Tax Day 101: The tax code needs a fix – but exactly how?

Almost everyone agrees that the US tax code needs fixing, but people don't agree on how to do it.

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    People in line at the post office in Los Angeles. As the April 15 deadline for filing US income tax returns has arrived, most people agree that the US tax code is too complicated, but there's little agreement on how to fix it.
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Did filing taxes tax your patience? You're not alone.

Americans spend 6.6 billion hours per year filling out tax forms – including 1.6 billion hours on Form 1040 alone, according to Internal Revenue Service estimates cited by the Tax Foundation in Washington.

The word "complexity" doesn't quite do justice to a tax code that grew from 409,000 words in 1955 to more than 2.1 million by 2005, according to a Tax Foundation tally.

It's a dream come true for members of congressional tax-writing committees, who reap lobbyist donations each year as they ponder the latest tweaks.

The government gives with one hand and takes with the other

The result is a Rube Goldberg-style system that rains credits and deductions from one funnel while using other hoses to vacuum up revenue for the government. With the new Schedule M here and the alternative minimum tax there, it's little wonder that people make lots of mistakes.

Nearly half of filers -- 46 or 47 percent by some estimates -- will owe no income tax this year. But most of them are required to fill out the form anyway. Meanwhile, the government is still running in the red, with tax revenues not matching the rise of spending.

So what's the fix?

Most tax policy experts say that at least some consolidation and streamlining is needed. But the prescriptions vary widely. An Obama fiscal commission is pondering some of the options, while others are relying on grass-roots followers to develop traction.

Suggestions for 'fixing the tax code

Here are a few of the big ideas out there:

Flat tax. This would replace the current graduated income tax, which has different rates for different income brackets, with a single rate. The idea is backed by many Republicans, who argue that it will boost the efficiency (growth) of the economy, while still generating enough revenue for the government. Conservatives emphasize the tendency of people -- including the rich -- to avoid taxes as marginal tax rates go up. Liberal critics of a flat tax say the people with higher incomes should pay at higher rates.

Value-added tax. This tax, like a national sales tax, draws its name from the concept of taxing goods and services as they are produced (as value is being added at various stages of production). Proponents say its relatively simple to administer. Adjustments, such as rebates for low-income families, can prevent it from falling disproportionately on the bottom end of the income scale. Where some fans see the VAT as a substitute for the income tax, many Democrats view it as a possible add-on to the existing system -- a new source of revenue without raising income-tax rates.

FairTax. The so-called FairTax would replace the income tax with a national sales tax on goods and services. The government would pay monthly rebates -- based on family size, not income -- to cover the cost of the tax up to the poverty level. Proponents say it would be fairer, less complicated, and better for the economy. As one proponent (author Ken Hoagland) puts it, instead of taxing "what goes into our economy -- work, savings, and investment" – taxes are taken from what comes out, consumption.

Fundamental reform of the existing system. This could include eliminating many deductions from taxable income, even ones that millions of people may consider as American as apple pie (the deductions for mortgage interest and charitable giving, for instance).

One final thought: Whatever the answer on taxes, America also has to address the other side of the fiscal-policy coin: spending. Democrats as well as Republicans agree that some curbs on the growth of spending will be needed. Various groups differ mainly on how to do it, and on whether more tax revenue is also needed.


Also in Tax Day 101:

Part 1: Top mistakes to avoid on your tax return

Part 2: Who pays no income taxes on April 15?


Part 4: How is the tax code changing under Obama?


Part 6: How some millionaires can owe no taxes




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