Everyone complains about taxes. We all think that they are in some way inequitable–mainly because every one of us believes he pays too much and that someone else is not paying enough. Thus it is easy to get votes by claiming you have a way to fix the tax system–everyone assumes that this will mean he will pay less and someone else will pay more. The question, though, is how we make the system “fair”. We have many kinds of taxes, and each is “fair” in its own way.
Our biggest tax is an income tax. Among the earliest examples of such a tax is the tithing system of ancient Israel: everyone paid one tenth of his gross earnings, whether crops or flocks or shekels. Thus if you received a dollar, you would owe a dime, and if you received a million dollars you would owe a hundred thousand. It was simple, and in some sense it was fair–everyone paid a share based on what he earned, and everyone paid the same share of what he earned. Of course, it is more complicated than that–that is, the tax is simple, but the impact is not always “fair”. For example, if you really only earned a hundred dollars this month, you’re going to have a hard time living on that money unless you are being supported by someone else; and if you earned a million dollars this month, you probably aren’t going to miss a hundred thousand all that severely. Thus we have what is called a graduated income tax–graduated in the sense that there are gradations, levels. The person who earned a meager hundred dollars probably will pay nothing; his percentage is zero. The person who collected a million dollars might have to pay fifty percent, half of it. It suggests that we think it unfair to charge the poor at the same rate we charge the rich, and fair that the rich pay a larger share–that their “fair share” is a considerably larger portion of what they have earned.
How much money do you have to make before you pay anything at all? There are always hiccoughs in the graduation system–if we assume that anyone making up to a hundred dollars pays nothing, but anyone making more than that pays one percent, the person making a hundred dollars keeps a hundred dollars while the person making one hundred one dollars keeps only ninety-nine dollars and ninety-nine cents, and there are such discrepancies at every level. How much money should we take from those who make the most? Some wealthy people work very hard for their money; if we take most of it from them, they will find that it is not worth the effort. Some employ others to help earn their money, and if we take too much they will inevitably reduce the number they employ, possibly to zero–which apart from the human cost also means a lot of people no longer paying taxes.
There is also the problem of taxing gross earnings. We know that grocery store chains collect billions from sales; small independent grocery stores of course do not reach those levels, but they do receive thousands of dollars in cash every day. However, the typical “margin” in the grocery business–the amount of money earned after the costs of stocking the goods is deducted–is only about three to four percent. That means for every thousand dollars they put in the cash drawer, they paid nine hundred seventy dollars on the products they sold and put thirty dollars in their pockets–out of which they have to pay their staff, their utilities, their property expenses. Were we to tax that thousand dollars at ten percent, one hundred dollars to the government, our grocers would have paid nine hundred seventy dollars for the groceries which they sold for a thousand dollars, and paid one hundred dollars to the government from that thousand, and will then have seventy dollars less at the end of the day than they had when they started, with no money for the paychecks or the rent.
Because of this problem, our tax system targets net earnings rather than gross earnings–that is, not how much money you collect but how much is yours after you pay all the expenses entailed in making it. The grocery store example is obvious on its face: the store collected a thousand dollars of which nine hundred seventy paid for the groceries they sold, leaving them thirty dollars, of which ten percent would be three dollars. Yet it is not so obvious. As mentioned, the grocery store still has to pay its employees, its utilities, and its property costs (rent, mortgage) from that thirty dollars. Perhaps at the end of the day they have ten dollars left; do we tax them based on the thirty dollars, or the ten dollars? This is why we have “deductions”–called “loopholes” if you don’t like them. We are attempting to determine, on a fair basis, just how much money someone earned. If the grocery store buys advertising to bring customers, is that an expense that can be deducted? If the store owner pays for lunch for all his employees, does that get deducted from the income? What if he buys his own lunch from the money in the till when he is working? Does it matter whether he is buying just his own lunch or having lunch with someone, such as a wholesaler or his accountant? What do we count as his income, and what do we consider part of the cost of doing business? If in some third world country the company has to bribe some middle level official to get a contract because that is how business is done in that part of the world, is the bribe (illegal in our country) a legitimate business expense if it is reported as such?
This explains why some companies that “earn” billions of dollars pay no income tax: at the end of the day, all of the money they collected from paying customers paid legitimate expenses of doing business. Many companies operate “in the red” much of the time–in fact, in the United States the day after Thanksgiving is called “Black Friday” because it is the day on which most retail sales companies have finally earned enough money that they are “in the black”–writing their ledgers in black ink instead of red because they have finally earned enough to cover the costs of doing business. They then have one month in which to make a profit before starting the new year with a fresh balance book and expenses that exceed income for the next eleven months.
So with income tax the tricky parts are figuring out how much someone earns and how much of that each should have to pay. We will look at these problems in more detail in future articles, and also look at alternative ideas for taxes.