Why flat tax is stupid and why rich people should pay more.

There are, actually, multiple reasons why a flat tax is stupid, but the one that I'm going to rail against here also demonstrates why rich people should pay a higher percentage in income tax. I think this is easily demonstrable with a very simple example.

We're going to compare Joe and George. Joe makes $10 an hour at his job. George makes $20 an hour at his job. Both work 40-hour weeks. For Joe, that means $400 a week, $1,600 a month (4-week month, that is), and $20,800 a year. For George, that means $800 a week, $3,200 a month, and $41,600 a year. As you can see, all the way through George is making exactly twice what Joe makes. For the tax rate in this exercise, it will be 10% for ease of calculation. Because the numbers related are directly proportional it doesn't matter what the percentage is, as the relations will stay the same and the principle will hold true no matter what.

Both of them are paying 10% in taxes on their paycheck. For Joe, that's $40 per paycheck and for George, it's $80. People may have the idea that that is fair. They both work as much so they should both be taxed as much. I want to challenge that idea. I will demonstrate that 10% of Joe's paycheck actually costs him more in taxes than it does George.

Now there is an actual number for the minimum amount it costs to live. That number is hotly debated, and in the US government's opinion you are not below the poverty level until you make less than $9k (and some change). We all know that you will be living in a tin shack with a dirt floor if you make that little money. Nonetheless, for the purposes of this exercise, it also does not matter what that actual number is. Since my arguments are in proportions and percentages, the ratios hold true no matter what numbers are used. I'm sure all will stipulate that there is some true cost of living, below which you cannot support yourself.

For the exercise, we will say that all necessary expenditures are $1200 a month. That includes rent, car, groceries, utilities, toiletries, etc. Joe's montly income is $1600 a month gross, $1440 net. George's is $3200 gross, $2880 net. But here's where things get interesting. The cost of living for both is the same: $1200. That means Joe's left-over money (his spending cash, if you will), is $400 (before taxes). George's spending cash is $2000. But with the cost of living fixed, Joe's disposable income is $400, of which he loses $160 in taxes. That is a tax rate of 40% against gross income above cost of living. For George, he has $2000 left over, of which $320 is taken in taxes. His tax rate is 16% against gross income above cost of living.

Recap: Joe makes half as much as George. Joe and George's cost of living is the same. Joe pays 40% in tax on money beyond cost of living, while George pays 16%. Joe has $240 to spend on anything other than the absolute necessities, while George has $2880.

Now, some would argue, rightly, that it is unreasonable for George to have to live at Joe's level. He earns his money and he has a right to spend it on living better. Fair enough. But for George's tax situation to be exactly the same as Joe's, he has to spend exactly twice as much as Joe on all his living expenses. In other words, if Joe has a $600/month apartment, George has a $1200/month apartment. If Joe has a $400/month car, George has an $800/month car. George is living the good life, and still has twice as much money left over as Joe. He's only losing so much of his disposable cash in tax because he's spending so much on living. But then, why not, when he can afford it?

Like I said, these ratios hold true for all cases, no matter what the exact numbers. There is a formula for it. Percent tax on disposable cash (%t) is gross income (G) times tax (R) divided by disposable cash(D) (which is gross income minus cost of living).

%t=((G*R)/D) * 100

As long as you admit that there is a minimum cost of living (which you must, because otherwise you're at least implying that $0 is enough to live on) then this formula is true.

Now to work it backwards, how little in tax on gross income would Joe have to pay to have the same percent tax on disposable cash as George? The answer is 4%. Yep, you read me right. Four percent. That's taking $64 out of his paycheck. Now most of us would not support the idea of a man who makes that much per check paying that little in taxes. It seems absurd. But it's really not unfair if we want to tax people at the same rate. How much in tax on gross income would George have to pay to have the same percent tax on disposable cash as Joe? The answer is 25%. A quarter of his paycheck in order to pay the same actual taxes as Joe.

Now you might question why I think that the amount of tax versus disposable cash is more important than tax versus gross income. Well, in short, you can't invest, save, or just buy stuff with money that you use to pay bills. And whatever stripe of economist you have or are, no one argues that individuals must have money to invest, save, or spend. That's the fuel of the American economy. Savings fund bank loans. Investments fuel new business opportunities. And buying stuff is the American way! Therefore people must have disposable cash to actually dispose of.

It's deceptive of anyone to act as if tax rates on gross income rather than disposable income are the true measure of fair taxation. For the reasons given above, you can clearly see that they are not.

Now here's a real-world scenario. President Bush paid $187,768 in taxes this year on an income of $618,694. I paid $623 on $14,445 (I'm talking after my student loans are deducted and factoring end-of-year tax, not the actual tax withholding because I, like most people, overpay and get a refund). I'm betting Bush is one of those who doesn't withhold taxes during the year so that he can save or invest it (and it makes this simpler). Against gross income, he paid 30% of his income in taxes, while I paid just over 4%. And before you write that I shouldn't complain, I'm really not, and I don't feel sorry for myself whatsoever. I'm just illustrating a point with some hard numbers I am 100% sure of. Now I'm not joking in that I use 99% of my paycheck on living expenses. Food, car, credit cards (with which I buy mostly gasoline), car maintenance, etc. So literally, I get about $460 a paycheck and only don't spend about $5. So of each paycheck, I'm taxed 4% on gross, which is about $18. Applying the formula, my percent tax on disposable income is about 370%. I pay more in taxes than I have disposable income (this is true and I'd invite you to look at my bank statements and e-bills I pay, but I don't trust you people that much).

Do I need to do the math to demonstrate that Bush doesn't have nearly the crushing tax burden that I do? Maybe not, but I will anyway. Living in the White House, President Bush has no living expenses except those he chooses to have (ok, I'll give you that he has to buy his own clothes; a man's got to look good). But let's just say that he chooses to spend about $12,000 a month on living expenses. I don't know, maybe he buys a new Kia Spectra every month. That makes his monthly Gross $35911, with Disposable cash of $23911, and his tax rate is 30%. So his t% on D is 45%. But he's got $23,911 per month left over, and I've got $5. And I pay eight times as much in taxes on the money I have left over.

Yeah, yeah, I know, my numbers on him are just conjecture. But come on, do you really believe he's spending nearly $36,000 a month on something?

Most people evidently feel intuitively what I spent the time working out: tax rates aren't fair. And hey, now you know they have good reason.

So to sum up: flat tax is stupid because it's not flat, it's actually regressive. Rich people aren't actually paying as much in tax as they want you to think. Bush's tax cuts are not only a travesty because the rich already have way more money left over than you do (in absolute terms), but they pay proportionally less of their income in taxes than you do. That doesn't sound good to me.

And don't even start with stuff about how the rich having more money is good for the economy. It may be good for them, but it's not good for you.