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Seniors and Consumption Taxes

This firestorm seems to have died down, but the Angry Bear makes a good point. Switching from income taxes to consumption taxes would be a very bad deal for retirees and retirees always get what they want from politicians, so there's about no chance this will happen.

August 6, 2004 | Permalink


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I was thinking that this retiree influence would only increase with the baby boomers like myself, but then I thought; Who here will ever be able to retire? I mean, I've never worked at one job long enough to collect retirement. I will have to work until I die...

Posted by: judson | Aug 6, 2004 2:38:30 PM

You needed to read the Angry Bear to figure out the consumption tax would never work? What planet do you live on? You simply cannot make that kind of a massive change to our taxation system. Various interest groups attack the change. Voters get nervous. Politicians don't act. I don't understand how you could think it was ever anything beyond an interesting thought experiment.

Posted by: timshel | Aug 6, 2004 3:01:46 PM

I agree we're not likely to see a switch to a consumption tax (and a ditching of income taxes) any time soon (though I wouldn't rule out a consumption tax in the distant future to augment income taxes). There are too many sectors that would fight the removal of the subsidies they get under the current regime, such as real estate, accounting/tax planning, and the non-profit world.

I'm not sure I buy Angry Bear's logic, though, about the elderly. Do the elderly consume a higher percentage of their income than non-elderly? I doubt it. Consumption taxes basically hurt those who consume the most, and save the least, of their incomes. I reckon your run-of-the-mill indebted family with largish credit card and mortgage debt (the folks who live from paycheck to paycheck, in other words) are the people who would intitially take the biggest hit from a switch to a consumption tax. The elderly tend to be a bit more well off than the non-elderly population, after all. Are there some elderly who would see their disposable income drop because of a switch to a VAT? The answer is yes -- the poorer ones. But the elderly as a whole are richer than the general public, and usually spend less on life's necessities.

Posted by: P.B. Almeida | Aug 6, 2004 3:18:06 PM

PB, maybe I'm misreading it, but Bear seems to be addressing the problem of people who are living of of retirement savings or other non-income monies. And they would be hit very hard by a shift to a consumption tax because they paid the income tax when they earned the money.

Posted by: Sebastian Holsclaw | Aug 6, 2004 3:28:05 PM

P.B: I haven't seen data that supports the idea that elderly as a whole are richer than the general public.

My guess is that they richer only to the extent that they have little debt, but as Sebastian indicates their cash flow has non-income sources. Since these sources tend to produce money that barely keep up with inflation generally, but don't keep up with inflation specifically in health care and prescription drugs, it seems more likely that each year they have less truly disposable money to spend.

As Sebastian indicates, some of their savings are tax-paid - although 401ks (non-Roth IRAs) and social security are fully taxable.

In my mind, the biggest reason seniors would oppose any major change in tax policy is that they no longer trust government and would think that any change would be hurtful to them. That's reasonable thinking, IMO.

There is nothing wrong with our tax system that increasing the historically low corporate tax rate, raising the rates on those over $200K income, and eliminating many tax loopholes wouldn't fix.

Seniors will support pay-as-you-go government, even if they have to pay their share as well. They don't support passing today's costs on to their grandchildren - as BushCo loves to do.

Posted by: JimPortlandOR | Aug 6, 2004 3:44:24 PM

We should find a way to distinguish between progressive consumption taxes and non-progressive consumption taxes. Progressive ones work by computing "consumption = income - investment" and then using tax brackets to make it progressive. VATs are non-progressive. The progressive version isn't so bad.

Posted by: Josh Yelon | Aug 6, 2004 4:43:33 PM

While we're here, could somebody explain to me the logic of corporate taxation? It seems to me that corporate taxation creates an incentive for businesses to integrate vertically - it could be a factor in why we have so many megacorps.

Posted by: Josh Yelon | Aug 6, 2004 4:46:05 PM

I'm pretty much an evil Republican (boo, hiss) but I don't like the idea of consumption taxes either. They're inherently regressive, and they do hurt people on the lower end of the income scale more. They're almost as bad as property taxes, which REALLY hurt the poor the most.

The income tax has the potential to be the fairest type of tax. A flat tax with a standard deduction and few other deductions would be the most fair for a lot of reasons, and would generate the most income for the government. But that's the topic of another post, another day.

Posted by: Scott Ferguson | Aug 6, 2004 4:49:19 PM

Switching from income taxes to consumption taxes would be a very bad deal for retirees and retirees always get what they want from politicians, so there's about no chance this will happen.

Unless of course, there is a transitional system; that lets current seniors off the hook. One way to do it would be to exclude investment contributions, but for a period not add back in some disinvestment for certain people. Say, up to $75,000 a year for anyone 55+ born up to (assuming the law went into effect in 2005) 1950, $50,000 for people born 1950-1960 as they reach 55+, and $25,000/yr for those born 1960-1970 as they reach 55+.

Posted by: cmdicely | Aug 6, 2004 4:52:42 PM

Do the elderly consume a higher percentage of their income than non-elderly?

Yes, because they tend to be more likely to live by depleting assets rather than off of current income.

Posted by: cmdicely | Aug 6, 2004 4:54:28 PM

The best thing, IMO, about consumption taxes is that they avoid the problem income taxes have with income that isn't realized when it is generated -- capital gains being the prime example.

Posted by: cmdicely | Aug 6, 2004 4:56:11 PM

There is nothing wrong with our tax system that increasing the historically low corporate tax rate, raising the rates on those over $200K income, and eliminating many tax loopholes wouldn't fix.

None of that fixes the problem that the nature of capital gains makes it virtually impossible to fairly treat labor and capital in an income tax system.

Posted by: cmdicely | Aug 6, 2004 4:57:28 PM

Sebastion and cmdicely -- you make my point in response to PG exactly. Taxable income falls dramatically upon retirement, basically by definition. We don't tax wealth, which is what retirees have more of than younger people (e.g., paid mortgages), so that's why a consumption tax would come down hard on them. As someone else said, they prepaid their retirement taxes while working.


Posted by: Angry Bear | Aug 6, 2004 6:20:19 PM

This same dynamic will also make fundamental change in health care very problematic. Medicare recipients are subjected to less rationing of health care goods and services than any non-megawealthy people on the planet, and any useful change will entail more rationing for this group.

Posted by: Will Allen | Aug 6, 2004 6:40:28 PM

It occurs to me that one way of dealing with the retiree problem in consumption tax would be "simply" (actually, for some investments, this would be somewhat complex, but after losing the capital gains problem entirely, its not too bad, I don't think) to exclude any "withdrawal" of investments made before the switch to consumption tax except ones that were income-tax deferred when the investment occurred from consideration in consumption taxation (if you are using the "income - investment" consumption tax system, not a VAT. VAT's are, IMO, unfixable).

Posted by: cmdicely | Aug 6, 2004 6:48:35 PM

Medicare recipients are subjected to less rationing of health care goods and services than any non-megawealthy people on the planet, and any useful change will entail more rationing for this group.

A useful change wouldn't even have to effect the Medicare-eligible population directly.

Posted by: cmdicely | Aug 6, 2004 6:50:35 PM

Sorry folks, I'm sticking to my guns on this one. AB's contention smells to me like sweeping generalization, or incorrect conventional wisdom. Sure, some elderly spend money they've saved. But a lot of elderly people don't touch principal, and only spend investment income derived thereof. They also receive income in the form of private and public pensions, and many of them earn wages. The point is they have income coming in. Now, maybe they don't have as much income on average as, say, 35-50 year olds, but they may well have more income than, say 18-50 year olds. You can't compare the elderly only with people whose earnings are maxing out. Moreover, the elderly have fewer expenses, and receive hundreds of billions in un means-tested transfers. They also tend to have a lot more assets, much of it tied up in real estate, some of which could be converted into income bearing instruments if we were to go to a consumption tax (it would likely make financial sense to do so for a lot of elderly people). Finally, many have proposed reverse taxes or rebates to cushion the poor (including, of course, the elderly poor) from the regressive effects of consumption taxes.

There would obviously be winnners and losers accompanying any major change in our tax code, just as there are winners and losers under current rules. What I'm not convinced of is the contention that old people as a group automatically belong to the second category.

Posted by: P.B. Almeida | Aug 6, 2004 8:01:20 PM

cmdicely, please define "useful". Any emulation of systems that are regularly extolled in forums such as this will result in more rationing of numerous procedures for Medicare recipients.

Posted by: Will Allen | Aug 7, 2004 12:50:31 AM

I should clear up a little misconception here about Social Security income:

It's only taxable up to 85% of the total SS amount.

Also, the SS amount and half of income from other sources has to be a certain amount before the SS income becomes taxable at all.

So, if say, someone has 10,000$ of SS income, and because of other income the SS is 'fully' taxable, only 8500$ of the SS income is actually taxed.

Posted by: The Dark Avenger | Aug 7, 2004 3:55:13 AM

Keep in mind, the Domenici-Dunn USA Tax introduced in the mid-90's, was a practical bill for transitioning from an income to a progressive consumption tax (by defining consumption as income less net savings). It did this by giggering the brackets so that initially the rates and total revenues were close to where they are now. Then, in the future, progressivity could be added gradually. Where there's a will there's a way!

Posted by: Luke Lea | Aug 7, 2004 12:26:59 PM

Right. The 2004 medicare budget is $303 billion. Toss in Medicaid, SCHIP, and miscellaneous grants and such, and it takes you to $485 billion. Personally, Will, since your post is about rationing for seniors, I would like to exclude medicaid, SCHIP, and other from the budgetary figures, and thus arrive at medicare accounting for about 20% of our $1.5 trillion medical sector. If we (for no reason) toss in medicaid, SCHIP, and other, we get 32%. Now, suppose we subtract that whole 32% from our health care costs. We have 68% left... which gets us almost as low as the per-capita health care costs of the most expensive (measured in per-capita health care costs) country AFTER the United States, Switzerland ($3,912 in the United States in 2000, in 1997 Dollars, $2,611 in Switzerland). Except, of course, Switzerland pays for the health care of its 65-plus people too. Of course, if we just take out medicare, which I think is better, then we're STILL far more expensive than Switzerland, rather than only slightly more so (of course, in Japan, France, Canada, etc, health care is significantly cheaper than Switzerland).

In other words, while I'm skeptical of people who think that by waving the magic-wand of Canada-ization of U.S. health care, we can solve all our health care problems, medicare's lack of rationing doesn't seem to account for all of the problem. In fact, I think it accounts for little of it, since 12.4% of the U.S. population (a fairly low, though not outlying, number for OECD nations) is over 65, EVEN IF you reduced medicare expenditures to the level of the rest of the population (so that they account for 12.4% of medical expenditures, which is unreasonable, given that seniors would, even in perfectly free markets, probably spend more than anyone except newborns), by reducing their health care expenditures by 38%, so that we are left with a medicare that is now 62% of its former size... we are left with 92.8% of our health care system still costing that much, which still leaves us far above even the most expensive of comparable nations.

In short, Will, I don't buy the "lack of medicare rationing is the main reason for high healthcare costs" line, unless you somehow maintain that medicare for people over 65 makes medical treatment for people under 65 more expensive.

Posted by: Julian Elson | Aug 7, 2004 6:20:10 PM

I'm not clear whether a consumption tax in place of the income tax would be a good thing. If it was othewise a wash it would be good because it would have to start out a whole lot simpler. Throw away 70 years of IRS rulings and that's a lot of brainpower that could possibly be devoted to something useful.

If we did want to switch to a consumption tax, and we can't do things that retired people oppose, wouldn't there be some way to exempt retired people from it? Sort of like a senior-citizen's discount for government?

Posted by: J Thomas | Aug 8, 2004 10:09:56 AM

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