November 24, 2005

comparing tax systems

A little more on Tax. To examine which is the best tax system I have made a series of graphs of how they affect household income. These are all based just on the tax take without personal allowances, or tax credits for the sake of simplicity. I am not an economist and where I needed numbers and had no source I picked some for illustrative purposes that seemed reasonable.

The systems

Graph of take taken by government

From this graph you can see that for most of the time the communist system is the one where you are giving the most money to government. However not always. At the extremes it changes so for very high earners pay less than under a progressive tax system, and for very low earners they pay less than any of the other systems as the tax system tops up their income to make sure that everybody is equal. You can also see that an extra tax band, as proposed by Jonathan Freedland would make that system closer to the progressive system that he thinks is a good idea.

You can also see how similar that graphs of the amount taken by the Flat Tax and the system required to fulfill the Marxist dogma of "from each according to their ability, to each according to their need.". If you add in the large personal allowance that features in most Flat Tax systems it becomes obvious that the system needed in a Communist system is actually a special case of Flat Tax. Which should give both Al Guardian and the Adam Smith Institute something to chew on.

Now onto the more important graph, how much money each individual is actually left with.

Graph of take home pay after tax

The first thing that jumps out is that under a Poll Tax type system the very poor actually end up taking home a negative amount of money, and while many people do better under this system (some substantially better) this is obviously a problem.

Again you can see that an extra tax band will bring the current banded tax system closer to a the progressive system. But the most interesting feature of the tow versions of a banded system is what happens at the bands. By getting a salary increase that crosses one your actual take home pay decreases, and takes a substantial increase in salary simply to get back to where you started. This is a disincentive to work harder if you are close to a band for fear of crossing it. The poverty trap again, just for people that are not in poverty.

In a banded system by working harder at least you can get back to your peak salary from before crossing a band. In a progressive system beyond the median salary however much extra effort that you put in will simply decrease the amount that you get to take home further. An obvious and rather brutal disincentive to work hard.

In a communist system there is no incentive all to work hard, or even to work (other than the secret police shipping you off to Siberia).

The only system of the ones given that retains an incentive to work hard, and keep on working harder, but without any strange distortions and poverty traps is the Flat Tax. So of the systems that I have described I am still completely happy that it is the best on offer.


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