Why Flat Tax is Not a Good Idea.

The traditionally held concept of flat tax says “make investment income tax free”. But in comparison to the high income people, the lower and middle income people, are earning very little investment income. If their average $100 or even $1,000 of investment income is not subject to tax, sure, that seems like a help. But the wealthy are earning hundreds of thousands if not millions of dollars of investment income. Governor Mitt Romney for example earned over 20 million dollars of this kind of income during 2010 and 13.5 million dollars of this kind of income during 2011. If that kind of income becomes tax free, rates on income from employment or business, has to rise to make up the difference. It has to.

Flat tax says, in exchange for eliminating tax on investment income, eliminate or reduce itemized deductions. As I illustrated earlier, itemized deductions are mostly a way of rewarding lower and middle income Americans who are building families and community. Eliminating itemized deductions, eliminates a significant reward and incentive for them to continue building families and community. One of the most important tax deductions to middle income people is the mortgage interest deduction. The wealthy, would love to exchange the mortgage interest deduction for tax free investment income. Why? Because the deduction for mortgage interest is limited to interest paid on no more than the first $1.1 million of acquisition and equity debt. $1.1 million. Consider this. A wealthy celebrity (you hear this all the time) buys a home for $6.8 million dollars. He puts down 25% or $1.7 million. So his remaining debt is $5.1 million. The mortgage interest on only the first $1.1 million is deductible. So the interest on the remaining $4 million is not. It helps him not one penny on his taxes. And if the interest on the $1.1 million that is deductible is at 4.5% or roughly $50,000 of mortgage interest per year, he only saves a maximum of $17,500 in federal taxes with that deduction. $17,500. That’s nothing, in comparison to the amount of taxes he would save by not having to pay taxes on hundreds of thousands, or in the case of someone like Governor Romney, millions of dollars of investment income. Tax free investment income in exchange for loss of the mortgage deduction, is definitively an uneven trade off. The mortgage deduction is there only somewhat for the poor and the wealthy. It’s really there for the middle class. It’s stuff like this, which makes flat tax a horrendous idea. If the federal government is setting the mortgage deduction limit at interest on the first $1.1 million dollars of mortgage, you know the average American mortgage is somewhere between that amount and zero. Imagine all of the home owners throughout the United States that have mortgages in that range. Take away that deduction and you take away a major incentive to plant community roots supported by investment. When that occurs, the wealthy become substantial land owners and the rest of the nation becomes tenants. And America becomes a feudal state. The wealthy cry socialism at the notion of shifting tax dollars from their pockets to the less privileged. But they actually lobby for the concept of shifting assets from the less privileged to themselves.

And there’s a misconception that flat tax eliminates all deductions. Not so. It only eliminates itemized deductions. Rental expenses, including mortgage interest expense, aren’t affected. Business expenses, including mortgage interest on business property, aren’t affected. It’s only the expenses that lower and middle income people rely on to reduce their taxes, that are eliminated. The rewards for risk taken to build families and community are the only deductions eliminated by flat tax, in order to give the wealthy a tax break on their investment income at the expense of the rest.

Conversely, when wealthy people solicit the government, or worse, become part of the government in an effort to gain greater tax benefits for themselves, that, feels like an entitlement. It sends a message that because they have money, they should be catered to. It’s an attitude of, why should they pay towards TSA when they have their own private jets and security. They seem to be ignoring the notion that while wealth may have its privileges, most religious belief systems hold that those blessed and empowered with great resources, have a great responsibility towards helping those who don’t. Providing tax breaks to the wealthy, doesn’t create new business opportunities or new jobs. That only occurs when wealthy people are willing to invest, their own money. Being wealthy should not entitle anyone to a tax break. Conversely, taking a positive risk to build America should.