Hoover Daily Report

Where the Flat Tax Goes from Here

Monday, May 27, 2002

In 1981 Robert Hall and I proposed a comprehensive 19 percent flat tax to replace the U.S. personal and corporate income taxes. The idea resulted in numerous congressional bills during the 1980s. It underpinned President Reagan's Tax Reform Act of 1986, which resulted in two rates, 15 and 28 percent, down from a top rate of 70 percent when Reagan took office in 1981. In 1992 presidential candidate Jerry Brown, followed by Steve Forbes in 1996, reinvigorated the flat tax. Congressional Republican leaders chimed in with their support. Nonetheless, since 1991, the U.S. tax code has regressed; three new higher rates were added, with the top rate increased from 28.0 to 39.6 percent.

Despite regression in the United States, the flat tax has been successful in several new countries that emerged from the breakup of the Soviet Union. Estonia enacted a 26 percent flat tax beginning in 1994. Latvia followed suit with a 25 percent flat tax in 1995.

The biggest flat tax success story comes from Russia. In 2001 a 13 percent flat tax took effect, replacing three brackets with a top rate of 30 percent. The new code improved incentives and compliance. In 2001 revenue increased 28 percent in real, inflation-adjusted terms. Effective January 1, 2002, the government reduced the corporate rate from 35 to 24 percent and recently proposed a major reform for small business enterprises (SBEs). SBEs with no more than twenty employees and turnover below $320,000 will be able to pay the lesser of a flat 20 percent tax on profits or a flat 8 percent tax on revenues. SBEs will be exempt from value-added tax, sales tax, property tax, and social insurance tax. Other former Soviet bloc countries may follow in Russia's footsteps.

In April 2002 Singapore proposed a major restructuring of its tax system. The centerpiece is a reduction in corporate and personal income tax rates. In the next three years, corporate rates will fall from 24.5 to 20.0 percent, and the top personal income tax rate, from 26 to 20 percent. With this measure, Singapore extends a process of marginal tax-rate reductions that cut the top personal rate from a high of 55 percent in 1961 to 40 percent in 1978, 34 percent in 1980, 30 percent in 1982, and 26 percent in 1985. During this period, the threshold at which the top rate bites increased from S$90,000 to S$750,000 (US$1=S$1.80).

To fill out the story, Hong Kong maintains a flat tax of 15 percent on personal income. The Channel Islands of Jersey and Guernsey impose a 20 percent flat tax. The Freedom Party in Austria proposed a flat tax during the 1999 national election and became part of Austria's governing coalition for the first time in modern history. Other European parties are considering the flat tax in their economic platforms.

All in all, the flat tax is alive and well overseas. Now if only in the United States!