strange. It's hard to see the rationale from an incentives-based perspective. Presumably if stationery or equipment or uniform is necessary for somebody to do their job, they will get it; we don't need to encourage them to do so with byzantine tax rules. Deductions for the cost of accountants are similar.

Then there are the different taxes applied to different structures. Companies and trusts, for instance, have their income taxed differently to individuals, which seems reasonable except that it remains the case even when the entity's income is identical to the individual's. I don't just mean in amount: the same money, for the same work, done by the same single person, can be channelled through a company. Then you only pay tax on profit, so if you find some way to move as many of your expenses as possible into the company's costs then you'll pay tax on a significantly smaller amount. That's all well and good, but what is helpful about encouraging a person to set up a company as a substitute for himself? Not much that I can see.

It's probably the case that this kind of thing is unavoidable to some degree: if we want to create incentives for 'real' companies or trusts, some silly little ones will have to exist. But there has to be some way of minimising that, and of reducing deductions to do with expenses and depreciation and all sorts of other things which mean you can reduce your tax bill just by writing things differently on a form.

I don't mind if you can reduce how much tax you pay by doing real things in the real world; that's the point of tax incentives. The current system allows you to end the financial year with a fat refund because you've "overpaid" - paid more than the amount which you've engineered whilst sitting in an office. Or, more likely, your accountants have engineered whilst sitting in their office, racking up a fat bill which gives you yet another deduction. A deduction that you can only access if you're affluent enough to pay the people who are best at 'tax structuring', a polite form of cooking the books.

Tax is terrible. If the system was designed better, there would be fairer tax receipts, less confusion, and fewer smart, capable people spending their lives in enormously unproductive and deceptive work. Utopia indeed.