Donald Trump has once again stirred the debate on tax policy, recently advocating for eliminating income tax and returning to a tariff-based revenue system.
“We’re going back to the old days. No income tax, just tariffs. It worked before, and it’ll work again,” Trump said during a January 25 event in Las Vegas, Nevada. He emphasized his point by adding, “The IRS is a disaster. We don’t need it. Tariffs will fund everything we need and more.”
The remarks, which come not long after a Republican lawmaker separately proposed to abolish the IRS and rewrite that tax code, reignited discussions about fundamental changes to the U.S. tax system. (It’s worth noting that critics argue that heavy reliance on tariffs could lead to trade wars, increased consumer prices, and potential economic instability.)
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The idea of abolishing income tax isn’t new, but Trump’s has thrust it into the spotlight, just as the U.S. faces the expiration of the Tax Cuts and Jobs Act (TCJA, aka “Trump tax cuts”) at the end of this year.
It also comes as the new Trump administration has unleashed a flurry of executive orders that could significantly impact the functioning of federal agencies, including the IRS.
So, what does all of this mean for you? Here’s more to know.
Tariffs over income tax?
The concept of relying primarily on tariffs for federal revenue dates back to the early days of the United States (more than 150 years ago), when customs duties were the government’s primary source of income. (The U.S. income tax was implemented in 1913.)
Trump argues that eliminating income tax would simplify the tax code, reduce taxpayers’ burdens, and stimulate economic growth. He contends a tariff-based system would protect American industries and create a more level playing field in international trade.
However, the feasibility of a tariff-only revenue system in today’s economy is questionable. Some economists warn that transitioning to such a system would be incredibly disruptive.
- The federal government relies heavily on income tax revenue, and replacing it entirely with tariffs would require a massive overhaul of the U.S. fiscal structure.
- Massive tariff hikes could potentially violate international trade agreements and spark retaliatory measures from trading partners.
- And let’s not forget: U.S. consumers will likely bear the brunt of the tariffs through increased costs on numerous products.
Interestingly, Trump’s comments align with recent legislative proposals, like the Fair Tax Act reintroduced by Rep. Buddy Carter (R-GA).
As Kiplinger has reported, that bill proposes replacing the current tax code with a national consumption tax and eliminating the IRS.
What about abolishing the IRS tax agency?
Regarding getting rid of the IRS, Rep. Carter has stated, “The Fair Tax is exactly that – fair. It is the only tax proposal out there that is pro-growth, simple, and allows Americans to keep every cent of their hard-earned money while eliminating the need for the IRS altogether.”
While not identical to Trump’s tariff-focused plan, the Fair Tax Act also proposes eliminating income tax. Some Republican representatives support the Fair Tax Act, arguing it would simplify tax administration and allow U.S. taxpayers to keep more of their earnings.
- Critics of the Fair Tax Act and similar proposals warn that a consumption-based tax system could disproportionately burden lower-income households and potentially widen wealth inequality.
- They argue that such a system might be regressive since families with lower incomes typically spend more on consumable goods.
Meanwhile, Trump has floated the idea of a second tax agency, the so-called “ERS or External Revenue Service,” that he says would handle tariff revenue.
The debate over these radical tax proposals is set against impending tax changes. With key provisions of the TCJA set to expire at the end of 2025, lawmakers face increasing pressure to address the future of U.S. tax policy.
And if that weren’t enough, a flurry of newly signed executive orders is throwing a wrench into the mix.
Trump freezes federal aid and hiring
For example, the White House Office of Management and Budget (OMB) just issued a memo attempting all federal grants and loans, effective January 28, 2025. While not directly targeting taxes, this unexpected and sweeping move could significantly affect the tax landscape and many programs and activities that rely on federal aid.
However, just before the freeze on government grants and loans was to take effect, a federal judge paused its implementation until February 3.
Still, the memo is in addition to executive orders already issued freezing federal hiring for 90 days (indefinitely for the IRS), requiring many federal workers to return to the office, and changing processes for reclassifying federal workers.
Key points of the memo:
- Halts distribution of federal financial assistance
- Excludes Social Security, Medicare, and Medicaid benefits
- Federal agencies would have to report on affected programs by February 10, 2025
Note: This is a developing situation, so the key aspects of the memo are as of Jan. 28 and now impacted by the federal judge’s order.
Potential tax impacts of such a freeze:
- IRS Operations: A hiring freeze at the IRS could slow tax return processing and impact customer service.
- Tax Credits: Uncertainty around grant-supported tax credit programs, especially in clean energy and electric vehicles.
- Tax Guidance: Possible delays in issuing guidance on recent tax law changes.
- Program Changes: Tax-related federal programs could be affected, potentially altering available incentives and credits.
Notably, the memo doesn’t specify an end date for this “temporary” pause, which added another layer of uncertainty.
Acting OMB director, Matthew Vaeth, wrote the following in the memorandum as a rationale for implementing the federal grants pause.
“Financial assistance should be dedicated to advancing Administration priorities, focusing taxpayer dollars to advance a stronger and safer America, eliminating the financial burden of inflation for citizens, unleashing American energy and manufacturing, ending ‘wokeness’ and the weaponization of government, promoting efficiency in government, and Making America Healthy Again.”
While Trump’s vision of a tariff-based system and similar ideas like the Fair Tax Act proposal may seem attractive to some, implementing such drastic changes (which require congressional approval) would be complex and challenging, to say the least.
But stay informed and engaged as tax discussions unfold. The decisions Congress and the White House make in the coming days, months and years will have far-reaching implications for individual taxpayers, businesses, and the economy.
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