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Posted: April 10, 2009

The exponential nature of complexity

Why the income tax system will collapse

Thomas Frey

It can be argued that all major civilizations have collapsed under the weight of unsustainable levels of complexity. In major civilizations such as the Egyptian, Greek or Roman empires, as well as in smaller civilizations like the Mayan Indians and Mesopotamia, each had reached a point where an all-powerful bureaucracy building an ever increasing number of rules simply overloaded the administrator’s ability to comply with them, and the systems collapsed.
 
As complexity increases, the cost of managing the complexity increases at an exponential rate until the system finally collapses.

Modern technology has given us the ability to manage systems that are far more complex. And following a similar curve to Moore’s Law, our ability to automate has kept up with our ability to complicate. However, the breaking point will not be the automated systems. Rather, the breaking point will be the human interface and the exacting toll that the income tax system has placed on people to comply.

The government lacks a checks-and-balance system to mitigate complexity.

We are on a slippery slope. As complexity of a system increases, the costs associated with it increase exponentially to the point where the costs approach infinity, and collapse is a certainty.

Triggers vs. the Black Swan

In Nassim Nicholas Taleb’s 2007 book The Black Swan, he refers to a large-impact, improbable and rare event “black swans.” In the work I do as a futurist, I look carefully for what I call “triggers” – incidents that precipitate major change.

The key difference is that anticipating a black swan event, by definition, is not possible. Usually after it occurs, it is rationalized in hindsight. Triggers, on the other hand, can be envisioned with foresight.

Whether people are blindsided by massive changes to our taxes like a black swan event or whether there are very clear, predictable triggers, the fact remains change is inevitable. We are on the verge of a breakdown and adoption of a very different system to replace our current tax code.

Here are some possible triggers:

1. Political Trigger 1: During the confirmation process, several Obama political appointees were either dropped from consideration or had their reputation tarnished because of past tax issues. Tax problems have become common enough that the government will be compelled to make changes, if simply to avoid the routine political embarrassment. Obama could not be blamed if some future flare that sends him out of the White House becomes the catalyst for a special commission tasked to  bring about change.
 
2. Political Trigger 2: With plans for a national health care system and funding for education reform hanging on the government’s ability to pay for them, a new tax system emerges from these massive efforts to pay for these programs.

3. Technology Trigger: A new automated tax structure is created that makes tax collection seamless and invisible to the general public.
 
4. Individual State Trigger: Currently seven states in the U.S. do not have state income tax. Some states like Wyoming and Alaska have huge income streams from their natural resources. Other states are supported by higher property taxes and other tax levies. A modified individual state tax system could become the model for the new national system.
 
5. Budget Crisis Trigger: Because of the extreme debt load created by recent stimulus packages, the government has to scrape for more money. Ultimately, government is forced to rethink the tax system to prevent national insolvency.
 
6. Wealthy Individual Trigger: A wealthy individual files a well-publicized lawsuit against the IRS. The plaintiff’s lawyers note that their client, who is of far-above-average intelligence and armed with extraordinary resources, is simply no match for the complexity of the tax code and cannot be reasonably expected to comply with the law by completing a 1040. The lawsuit places all concerned with the administration of the IRS in the indefensible position of having to explain the tax code. Good luck on that one, IRS. The day is won with unassailable logic: Inability to determine what to pay out in taxes is persuasive and the U.S. Supreme Court hands down a decision to abolish the system.
 
7. Class Action Trigger:  A group of some 200 of the largest tax payers file a class action lawsuit against the U.S. government for a number of competitive impairment issues. The lawsuit triggers a national debate between politicians and the wealthiest individuals in the country. The government settles out of court, agreeing to throw out the entire system and start over.
 
8. Federal Reserve Recommendation: Ben Bernanke issues a strong recommendation to replace the existing tax code based on what the Federal Reserve Board views as broad ranging problems inside the national monetary system. The too-big to fail argument is ushered to the fore on behalf of the monetary system. End of story.

A history of collapsing income tax systems

While the concept of taxes has been around since ancient times, the idea of a formalized income tax has not. The first income tax in the United States was signed into law in 1862 by President Lincoln to help pay for Civil War expenses. But the amount was relatively small and during this time 90 percent of all revenues came from taxes on liquor, beer, wine and tobacco. Still, opposition arose and income tax laws were repealed in 1872.

In 1894 the Wilson Tariff Act revived the income tax and an income tax division within the Bureau of Internal Revenue was created. Again a firestorm of protest arose and the Supreme Court ruled the new income tax unconstitutional. The income tax division was disbanded.

Today’s income tax has its roots in the 16th Amendment to the Constitution, ratified in 1913. The amendment stated, “Congress shall have the power to lay and collect taxes on incomes, from whatever source derived, without apportionment among the several states, and without regard to any census or enumeration.” Later, Congress adopted a 1 percent tax on net personal income of more than $3,000 with a surtax of 6 percent on incomes of more than $500,000. This is when the first 1040 Form was introduced.

The competitive edge

Competition in the global marketplace is fierce. For any one country to maintain the lead, the systems within which it operates must aspire to higher and higher levels of efficiencies.

Every single purchase made in the U.S. is a tax point decision. Every time people buy a loaf of bread, pack of gum or put gas into their cars they have to make a decision – is this deductible or is this not? There are literally over a trillion transactions made each year. And each one of these decisions is a judgment call.

This also means that people have to maintain records to bolster support for their decisions. In other words, over a trillion pieces of documentation have to be produced annually just in case some of the items might be tax deductible. And these records have to be saved for at least five years, often much longer.

To put this in perspective, the taxes paid into the government each year are based on over a trillion judgment calls by people interpreting their understanding of a tax code consisting of several thousand pages of paper that they have never personally read… or care to read.

With staggering levels of detail required to support this system, one has to ask the questions: Why do we care? And why is this important?

Change does not happen because everyone gets together first and decides a change is going to happen. Momentum will build quickly around a single event or thought leader. When the general public senses that the end is near, an overwhelming flood of support will rapidly hasten its demise.

Click here to read the first installment of this article, "A tax system Armageddon is near."

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Thomas Frey is the executive director and senior futurist at the DaVinci Institute and currently Google’s top-rated futurist speaker.  At the Institute, he has developed original research studies, enabling him to speak on unusual topics, translating trends into unique opportunities. Tom continually pushes the envelope of understanding, creating fascinating images of the world to come.  His talks on futurist topics have captivated people ranging from high level of government officials to executives in Fortune 500 companies including NASA, IBM, AT&T, Hewlett-Packard, Unilever, GE, Blackmont Capital, Lucent Technologies, First Data, Boeing, Ford Motor Company, Qwest, Allied Signal, Hunter Douglas, Direct TV, Capital One, National Association of Federal Credit Unions, STAMATS, Bell Canada, American Chemical Society, Times of India, Leaders in Dubai, and many more. Before launching the DaVinci Institute, Tom spent 15 years at IBM as an engineer and designer where he received over 270 awards, more than any other IBM engineer.

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