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Tax Rates and Tax Reform

Today’s Washington Times contains a good starting point to tax reform by Richard Rahn. He discusses the need to understand both the average and the marginal tax rates in order to achieve doable tax reform. “One major obstacle to tax reform,” he writes, “is the confusion in the minds of most Americans (and many members of Congress) about average versus marginal tax rates. Your average tax rate is the percentage of your total income that you paid in taxes, and your marginal tax rate is the rate you paid on your last dollar of income.” That’s important, he says because: “(h)igh marginal tax rates discourage work, saving and investment and hence result in lower levels of employment and national income. The present system, by having marginal rates much higher than average rates, does much unnecessary economic damage by reducing productive incentives more than is required to produce the same amount of revenue.”

Rahn's solution is to simultaneously broaden the tax base and lower marginal tax rates. He admits his proposal isn’t perfect, “but it would be far less economically damaging, greatly simplify peoples' lives and reduce the ambiguity in the current system. However, its greatest virtue is that it should be politically doable because it provides a greatly simplified alternative, while avoiding the fight over whether to make the system more or less progressive.”