America needs a flat income tax — or no income tax

The conservative groups targeted by the IRS had long complained of disparate treatment, and have been vindicated — but only after the 2012 election cycle finished, leaving them to organize for 2014 instead.

The Obama administration already had an uphill battle in its ObamaCare implementation, which has the IRS as its main enforcer, and now the stench of scandal hangs over the public-relations efforts of the Department of Health and Human Services.

Democrats on the committees investigating the scandal have to walk a fine line between expressing outrage over targeting in general and minimizing the scope of the scandal, lest the increasing damage impact the agenda items of the White House and Senate leadership.

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The only group that can embrace this scandal as unalloyed good news are tax reformers. The scandal underscores most of the complaints about the complexity of the tax code, its capriciousness, and the unaccountability built into the agency tasked with enforcing it. The scandal at the IRS gives the widest political opening for a comprehensive tax-reform package since the Reagan administration.

At least, that's what Sens. Max Baucus and Orrin Hatch hope. While two House committees investigate abuses at the IRS, the two senior members of the upper chamber plan to reform the tax code to provide simplification and rationality to the existing tax structure. Unfortunately, their well-intended effort misses the mark.

Their approach differs from the direction of the tax-reform debate over the last few years, which has focused on increasing the progressiveness of the rate structure and imposing arbitrary caps on deductions and exemptions. Other, less notable proposals have tried trimming deductions and exemptions from the code by pointing out their excessive cost relative to their social or economic value. But Baucus and Hatch, as the Wall Street Journal reported this weekend, have adopted the strategy of zero-based budgeting and applied it to their tax reform efforts. Instead of looking for deductions and exemptions to eliminate, the pair will start from scratch and demand that every deduction and exemption proposed be justified anew.

"Every $2 trillion of individual tax expenditures that are added back to the blank slate would, on average, raise each of the seven individual income tax brackets by between 1.3 and 2.2 percentage points from what they would be under the blank slate," said the two senators in a letter to their colleagues. "Likewise, every $200 billion of corporate tax expenditures that are added back to the blank slate would, on average, raise the top corporate income tax rate by 1.5 percentage points from what they would be under the blank slate."

All of this is true, and more. It's the "and more" that's the problem, however.

First, while the approach taken by Baucus and Hatch is relatively novel for the recent past, we have actually seen this approach once before — or at least something very close to it. It came during that last successful reform effort midway through Ronald Reagan's second term. Congress — then dominated by Democrats but reeling from Reagan's landslide election — stripped down deductions and exemptions to eliminate significant sheltering and the enforcement efforts it created. The number of brackets dropped from 15 to four, and most taxpayers only dealt with two potential rates of taxation. The progressiveness of the tax system was reduced, but the simplification allowed for more honesty in investment and reporting, making compliance easier.

If we fixed the problem in 1986, why do we need systemic reform again now? Congress and the Reagan administration made the mistake in 1986 of leaving the income-tax structure in place — and keeping the power to manipulate it on behalf of treasured constituencies. It didn't take Washington long to start pushing the tax code back toward complexity and capriciousness; in 1990, just four years later, Congress pushed Reagan's successor, George H. W. Bush, into an increase in tax rates that soured his relationship with conservatives, and we have hardly looked back since.

Now, the tax code — for both individuals and for businesses — has a tremendous amount of value for policymakers, and not just for their own electoral interests. Members of both parties push for tax breaks and tax penalties to incentivize or disincentivize a wide variety of behaviors, whether it's to get investment in green energy, increase savings, or buy a new car — remember the $7,500 credit for buying an electric vehicle demanded by President Obama? The Low Income Housing Tax Credit provides a strong incentive to invest in lower-cost multi-family housing, while the mortgage tax deduction benefits millions by lowering their tax burden by having the rest of the taxpayers cover the interest costs of most mortgages. Thanks to the principles of federalism built into our constitutional republic, this is the only way in which members of Congress and presidents can dictate or incentivize our behavior.

Most of these credits, deductions, and exemptions are very popular. The power to create them is very popular on Capitol Hill and the White House, and in both political parties in the Beltway. As long as that power exists — as it will in the current income-tax system, regardless of how pared down it may get once a generation — politicians will use it. That means a reformed tax system won't stay that way for very long, even when politicians have the best of intentions. Or perhaps it's better say especially when they have the best of intentions.

Real reform would be to get rid of the current income-tax structure altogether, in a manner that ensured Congress couldn't restore it, either by leaps or by increments. That would take a constitutional amendment to require a flat tax with no deductions, credits, or exemptions, or to eliminate the income tax altogether with a repeal of the 16th Amendment and create a consumption tax instead. The latter would eliminate the IRS and its abuses, while the former would render it incapable of real malice and bias. If we want to see truly innovative and courageous reform with the goal of eliminating abuses of power, those are the only real paths that guarantee results that endure.