Prager University has some good videos, which people will occasionally label as right-learning.  And I agree with them… occasionally.  Today, I listened to one featuring Steve Forbes entitled “The Case for a Flat Tax”.  You can watch it here.

As I watched it, I became Captain Picard… and I face-palmed.

I never ceased to be amazed how often this concept revives itself from time to time under a new name, and why people can’t understand the reason it fails to be adopted–every time. If you’ve never heard of it, the concept is that regardless of how wealthy or poor a person is, they should be paying the same rate of tax.  It has an altruistic appeal, especially to people of middle and lower class status in America.  After all, the fact that a big corporation once in a while pays little to no tax means they are a robber baron, right!  They should be paying their fair share!

It is what I call the Robin Hood effect. Popular culture in America sees Robin Hood in a different perspective than the actual story.  The real legend of Robin Hood was to stop a temporary tyranny, but American pop culture sees the story as equalizing wealth.  Somehow this moralistic view gets superimposed on taxation, and fair tax is seen as a way to make the rich pay their fair share.

So, why does it always fail to pass?  The core problem, which is much deeper than I can go into depth on in this post, is that America is perhaps the only country which does not teach its youth its own system of economics.  The school system in America is geared toward producing people to work as employees in someone’s business–not to be a business owner.  Business ownership is taught by business owners to their children, and certain business owners start businesses to teach it to others.  But most people leave school in America with no knowledge of how to create and run a business.

What does this have to do with Fair Tax incentives?  In a capitalist society, the economic system has to provide an economic incentive for someone to take an economic step of faith.  For example: if a person wants to open a business requiring a physical location, the crime rate in the neighborhood where they will operate the business is one of many factors the owner considers. Ask any city manager to confirm this: the more the poverty in an area, the higher the crime rate will be.  Yet, descent hard-working people live in both poor and non-poor areas and they need services.

So how does a Government agency deal with this issue of inequality? After all, the number of shops in a given neighborhood (poor) is lower than other neighborhoods which are not poor.  So the government has to create an incentive for the prospective business owner to choose the neighborhood in more need, despite the extra risk.  The city can guarantee a certain amount of police presence, but let’s face facts… police often arrive after a crime has been committed and can only do reports and search the perpetrators.

So the Government has one tool it can use: the tax incentive.  The Government can lower, defer, or even eliminate taxes for the potential owner to offset any extra risk the potential business owner is taking on.  The concept of a flat-tax rate would exclude this ability.

If a business example is not a good one for you, try another closer to home… the mortgage interest tax deduction.  Every person who buys a house without paying fully in cash benefits from this.  Why does it exist?  A person who has home ownership gains value in the long term by doing so.  And a person who owns something is going to care for it more than someone who is renting: ask any landlord about that.  So home ownership, in a country with an economic system which rewards ownership, is seen as a positive thing.

The Government, seeing the need to direct the way people invest their money to make this a possibility, creates an economic incentive for home buying in the form of a tax reduction to offset the additional cost of the loan, the maintenance, etc.  So people who rent, who couldn’t afford a house normally, now have an economic incentive to take the step of faith in ownership.

All of this goes against what the flat tax proposes.  A flat tax gives the government no economic tool to steer investment to an area where it is needed, or even away from an area that is doing harm.  It may seem fair, but there are times where the Government has to step in to level the playing ground… and it needs something other than physical threats to make it happen.  These tax incentives (not loopholes as they are mistakenly called) answer the age old human question: “What’s in it for me?”

The icing on the cake of this video is when it discusses how the varying tax rates started with two rates in the Reagan area, and then ballooned into the seven we have now.  And the very first thing it does is ask the question “won’t the 17% be too much of a burden for people with low income?”  And the solution: make an exception… 17% for everyone, except for …”

So much for a flat rate.