Analyzing Herman Cain's 9-9-9 Tax Plan
Herman Cain, the business executive who is vying for the Republican presidential nomination, is to be thanked for introducing into the GOP debates questions of tax reform.
Mr. Cain's plan, known as 999, would replace all taxes with three flat taxes of 9 percent each on individual income, corporate income, and sales. He would abolish payroll taxes, levies on capital gains, estate taxes, and most individual deductions, such as the mortgage interest deduction for itemizers. For more details, see www.hermancain.com/999plan.
Mr. Cain, who made his fortune as chairman and CEO of Godfather's Pizza before he retired, is unusual because he's running for public office for the first time. He speaks more directly and succinctly than do most politicians, appealing to voters who are fed up with "politics as usual."
And his standing in polls of Republican voters has been rising. He came in first in a Florida straw poll, propelling him into the national spotlight. However, the primary season is young and Mr. Cain has yet to establish himself as a potent threat to beat the front-runner, former Massachusetts Governor Mitt Romney, for the nomination.
Pundits say Mr. Cain lacks sufficient organization and money to wage a successful campaign. But his ideas about changing the federal tax system merit examination. He defended his 999 plan vigorously against attacks from other candidates in Tuesday night's Republican debate at Dartmouth College in Hanover, New Hampshire.
Minnesota Representative Michele Bachmann asked how Mr. Cain could give Congress a new revenue stream. Former Pennsylvania Senator Rick Santorum commented that a 9 percent sales tax would not be popular in New Hampshire, which traditionally holds the first primary election in January or February. Mr. Santorum was alluding to New Hampshire's lack of state income tax and general sales tax.
Juliana Goldman of Bloomberg News, one of the questioners, said that independent scoring estimates showed that the 999 tax plan would not raise enough revenue. Mr. Cain replied that this criticism is incorrect because the estimate underestimates the broad base of the tax.
To those who suggest there might be an upward creep of the initial 9 percent tax rates, Mr. Cain has a rejoinder. He would have Congress include in its tax reform package a provision that in the future, any increase in rates must be approved by super-majorities of two-thirds of the House or Senate.
That would be a thin reed, because, by a simple majority, a Congress bent on raising tax rates could repeal the two-thirds requirement.
Recall that the 28 percent maximum rate Congress adopted in the Tax Reform Act of 1986 was raised more than once, under Presidents George H.W. Bush and Bill Clinton.
Mr. Cain deserves praise for drastically lowering individual and corporate taxes, doing away with most deductions, abolishing taxes on capital gains, and letting businesses "expense," or write off in one year, outlays for investment. Such fundamental reform would likely spur economic growth.
Where his 999 plan is most troublesome is its proposal for a national sales tax. The sales tax is not just an afterthought, but would eventually replace income and corporate taxes.
National sales taxes have risen steadily in countries where they have been implemented, notably Europe. Just one example among many: a value-added tax started in Britain at 10 percent in 1973, and is now 20 percent. The temptation to increase it a little at a time seems to be irresistible to governments looking to spend even more.
The notion implicit in Mr. Cain's proposal that a country can impose a small, single-digit sales tax that will not creep up is not supported by other countries' experience. Thirty OECD countries have VATs, and only three, namely Canada, Japan, and Switzerland, apply rates under 10%. In many countries the VAT is the largest source of revenue.
To give Mr. Cain the benefit of the doubt, perhaps as president he could keep the national sales tax at 9 percent. But what if he were replaced by a president who was not committed to low taxes? One of the first actions of that new president might be to raise the sales tax a percentage point.
The application of Mr. Cain's sales tax to all goods, including food and clothing, would make it simpler and more efficient. No arguments about whether a product or service qualifies for exemption.
However, a problem with a national sales tax is that it clashes with states and local sales taxes. Now, the sales tax is the province of the states. Adding a 9 percent sales tax on top of state sales taxes would reduce states' revenue from sales taxes because it would reduce consumer spending.
An example: New York City residents now face a sales tax of close to 9 percent. Adding another 9 percent would get a rate close to 18 percent. Shoppers would spend less with an 18 percent rate of tax than with a 9 percent rate because of the higher prices. So New York would collect less tax, and would have to cut back on spending or find additional revenue from other taxes.
Nuanced arguments about a national sales tax apart, it's politically unrealistic in America to expect that a sales tax would become a substitute for the income tax. If one were adopted, it would be an additional levy.
Some fiscal experts have advocated an extra tax to pay down the debt, but no one has devised a foolproof method for keeping sales tax revenue, directly or indirectly, from financing additional spending.
But that does not mean that we have to abandon the idea of moving our tax system towards a consumption tax. What is not consumed, given to charity, or paid in taxes is saved. Rather than taxing consumption, we could achieve the same results by making savings tax free. In other words, income tax would be levied only on income spent, not on income saved.
Congress could move towards a consumption tax by taking the tax-preferred savings accounts we have now, such as 529 college savings plans, 401(k) retirement plans, traditional and Roth Individual Retirement Accounts, Health Savings Accounts, Simplified Employee Pensions, and melding them into one large tax-free savings account without limiting annual contributions. Income going into this omnibus savings account would not be taxed.
On the corporate side, corporations could be allowed to expense purchases of equipment in one year, rather than depreciating them over several years, as is done now.
Such reforms would move the United States towards a consumption tax without giving Congress a new revenue stream.
The Super Committee of Congress, scheduled to release its report on deficit reduction next month, may have its own proposals for raising revenue and reforming the federal tax system. It could gain from Mr. Cain's bold approach.