Politicizing the Tax Code: Double Taxation Shows How Special Interests Have Poisoned Public Policy

Senate Republicans and House Republicans reached a compromise by lowering tax rates for higher earners, thus enabling the 2017 GOP Tax Plan to advance to a final round of voting.  Although analysis by some organizations, such as the Treasury Department’s Office of Tax Policy, suggest the major tax overhaul will be a net benefit to the economy and the Federal budget, based on a rosy assumption for increased economic growth, others shows little benefit in terms of economic growth, increased Federal deficits, and higher tax burdens on middle to lower income taxpayers.  All of the analyses are based on a number of debatable assumptions.  Which analysis is more correct seems to depend more upon one’s political views than the actual validity of the argument and data used, which demonstrates exactly why public policies tend to be so flawed.

Public policies function only when they are designed to address real world issues based on real world conditions in realistic ways.  Politics is based on how people see the world and how they want the world to work.  By politicizing tax policy, which has happened over the course of generations, politicians and lobbyists have created economic problems.  The refusal to recognize the need to fund government and embrace the need for taxes, for example, has created a situation where massive government spending has gone unfunded.  Basing tax policy on what is most beneficial to affluent taxpayers and the desires of influential special interest groups has also helped deprive government of tax revenue and distort the economy by further advantaging influential groups over others.  
 
The debate over the State and local tax deduction, for example, demonstrates exactly how politics has undermined sound tax policies.  When it comes to taxes on business revenue and capital gains, which includes taxes on the earnings of shareholders who might be considered business owners, the issue of double taxation is often raised to justify cuts on both rates.  Sales taxes are an example of double taxation of earnings already taxed.  Double taxation also occurs when businesses pay taxes on revenue then issue dividends without expensing their dividends.  Ironically, Republicans tend to stand firm against double taxation when it comes to corporations and wealthy investors, yet it is Republican who seek to repeal the tax code provision that allows taxpayers to deduct their State and local property taxes as well as their State income taxes or State sales taxes.  It is hypocrisy based on special interest-driven politics.
 
Advocates for the repeal of the State and local tax deduction rationalize their support for double taxation by framing the tax provision as a subsidy for dysfunctional State and local government.  As American Enterprise Institute Fellow Alex Brill wrote in The Hill, “But state and local taxes are best understood as payments for consumption, such as schools, and police and fire protection.  There is no more reason to deduct those payments than the purchases of other consumer goods.”  Although his assertion is an issue that should be explored, it is just an assumption and opinion, not a factual statement.  Assuming the deduction does have some subsidy effect, it is likely relatively small and impacts government policy in a very complicated way.  
 
Treating State and local taxes as payments for consumption means Federal taxes must be treated the same.  In which case, double taxation places the Federal governments in direct competition with State and local governments for tax dollars.  Because the Federal government enjoys legal and economic supremacy over State and local governments, the Federal government will win in any competition, thereby undermining the ability of State and local governments to fund themselves.  It also allows the Federal government to grow unchecked, e.g. the deduction helps keep Federal taxes lower.  As the Federal government directly subsidies State and local governments, the situation is actually far more complicated.  The State and local tax deduction empowers State and local governments, as well as their constituents, to support themselves instead of creating a greater reliance on Federal government.
 
Brill also argues, “The deduction also distorts tax decisions made by states, inducing them to impose heavier income taxes on high-income individuals in order to maximize the federal subsidy.”  It is true that a higher deduction makes it easier to raise taxes on the wealthy and it is also likely true that communities with high taxes and large populations of high-income individuals engage in higher taxing partially thanks to the deduction just health insurance deductions encourage the over-consumption of health insurance.  Because localized governments better represents the interests of their population due to the size of the governed community, which is why Republicans favor local government,  wealthy individuals are both more likely to benefit from higher local taxes and more likely to support higher local taxes that fund projects in their own communities.  In other words, these taxpayer have greater control over how their tax dollars are spent.
 
Double taxation would force State and local government to rely more on the Federal government by starving local and State governments of tax revenues.  Alternatively, it would push wealthier individuals, who would face higher Federal taxes, due to the need to subsidize local and State governments, to move away from communities with higher taxes.  As poorer communities receive higher levels of Federal and State funding than wealthier communities, wealthier communities would be pressured to reduce services.  There is no actual incentive to improve government services, which is the justification for double taxation.  The reason local, State, and Federal government are so inefficient and dysfunctional has nothing to do with taxes.  It is the product of special interests influence and a lack of responsive government that fails to truly represent the interests of individuals.
 
The simple truth is that advocates want to allow double taxation, because they want a broader tax package that favors wealthier businesses and individuals.  Double taxation helps them pay for that tax policy overhaul.  Double taxation of individuals is simply a means to an end, i.e. a political convenience.  Unfortunately, double taxation would simply weaken local and State governments, thereby hurting the levels of government where citizens have the most direct representation and most influence.  Opponents of double taxation are against double taxation, because they believe government should not tax income that has already been spent on taxes, which is just and sensible.  Advocates hope to crush government, because they do not like government and/or ease the tax burden of special interests groups.  By doing so, however, they actually favor a bigger Federal government and risk overtaxing those under-represented individuals whose incomes are double taxed.