Tax Simplification through Cumulative Averaging

Abstract

Complications in the enactment and administration of income tax laws as they generally exist at present arise very largely from the need to answer four types of questions: (x) Is it income? (2) Whose income is it? (3) What kind of income is it? and (4) When is it income? A surprisingly large proportion of the questions that arise and generate involuted legislation and complicated administrative rulings have to do with the last two of these questions, questions which essentially have little to do with the basic philosophy of the income tax, and which fundamentally should be irrelevant to the assessment of a properly designed income tax. The question as to the kind of income that an item represents has to do very largely with the special favors extended to income designated as capital gains. This is not the place to attempt to answer all of the varied and intricate specious arguments advanced in favor of such special treatment.1 Suffice it here to say that the one argument that has some semblance of substance in the context of a general income tax assessed annually at progressive rates, to wit, that gains accumulated over a long period and realized in a single year may subject the taxpayer to unreasonably high bracket rates if no allowance is made, is largely vitiated as soon as there is available an adequate averaging of income, so that the effective rate ultimately depends not on the income of a single year but on the general level of income over a period of several years. The difficulty heretofore with such averaging devices has been that either they were not fully effective in overcoming the disadvantages of lumpy income, or they required extensive record keeping, or fairly elaborate computations, or gave undesirably capricious results in special cases. Cumulative averaging, or perhaps more descriptively, cumulative assessment, is a method of averaging that is at once simple, complete, and free from capricious impacts, and its adoption should completely overcome whatever rational hesitation there may be to the elimination of capital gains as a special category of income, allowing receipts in this form to be treated on the same basis as any other.2 The question as to when an item is income is one that in the long run has little if anything to do with a taxpayer's over-all ability to pay, and in any properly designed tax should be a matter in which neither the taxpayer nor the Treasury should have any substantial interest. The fact that under the present law the timing of income