The Hidden Costs of Taxes

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The Hidden Costs of Taxes

by Ari Armstrong, April 1999

The amount of income a person pays in taxes is fairly obvious, even though politicians have done much to disguise the overall tax rate by imposing a myriad of separate taxes, mandating withholdings, borrowing, inflating the money supply, and so forth. The tax system also imposes numerous costs that are less obvious but just as destructive. Here I detail some of the more significant hidden costs.

The Tax Code Induces a General State of Anxiety

Not even IRS agents understand the modern tax code. Even if an individual complies with the letter of the law, he or she may still be audited and subjected to the arbitrary power of the IRS. Much of the tax code is subjective -- you're guilty of a violation if the IRS says you're guilty. What does that say about American culture, that the common person is afraid of the government?

Much of the fear about taxes could be reduced if the modern code were replaced with a much simpler tax, one that didn't attempt social engineering, one that everybody could understand.

Taxes Encourage Frivolous Spending

Business expenses reduce the level of taxable income. Thus, marginal business purchases become more attractive because of their impact on taxes. The result is that businesses buy things they don't really need.

Any sort of income tax will encourage frivolity. A sales tax would create the opposite problem: the discouragement of purchasing. The best, most productive levels of spending and investment can only be determined in a free market. Taxes move behavior away from productivity, toward wastefulness.

Taxes Push Labor into Leisure and the Underground

If you earn a dollar, you get to keep about 50 cents. At some point, working more doesn't making sense. Some enjoy more leisure. Others work in the underground economy, thus creating a bifurcated society.

Taxes Foster Dependence

To experience independence, one must be able to choose how to spend the fruits of one's labor. Taxes take choice away from individuals and give it to politicians and bureaucrats. We become as children, incapable of living our own lives, able only to follow orders. Actually that analogy gives too much credit to taxation, for children grow into responsible adults, whereas taxation reduces adults to dependency. Taxpayers are obedient or beaten, always begging for another scrap. Only taxpayers create the wealth that the government confiscates and then doles back out.

If being human means anything, it means using one's mind to make decisions. Taxes rob the individual of choice.

Taxation Strains Morality

Taxes encourage people to blur the distinctions between business expenses and personal expenses. Eye-winking and re-defining terms become common. (It depends on what your definition of "business expense," is.)

Taxes also turn most people into plunderers. When the government takes around half of everyone's wealth, it's difficult to avoid taking government assistance all the time. Taxation is pervasive, mutual plunder. It turns self-reliance into mutual dependence. It stamps out voluntarism and makes force a way of life.

Taxation Weakens the Division of Labor

Why do people trade goods and services? Why doesn't everyone independently produce what he or she wants and needs? The obvious answer is that as individuals we don't have the time or ability to learn all the skills necessary to produce the goods and services we use. The more subtle but more important answer is that comparative advantage permits us to divide labor and produce more collectively than we could working only for ourselves.

There was some disagreement about the nature of comparative advantage at the March Austrian Economics Study Group, so perhaps an example would serve to demonstrate the nature and importance of the phenomenon. Let us say that Abe and Bert are stranded on an island. Abe is able to forage for 16 cups of berries in a day or catch 10 fish in a day. Bert is only able to forage for 10 cups of berries in a day or catch 2 fish in a day. Abe, then, has the absolute advantage in both foraging for berries and catching fish, relative to Bert. But it's still in Abe's interests to trade with Bert.

Let us suppose that both Abe and Bert at first work only for themselves and divide their time equally between foraging for berries and catching fish. That way, they will eat both Vitamin C and protein. Together, Abe and Bert collect 13 cups of berries and catch 6 fish. But then Bert gets smart and notices that, though Abe is a little better at foraging than catching fish, Bert is a lot better at foraging than he is at catching fish. Bert has a comparative advantage in foraging for berries. Thus, it's in Bert's interests to spend all of his time foraging for berries. Abe can catch 6 fish in three-fifths of a day, which leaves him two-fifths of a day in which he can still forage for over 6 cups of berries. Thus, collectively, Abe and Bert can now produce 16 cups of berries and 6 fish. Abe can trade a fish for three cups of berries, which gives Abe over 9 cups of berries and 5 fish, while Bert keeps 7 cups of berries and gets a fish. Both are better off.

What does this have to do with taxes? The work a person does for him or herself is not taxed. The work a person does for purposes of trade (which means, for money) is taxed. Thus, the tax code encourages people to do more work for themselves, which reduces the division of labor and makes the economy as a whole less prosperous. Instead of working more and hiring a mechanic, a person will take time off to fix the car. Instead of hiring a painter, a person will do the work alone. Everything from raising food to printing advertisements can offset the tax burden. While this reduces the damage done by taxes to the individual, it does so at the expense of full economic prosperity.

The socialist system of taxation is profoundly anti-social, then, while capitalism is the true system of social harmony and prosperity. But this should not seem paradoxical: socialism relies on the force of the State, whereas capitalism operates by the voluntaristic interactions of individuals.

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