The tax reform plan proposed by House Republicans will radically change the taxation scheme on personal and corporate income. Analysts have discovered that with a few tweaks, the plan could be palatable to Democrats as well. The original plan was researched and subsequently written by Laurence Kotlikoff, an economics professor of Boston University. It had included the elimination of corporate income tax, levy on gift and also estate, and personal income tax. Other notable points include the addition of Value Added Tax or VAT, elimination of FICA payroll ceiling tax and offering an annual payment of $2,000 to every citizen of the United States.
The original plan proposed a reform of healthcare, social security and food stamps. All workers, independent of their rate of wages will face an effective marginal tax of 30 percent on labor income. As per the present fiscal system, most US workers face steeper marginal rates of tax on net labor. In case for workers having low wages, the tax rates for marginal net labor are extremely high. This leads to poverty trap. Older workers face a retirement trap on marginal net taxation.
The House Plan is different compared to the original plan. The reform of corporate tax is a case in point. The most important part of the plan represents a long overdue and major shift towards the consumption taxation. Consumption can either be taxed directly or by an indirect manner through the taxation of everything that is available for consumption. The last constitutes output added to imports minus exports plus investment. When 100 percent expense is permitted, the marginal tax rate on the business investment will go from highest in developed work to nothing, or zero. The reason for it being zero is that value of immediate write offs exactly offsets extra future taxes. The latter is produced by extra investment. It is expected. Taxing consumption in a direct manner means placing zero tax on return from investing and saving. An indirect tax means the same.
According to Democrats, tax on consumption is extremely regressive. However this is due to their misunderstanding of the tax. When a consumption is taxed over time, it is equivalent to partly for consuming resources over time. If revenue neutral basis are considered, then taxation is shifted from wages to taxing the wages plus consumption. This reduces wage taxation levels and raise wealth taxation level.