Aug 31 2009, 2:33PM
The Case Against Means Testing
Adam Schaeffer of the Cato Institute manages the fairly impressive feat of beating up on me in a blog post (I am an "ingrate," along with Matt Yglesias and Felix Salmon) without mentioning or responding to the argument I was actually making. So hey, let me just go ahead and make it again: The tax code's definition of a charity is too broad. Do you disagree, Adam?
Still, the separate question Schlaeffer asks is an interesting one: "Why shouldn't we charge rich parents tuition to attend public schools? If a charitable deduction for private schools is so bad, why isn't a free public education even worse?" So let me take a crack at it.
In general, means testing public services is a good idea, for obvious reasons. A concept of justice that said, "everyone gets the same amount, regardless of how much they need or deserve" would not be a very convincing concept indeed. But the case for means testing is often overstated and sometimes treated as gospel. And I can think of five reasons why it shouldn't be:
1. Means testing creates some inefficiencies. Deciding to make some government service contingent on one's demonstrated need requires creating some administrative mechanism for measuring need. This is costly and difficult. It is also (as I'm sure I don't need to tell the good people of Cato) potentially incentive-distorting: limiting a public service to people below a certain income should, at the margin, reduce the incentive to rise above that income.
2. Means testing can reduce the political support for a service. This isn't that complicated. If a service is provided to everyone in the United States, then everyone in the United States has some incentive to support it. If a service is provided to only the neediest individuals, then not everyone has an incentive to support it. (As an historical matter, my understanding is that this is one reason why social security benefits are not means tested.)
3. Means testing can reduce the quality of a service. This is related to #2. If not everyone in a given community benefits from a service, then the community will be less inclined to offer a robust form of that service. (And I think both #2 and #3 are exacerbated by the fact that the individuals most in need of public services tend to have the least political power.)
4. Means testing can create stigma, since it identifies some people as needy. (That might sound a bit hoity-toity, but I think it would be important in the context of a public education.)
5. Means testing can be immoral. Some benefits of citizenship are thought of as rights -- things to which we are entitled regardless of expected benefit or demonstrated need. No one, for instance, has recently suggested that voting should be means-tested.
A few things.
First, parents who pay for private k-12 school also pay for public schools via property taxes; as do all people who never have children.
Second, kids who eat free/reduced meals at schools, and more and more, it's two meals a day, not one, are fully aware they're means tested and that it sets them apart from more affluent students. But that's small potatoes class difference; iPods, shoes, cars, pocket change, phone. . . all the signals of where you fit set you apart if you're poor enough to qualify for a meal subsidy at school.
But I do agree; private-school donations should be taxed; even if it's at a lower rate. Tuition should be taxed, as well, particularly if its above a base-line level.
I don't see you replying to his points:
without mentioning or responding to the argument I was actually making.
Sometimes arguments are so self evidently weak that you don't need to bother. You can safely assume that promulgator will eventually grow up and see its fallacy.
I have such a love/hate relationship with these kinds of topics. Nothing teases out more fallacious arguments on both sides than a subject that covers so many topics. We get local taxes, charitiable giving, public/private schools, class-anxiety, teacher unions AND government bureaucracies all in one topic! The discussion this stuff generates is a great illustration of the axiom about all problems looking like nails when your only tool is a hammer.
Here's how I see this nail:
There is a big problem here that non-profit status confers many kinds of tax exemption to entities that receive it (obviously not exemption from all taxes - and I believe non-profits do receive different status from charities). They're exempt from income, property and excise taxes. On top of that, much of the payments they receive is tax exempt for their customers.
This whole discussion has taken three things for granted:
1. Everyone understands what they mean by 'resources'
2. That by 'tax private school tuition' people mean to subject it to some kind of excise tax. Do they really mean that - or do they just mean that private schools should be subject to the same sorts of income and property taxes a for-profit private school would have to pay? I was not under the impression that non-college/university private school tuition was not tax-deductable in the first place. Only donations made outside of tuition were tax-deductable.
3. That the only possible way for governments to deal with non-profits and charities is to offer the same tax exemption to all.
Matt is especially guilty of assuming everyone will take 'resources' the same way. I think he means 'resources OTHER than the income taxes that would have been generated by income taxes on donations made by donors AND business income or sales and use taxes levied on private school tuition'. I think he means the non-financial resources of middle- and upper-class students and their parents being in the classes and involved in the schools firstly and the property taxes that would be levied on private schools if they didn't have tax-exempt status secondly. But how do I know - he never says. if that's the case, the main arguments made by Mr. Schaeffer and most commentors on Conor's post and the previous moot. They're arguing a different topic completely.
The third point is under-discussed in my opinion. Maybe it's too much of a third rail of taxation (because of the religious and bureaucratic implications) to say that maybe we need to have a better system of defining non-profits and charities plus come up with a few more categories that confer different tax advantages provided the entities meet the necessary criteria. You're attempting to take this on, Conor, but it seems none of your commentors or even Schlaeffer seem interested in engaging in this discussion.
I think we need a designation of non-profit that allows an entity to be exempt from income and sales taxes but would not confer any tax benefit to any of its revenues (be they donations or transactions) or exemption from property taxes in a way different from local businesses. This could be a catchall for entities that don't directly provide religious or charitable services at a certain percentage of their annual spending. Yes it would be a bit messy and subject to several of the meas-testing problems you've brought up in the first place.
To me it's much better than Obama's suggestion of capping charitable contribution tax deductions.
I think we need a designation of non-profit that allows an entity to be exempt from income and sales taxes but would not confer any tax benefit to any of its revenues (be they donations or transactions) or exemption from property taxes in a way different from local businesses.
How can you be exempt from income tax but not receive a tax benefit on your revenues?
All 501(c)(3) public charities (the kind offering maximum deductibiliy) are required to use their funds "exclusively" for a charitable purpose. Certain organizations, like Hospitals (that charge fees), schools (that charge tuition) and political action committees, that do not expend funds exclusively for a charitable purpose may still be exempt from income tax, but do not offer deductibility of charitable contributions.
Property tax is a local affair and exemptions are granted by local officers.
You do, in effect, when the people giving you the revenue get a tax deduction for giving it, it allows the donor to increase the value of their donation by the amount of income tax they would have otherwise had to pay.
The private school gets that benefit on direct donations (since they're tax-deductible) but not on it's tuition (since it's a taxable transaction fee). I am suggesting we go one step further and make a designation where neither are tax deductible. My issue is that 'charitable' purpose (as Conor and Matt have argued extensively elsewhere) are far too broadly construed to involve anything they wish such organizations spend it on.
Most local governments automatically confer property tax-exemption on any non-profit. Ostensibly because they want to give churches and true charities such exemptions but have to choose between taking all 501(c)(3)s or none lest they be subject to lawsuits over church/state separation issues.
If separate Federal categories existed, they'd have more options about how to treat them for tax purposes. I mention local businesses expressly because I know property taxation differs from state to state. Where I grew up, all businesses were exempt from many property taxes in the first place (in favor if insanely high corporate income taxes), so the taxation of a large non-charitable non-profit were not really much of an issue. That is probably not the case in all locations.