What Is Tax Fairness?
Tax fairness is a concept that stipulates a tax regime should be fair to everyone under its authority. Ideas of what makes a tax regime fair can differ significantly, however, based on how much wealth or income a person or a group has and their philosophical orientation.
- Tax fairness is a contested idea: some people argue one type of tax regime is fair, and another group may argue that it is fundamentally unfair.
- Advocates of a flat tax say it is fair because everyone pays the same amount of tax, whereas opponents say flat taxes disproportionately fall on the poor.
- Advocates of progressive taxes say they make the richest pay more into a system that has benefitted them more, whereas opponents say it is an unfair punishment of success and an illegal redistribution of wealth.
Generally, advocates of tax fairness believe that taxes should be based on a person's or company’s ability to pay balanced by the needs of the taxing authority and the overall health of society.
Understanding Tax Fairness
Tax fairness is best understood as a continuum that runs from what is most fair for the individual to what is most fair for society as a whole. Most tax authorities try to strike a balance between these two extremes.
A tax regime that is most fair to the individual will let the taxpayer keep most of the money they make or the wealth they own because it is considered to be their property. A tax regime geared toward individuals may also have many exemptions for special cases, as each individual considers their specific case worthy of special tax treatment.
The most deserving individuals will pay the least tax, though there may not be consensus on who the most "deserving" individuals are. For example, the most deserving may be the poorest and most disadvantaged or they may be the richest who are most able to benefit others by investing money and creating jobs.
On the other hand, a tax regime that is most fair to society may feel that the tax code's primary social function is to redistribute wealth from pockets of accumulation or from high earners. For example, generational wealth may be taxed at 100% by an inheritance tax, or pay for corporate CEOs may be taxed to bring their pay in line with all other workers in the company.
Most advocates of tax fairness tend to advocate for closing loopholes in the tax code that allow certain individuals and corporations to avoid paying taxes, though loopholes are strongly defended by individuals who believe they need special protection by the government. Other elements of tax fairness, like progressive tax versus a flat tax, are more controversial.
Three Different Tax Concepts
Groups that focus on tax fairness describe three different tax systems. These systems are regressive taxation, proportional taxation and progressive taxation.
Regressive taxation describes a tax system in which people with the least money pay the greatest tax burden. A state-wide sales tax is an example of this type of taxation. Low-net-worth people pay the same amount of money for a gallon of milk as high-net-worth people and the same amount of tax, but they have less money left over to save or invest.
A flat tax, whether a sales tax or an income tax, is a regressive tax. For example, imagine a tax regime that has a flat 15% income tax and no other tax. Family A makes $60,000 per year and family B makes $180,000 per year. Both families need $10,000 per year for food and $10,000 per year for health insurance. These costs are fixed expenses (neither family can negotiate lower prices for these goods).
At the end of the year, family A has $51,000 to spend after taxes and family B has $153,000 to spend. After their necessary food and insurance costs, family A has $31,000 to save or invest and family B has $123,000 to save or invest. Though family B made three times more money than family A, at the end of the year family B has nearly four times as much leftover.
Proportional taxes require all taxpayers to pay roughly the same amount of taxes. This can also be known as a flat tax. As discussed above, flat taxes are also regressive taxes.
Advocates of flat taxes argue that a flat income tax, for example, is more fair than a progressive income tax because high income is a reward for hard work. Progressive taxes, on the other hand, punish high earners.
Flat sales taxes are also more fair because it is unfair for people with more money to pay more for a good. (A corollary idea says the state shouldn't set prices, and that they should be set by the operation of a free market.)
Progressive taxes allow poor people to pay the lowest amount of taxes, while tax rates go up with a person’s income level. The U.S. federal government's income tax operates in this way, with wealthier taxpayers paying a larger percentage of their income in taxes and the lowest earners paying nothing at all.
Progressive taxes may also have exemptions to reduce the tax burden on taxpayers with demonstrated need or may be de facto transfer payment. The Earned Income Credit (EIC) provided by the IRS gives a family below a certain income threshold money instead of taking money from them as a tax.
Proponents of redistributive taxes argue that concentrations of wealth and capital are inherently bad for society because concentrated wealth is stagnant and doesn't flow through the economy to stimulate investment and growth.
The French economist Thomas Piketty has argued that as capital is concentrated in the hands of a few individuals, real economic growth is slowed. He has also argued for a wealth tax on billionaires of up to 90%.
Inheritance tax is the paradigmatic example of a redistributive tax. In the extreme case, an inheritance tax would take all the wealth created by one generation and redistribute it to government purposes or to other citizens. Opponents call inheritance taxes "death taxes."
Blended Tax Regimes
In practice, most tax authorities blend flat taxes and progressive taxes. For example, a state may have a state-wide sales tax, but it may also have a progressive income tax and a "wealth tax" on real estate sales of millions of dollars. This tax regime is considered fair by most of the citizens, and so it remains law (instead of being challenged and changed by a political movement).