The “Fair Flat Tax Act”

by | Jul 13, 2007 | Cash Flow, Weekly Column | 1 comment

kiplinger-tax-letter.jpgAccording to The Kiplinger Tax Letter, Congress is on the move to increase government revenues. Senate Democrats have a plan to raise nearly $1 billion more for their 2008 budget. This means you can expect to be paying more in taxes in the near future.

The name of the proposed legislation is the Fair Flat Tax Act. Of course, the name of most legislation is often the opposite of what it says. As with all tax overhauls, there are winners and losers.

First, the losers, which is everyone. The act would reduce the current six tax brackets to three: 15%, 25%, and 35%. The bad news for low-income filers is the elimination of the 10% bracket. As bad as that may be, it gets even worse when you see the new breakpoints. For couples filing jointly, the lowest bracket of 15% would extend to $30,000 instead of the current $63,700. The 25% bracket would extend to $120,000, which is similar to the current breakpoint of $128,500. The 28% and 32% brackets are eliminated, leaving a 35% rate on all other income. All in all, this is a very significant tax hike for rich and poor alike.

To help offset these increases, the act raises standard deductions to $30,000 for joint and $15,000 for single filers. This would help soften the impact of eliminating the 10% tax bracket, especially for the lower end taxpayers.

Probably the most puzzling thing this act does not fix is the alternative minimum tax (AMT). There is broad bipartisan agreement that something has to be done to index the AMT tax. This tax was instituted to make sure the rich were paying their fair share. The problem, as with any tax law that isn’t indexed for inflation, is that the AMT is now racheting up the tax bill of many middle class taxpayers.

Of course, this act would increase taxes on the rich. One sure sign of being “rich,” as defined by Congress, istax-the-rich.jpg that you have spent less than you consumed and have invested the difference. The act would eliminate the long-term capital gains and the preferential tax on dividends. Instead, it would tax all long-term capital gains and dividends at ordinary rates. For most Americans, taxes on investments held for over a year would nearly double.

I would expect this to negatively affect stock prices for several years. It would definitely mean investors would need to restructure the way they hold investments in individual accounts versus retirement accounts. It also means that if you have appreciated stocks or property you’ve been thinking of selling, before this act passes may be a good time to liquidate.

For regular corporations, the 15% and 18% tax brackets would be completely eliminated, setting a flat tax on corporate profits of 35%. This basically would triple taxes on small business owners with profits under $50,000, while leaving the big corporations unscathed.

Employees would have to pay tax on benefits that heretofore were tax free. The act would pretty much eliminate many of the perks afforded to employees of corporations, such as pre-tax life insurance, flex plans, workers’ compensation, and company-provided meals and lodging.

The fact that higher taxes are in our future really surprises no one. Philosophically, the Democrats have favored more government services, which means more spending, which means higher taxes. If they are going to pass this act before the election, it will need to happen very quickly so that voter memories have sufficiently faded come election time. My guess is that we won’t see any significant change in the tax law until 2008. Then, it will be Katie bar the door.

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