Invisible Taxes: The Government Dirty Secret

When it comes to tax reform, before we can appreciate what proposed changes will mean to us, it is important to understand the current system. Under the current system, most employees of low or moderate income pay very little income tax, if any, but they do give up huge percentages of their earnings in Social Security and Medicare taxes – often bankrolled with money that they never hold in their hands thus not realizing that it is their hard earned cash.

Everybody grumbles about the taxes they see themselves paying, but very few have anything to say about the invisible taxes. Those are the taxes we are paying. However, nobody tells us we’re paying them. Often voters are apathetic about the tax payments that they perceive as the burden of somebody else, but if they were forced to write the check out of their personal account for the amount that comes out of their pay, they might be ready to stand up and rebel!

Payroll taxes in the United States are one of the biggest reasons why ordinary people find it difficult to gain employment because just the mechanism of withholding is so daunting that small businesses cannot afford it. Sometimes they have enough money to hire an extra employee, but not enough to cover the payroll tax. For large corporations, however, putting up with the withholding of employee earnings is just one of the many prices of doing business in the United States. Even though it is a pain, they are happy to pass on the price of this bureaucratic duty to the ultimate consumer. Thanks to payroll taxes, the average citizen pays for the Federal government twice: once in reduced earnings, and a second in a higher cost of goods and services.

By enacting withholding laws and invisible taxes, the Federal government has recruited large businesses to act as tax collectors, and they have hidden from the average citizen just how very much our income is being taxed.

FICA and FUTA

For those who have ever employed other people in a business of any size in the United States, the words FICA and FUTA represent an accounting nightmare. For CPAs, it may be their bread and butter. We have to remember that in addition to government bureaucrats, who live directly off of taxation, there are also many people in private business who serve those required to pay the tax. Those same people help them with the onerous burden of allocating funds from an employee’s pay to any number of taxing schemes thus the employee himself is almost entirely unaware of. Those accountants might, in a free market, have made other more valuable contributions to the economy. In our current system, they too are a burden that employees and consumers are forced to carry with no benefit to themselves.

FICA stands for Federal Insurance Contributions Act, and it is imposed partly on employers and employees, though its overall effect is to reduce income available to the employee. This tax funds Social Security benefits, although the amount paid by an individual employee under FICA fund have a very tenuous and circuitous connection to the benefits that he or she may be entitled to upon retirement. Seventy-five percent of all taxpayers pay more in payroll taxes than income tax! For those at or near the poverty level, all the taxes they pay are payroll taxes. Consequently, the poorest of the poor, those who may be receiving government benefits, are the ones who suffer the most from this kind of taxation, which is highly regressive.

FICA’s social security portion is contributed roughly 6.2% out of the employee’s nominal income and 6.2% out of funds belonging to the employer so that employees only see about half of what they are paying into it on their pay stub. There is also 2.9 % that goes to cover Medicare tax that is part of FICA so that all in all 15.3% of earned income of the poorest of the poor is taken off the top to pay the Federal government. Most of the people whose entire income is subject to this tax do not really understand that this has been done to them, and it is only when a person is self-employed and has to pay the entire sum out of his pocket that the enormity of the theft is made clear.

FUTA is the Federal unemployment tax. It is imposed only on the employer but consists of yet another 6% of the employees income, but is complicated by the fact that contributions to state unemployment programs can reduce the tax for any given employer.

For a rough understanding of how both the FICA and FUTA programs affect how much employers pay employees, here is an example: for every one hundred dollars spent by an employer on an employee, and before withholding any taxes, the employee gets to keep less than eighty-three dollars because what should have been theirs has been tapped at the source. The employee sees a smaller income to begin with and because of the employer contributions to the Federal taxes are so carefully hidden from view, employees never get angry about the FICA and FUTA taxes. They never clamor for the repeal of the social security tax, because they mistakenly believe that they are not paying it. That is the secret that lies in plain view.

Invisible taxes are part of the way that our rulers keep us complacent. In an economy where most workers are employees rather than independent contractors and small business owners, this works. But the very mechanism that the Federal government depends on to blind us to taxes is the same mechanism that will eventually destroy our ability to find jobs. The system is inherently unstable.

Proposed Tax Reform

One proposed sweeping reform of the US tax system is the Fair Tax, championed by Libertarian Party Presidential nominee Governor Gary Johnson. Under the Fair Tax, Federal income and payroll taxes would be repealed, to be replaced by a 23% consumption tax on all goods and services in the United States. There are many precautions concerning this proposal, and it requires scrutiny to ensure that it will leave us and our economy better off in the long run. But one important point is that whatever the tax is, it should be perfectly visible to the taxpayer.

Many countries have what is called a VAT – value added tax. In those jurisdictions, instead of having the sales tax calculated after the total of goods bought is arrived at, each item for sale in a store already has the tax calculated into it. That way, when people buy an item, they have no idea how much goes to the retailer and how much is sent directly to the government. Because they do not know, the tax does not anger the consumer, and instead of lobbying for lower taxes, they keep asking for a cost of living raise, to cover the taxes. The cost of living raises cause inflation, and they ultimately devalue savings, bilking the elderly.

When they come to the United States, people from such jurisdictions are amazed at how much less expensive everything is in the stores. Some tout free enterprise as the reason. But a simpler explanation is this: no Value Added Tax.

Invisible taxes are one way the government keeps us ignorant, docile and compliant. Whatever tax reform we do eventually adopt, it should not allow for any taxes except those that are perfectly visible.

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  • It would be much easier if sales tax were eliminated. I am not sure how families can afford to buy food and school supplies with the price of the housing market here. In addition, there is also a high tax rate in California on purhcases.

    • Aya Katz

      I think all taxes should be eliminated, including sales tax. But for this to happen, people need to understand that they are paying this price — not somebody else. Too many naive taxpayers will tell you they are happy to pay taxes because it earns them benefits from the government. They do not understand that if the taxes were not paid, they could give themselves those benefits and more!