Every state makes certain distinctions between types of income and offers various credits and deductions, and most state income taxes are levied in addition to sales taxes, double-taxing consumption. While economists would describe a perfectly flat income tax as one that does not distinguish between types of income, does not double-tax consumption, does not introduce time-based distortions, and does not include deductions or credits that would alter the effective tax rate, in practice, no state has a perfectly flat income tax. This provides predictability to taxpayers and helps protect against unnecessary tax rate increases. Whereas graduated-rate income taxes reduce the payoff to work and investment on the margin by imposing higher tax rates on higher levels of marginal income, flat taxes treat all taxable income neutrally and are less likely to discourage additional work, investment, and other activities that contribute to economic growth.īecause all income taxpayers are subject to the same tax rate under a flat tax system, single-rate taxes are generally more difficult to increase than graduated-rate taxes. Importantly, flat taxes avoid impacting individuals’ and businesses’ marginal decisions, or what they will do with their next dollar of income. Flat taxes are relatively transparent and simple in that they make it easier for taxpayers to estimate their tax liability and for revenue forecasters and state policymakers to estimate how a rate cut or increase would impact revenue. A flat tax, where a single rate is applied to all taxable income, is an appealing income tax system due to its relative simplicity, transparency, neutrality, and stability.
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