The first personal income tax in the United States was only in place for ten years as a component of the Revenue Act of 1861 which was enacted to pay for debts incurred due to the Civil War. Congress would enact another flat income tax of 2% in the 1894 Wilson-Gorman Tariff Act, however this was struck down the next year in the Pollock v. Farmers’ Loan & Trust Co., 157 U.S. 428 (1895) Supreme Court decision. Finally, a federal income was permanently allowed with the ratification of the 16th Amendment in 1913. This system has become notoriously complex and impossible for individuals who are responsible to pay them to completely understand how the system functions. This is directly antagonistic to the rule of law. In general, the rule of law is defines law as “clear, publicized, stable, and just; are evenly applied; and protect fundamental rights.” This paper proposes a transparent, representative, understandable, and sustainable tax (TRUST) system which would comply with the rule of law.
The Current System
Based on Office of Management and Budget (OMB) Fiscal Year 2016 data, the personal income tax contributed $1.75 trillion (48% of total tax revenue) to the federal government. Payroll taxes (32%) also contributed $841 billion for Social Security, $257 billion for Medicare, and $51 billion for unemployment insurance. The government also collects corporate income, excise (gas, cigarettes, airline travel, etc), estate, and gift taxes as well as tariffs, Federal Reserve earnings, and other miscellaneous fees.
These funds, along with borrowed funds ($587 billion in 2016), are used to fund federal government agencies and programs. The Center of Budget and Policy Priorities provides a breakdown of spending in fiscal year 2015 which includes the following:
- Social Security trust funds provide monthly retirement benefits to retirees, spouses and children of retirees, and surviving spouses and children of deceased workers.
- Social Security Disability provides monthly income for disabled workers and their eligible dependents
- Medicare, Medicaid, Children’s Health Insurance Health Insurance Program (CHIP), and Affordable Care Act subsidies
- Defense and international security assistance
- Safety net programs which includes Supplemental Security Income (SSI), Earned Income Tax Credit and Child Tax Credit, Supplemental Nutritional Assistance Program (SNAP), Section 8 and other low-income housing assistance, and other low-moderate income programs.
- Interest on national debt which in 2015 was $223 billion or approximately 6% of the budget.
- Benefits for federal retirees and veterans benefits
- Transportation infrastructure
- Medical and science research
- Non-security international
- All other
Article 1, Section 8 and the Sixteenth Amendment of the Constitution delegate the power to tax to Congress in order to pay the debts and provide for the common defense and general welfare of the United States. The debts (however, not the source of said debts) and the common defense are as obvious as the Constitution gets, the “general welfare” however is all but undefined. The TRUST system is structured to require Congress to pay down debts and maintain them at an ideal economic level and also provide adequate revenue for federal agencies and programs while replacing the majority of current safety net programs. In replacing these programs, we envision a significant decline in federal agency overhead, however we believe agencies still serve both regulatory and clearinghouse roles.
The primary rationale for TRUST, is to alleviate poverty in the United States, return influence to the states, increase individual liberties, and assign responsibility for government spending to individual legislatures. To accomplish the latter, TRUST requires Congress to determine itemized annual revenue required for spending and adjust tax rates based on those requirements. TRUST also requires Congress to vote on any adjustments to the budget including addition or cessation of government programs or in times of war. For example, if a new federal program was introduced or war was declared, Congress would have to vote on a specified income tax increase to pay for the proposal.
To develop a system to alleviate poverty we need to answer the question, what exactly is poverty in the United States? According to the United Nations Educational, Scientific, and Cultural Organization (UNESCO), “in pure economic terms, income poverty is when a family’s income fails to meet a federally established threshold that differs across countries.” In the United States, the Census Bureau defines poverty based on income (of various sources) of less than $12,331 for a person under 65 years old and $11,367 for a person over 65. However, we find simply defining poverty by income is largely inadequate. We agree with UNESCO’s concept that poverty is much broader and includes the ability to work and earn an income, have access to reasonable housing, healthcare, and education, have a voice in local, regional, and national politics, and be able to maintain a cultural identity.5 However, our intention in this paper is to focus on the economic component of poverty.
We will define poverty as an individual’s inability to meet fundamental cost of living needs. The Economic Policy Institute (EPI) includes the following in their cost of living index:
Rent: The EPI family budgets assume a one-person household uses a studio. Rental costs include shelter plus all tenant-paid utilities, excluding telephone service, cable or satellite service, and Internet service
Food: EPI uses the United States Department of Agriculture (USDA) “Low-Cost Plan,” which assumes that almost all food is bought at a grocer and then prepared at home
Transportation: EPI assumes the use of a vehicle may be necessary to get to and from major destinations, such as work, medical appointments, a grocery store, etc. In areas in which public transportation is accessible for traveling to and from major destinations, transportation costs may be overstated.
Child care: [We will not be utilizing this information.]
Health care: Health care expenses have two components: Affordable Care Act (ACA) insurance premiums and out-of-pocket expenditures. Premiums are based on the lowest-cost bronze plan in the rating area, adjusted for family size, age of user, and tobacco surcharge. The health budget may be overestimated and can be reduced by the size of the subsidy. Out-of-pocket expenditures are from the 2012, Medical Expenditure Panel Survey (MPES).
Taxes: Similar to the tax code, the tax calculation is the most complicated component. EPI utilized the National Bureau of Economic Research’s Internet TAXSIM Version 9.3 with ATRA to calculate these tax rates. The TAXSIM model accepts 22 input variables, including state, marital status, dependent exemptions, wage income, other incomes, rent paid, child care expenses, and capital gains and losses
Other items of necessity: These items include apparel, entertainment, personal care expenses, household supplies (including furnishings and equipment, household operations, housekeeping supplies, and telephone services), reading materials, school supplies, and other miscellaneous items of necessity.
Sustainable Income Level
The basis of the TRUST system is the Sustainable Income Level (SIL). The SIL is the total annual income, allocated pro-rata monthly, every individual 18 years and older would be entitled to, eventually replacing all forms of social security and all other federal welfare subsides. Utilizing the EPI Family Budget Calculator we developed a proposed Sustainable Income Level (SIL) of $2027 monthly and $24,324 annually. The SIL would be reviewed by Congress annually based on national median cost of living fluctuation.
All individuals 18 years and older who do not work either by choice, disability, or retirement would be eligible to receive the full SIL annually. Individuals who are born with profound disabilities and would never be able to work would be entitled to the full SIL from birth.
For individuals 18 years and older who choose to work, the SIL functions as an income subsidy until the SIL gradually phases out as income rises. Following the SIL phase-out income is tax-free until a specified point in which income becomes subjected to progressive tax rates.
To minimize distortions and limit federal manipulations, TRUST only allows for three deductions which all wage earning individuals would be eligible for, health, education, and retirement savings accounts. These accounts would be implemented by the private sector, but regulated by the federal government. Similar to current related deductions, Congress would determine annual contribution and deductible limits. The money contributed to these accounts would be deductible from earned wages, which may bring individuals into tax free wage ranges, however deductions may not qualify an individual for SIL subsidizes.
Health Savings: Each individual would have their own Health Savings Account (HSA) which they may designate as Self, Parent, or Retired. These funds may be used tax free for any health related expenses.
- Self: Funds may only be utilized for the account owner’s expenses. Current contribution limit is set at $3,400
- Parent: Funds may be utilized by account owner or their children under-18 only. Current contribution limit is set at $6,750
- Retired: Funds may only be utilized by the retired account owner. Current contribution limit is set at $1,000 more than standard Self or Parent standards.
Education: Each individual would have their own Education Savings Account (ESA) which they may designate as Self, Parent, or Retired. These funds may be utilized tax free for daycare, K-12 education, post-secondary education, or adult continuing education such as professional, certificate or job training.
- Self: Funds may be utilized for the account owner’s expenses.
- Parent: Funds may be utilized by account owner or their children. Contribution limits would be higher than Self and Retired accounts.
- Retired: Funds may be utilized by account owner or their children. May no longer contribute to account.
Retirement: Each individual would have their own Retirement Savings Account (RSA) which is designated Self or Retired. These funds may be utilized by account owner at retirement. Individuals would be required to utilize these funds in retirement and may not receive SIL until the total RSA value reached a specified level.
- Self: Funds may be utilized by the account owner. Current deductible contribution limit $5,500 or age 50 and over $6,500.
- Retired: Funds may be utilized as desired, however retirees may not receive SIL funds until their RSA value is at or below a specified value determined by Congress.
Creating an understandable tax system is one of the core principles of the TRUST system. In order to maintain simplicity the TRUST system includes all forms of income including earned wages, interest, dividends, capital gains, etc. as income. TRUST also only allows for individual filing, thus removing married and head of household options as well as additional benefits for children. Finally, TRUST utilizes a progressive tax system which allows only three deductions previously described. The actual calculations to determine what tax rates would need to be utilized for this system to be sustainable need to be completed, the below numbers are the current numbers for 2017 taxes and serve only has a model for how the TRUST system would be structured. We hope the TRUST system would allow for a decrease in overall rates and an increase in the number of brackets.
|Rate||Taxable Income Bracket||Tax Owed|
|5%||$37,499-$49,999||5% of income|
|10%||$49,999-$62,499||2,499 plus 10% of income over 49,999|
|15%||$62,499-$74,999||6,249 plus 15% of income over 74,999|
- Rex earns $15,000 annually which averages $1,250 monthly. Rex would receive a SIL subsidy monthly of $777.
- Nora earns $30,000 annually and contributes a combined total of $3000 to her ESA and HAS. She is not responsible for any taxes. If she increases her contributions to any of her deductible savings accounts which would bring her income under $24,324 she would not be eligible for SIL subsidy.
- Lucy has $65,000 in annual income from various sources and maximizes all of her deductible savings account contributions which lowers her maximum taxable income bracket from 15% to 10%.
This paper serves as an income tax reform proposal and requires significant analysis to determine if the system could realistically function. We acknowledge a system like this would be a profound change and would need to be implemented over time, for instance a cutoff for social security recipients would need to be determined and the Social Security Trust Fund would need to be maintained through payroll taxes until TRUST would be fully implemented. We also acknowledge TRUST would significantly reduce federal employment in most agencies, but would require further support for the IRS in order to monitor income, taxation, and SIL on an ongoing basis. We hope to further the discussion to improve what has become a broken and inefficient system.
 Library of Congress provides a summary and reference materials http://www.loc.gov/rr/business/hottopic/irs_history.html
 United Nations Educational, Scientific, and Cultural Organization
 Census: Poverty Thresholds