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Problems with the Fair Tax Proposal:

Economist Bruce Bartlett has recently published an excellent article debunking the "Fair Tax," a proposal to replace the federal income tax with a 23% sales tax that has been endorsed by Republican presidential candidate Mike Huckabee and a few other conservatives. As Bartlett explains, some prominent Fair Tax supporters falsely claim that it is what he calls a "double free lunch." Against both empirical evidence and basic economic theory, they claim that people will get to keep all the money they would now pay as income tax without experiencing any increase in the prices of goods and services they purchase (even though the latter would now have a hefty new sales tax attached to them).

In addition to Bartlett's many well-taken objections, there is another serious problem with the Fair Tax and other schemes to replace income taxation with sales taxes: they makes the true cost of government less visible to voters. For all its flaws, the income tax system at least gives taxpayers a fairly clear indication of what their total income tax liability is: every April you have to calculate it, or hire an accountant to do it for you. In a sales tax system, by contrast, you don't really know how much money you're paying the federal government in all. To be sure, you can calculate the amount by keeping close track of all your purchases and then multiplying by 0.23 at the end of the year (assuming the proposed Fair Tax rate of 23% is the one enacted). However, given that most voters are "rationally ignorant" and have little incentive to keep close tabs on government policy, it's unlikely that many will do so. Moreover, as Bartlett explains, Fair Tax supporters intend to supplement their basic proposal with a complex system of rebates that would make the total tax burden even more difficult to calculate. The net result of the Fair Tax would be to make the true cost of government less visible to voters. That, I would argue, has been one of the effects of the somewhat similar value added tax (VAT) by which many European countries raise a large part of their revenue.

I'm not suggesting that this effect is Huckabee's objective or that of other Fair Tax supporters. The libertarian in me is a bit suspicious of Huckabee's motives, given his simultaneous support for high levels of government spending and "nanny state" regulation. A political leader with Huckabee's views has an obvious interest in establishing a tax system that would reduce public awareness of the costs of the many government programs he advocates. However, I don't doubt that there are many people who support the Fair Tax in good faith, and perhaps Huckabee is one of them. Whatever their motives, however, the potential harm caused by the enactment of the Fair Tax is likely to exceed any benefits.

UPDATE: It's worth noting, as Bartlett points out in his article, that the 23% Fair Tax rate is misleading. If one were to calculate the FT tax rate the same way we normally describe income taxes and state sales taxes, the true FT rate would be about 30%. The 23% figure is arrived at by calculating the tax's percentage of the total price of a good, including the tax, as opposed to the conventional method of calculating the tax's percentage of the pretax price. If you want a more detailed explanation of this point, see Bartlett's article. For the purposes of this post, the bottom line is that the misleading way Fair Tax advocates calculate their proposed tax rate is likely to make it even more difficult for taxpayers to figure out how much they are actually paying to the government each year.

Crunchy Frog:
One salient point made by Roger Hedgecock, among others, is that unless the Fair Tax was paired with a repeal of the 16th Ammendment, all it would accomplish would be to add a sales tax on top of the pre-existing income tax. There is nothing to suggest that the hunger for tax dollars among the politicians is ever going to lessen.
12.29.2007 5:42pm
Apep (mail):
The Fair Tax would make taxation far more obvious to the many voters who do not pay income tax. Besides, a repeal of the 16th amendment would not put an end to the income tax since Pollock was overruled many years ago and it is easy to work around even if not.
12.29.2007 5:52pm
cirby (mail):
"Ddebunking" is a strong term for "a lot of people say it, but I won't actually quote them."

Things like:

FairTax advocates repeatedly claim that their proposal
would allow all workers to keep 100 percent of their
paychecks.


Which advocates, and how often do they make this claim? Can't actually say? Sorta puts your arguments on the uphill slope when you pull silly junior high debate club crap like that.

He also sticks with the "23 percent" number as hard as he can, when the Fair Tax folks I've talked to have repeatedly mentioned that the final percentage could be something completely different.

There's also the simplification of taxes issue, which would (under even conservative estimates) save tens of billions of dollars in bureaucracy costs every year, not to mention time and money spent on tax shelters.

Generally, not so much a "debunking" as a series of straw men and incomplete arguments. I'm not completely sold on the Fair Tax thing, but this article is nothing like a decent rebuttal.
12.29.2007 5:53pm
Elliot Reed (mail):
The FairTax proposal would impose a 30% sales tax, not a 23% sales tax. The 23% number comes from the fact that a 30% sales tax mathematically results in the tax being 23% of the total cost after tax. But sales taxes in this country are calculated as a percentage of the pre-tax price, not as a percentage of the total cost. The FairTax people picked the 23% figure because it allows them to mislead people about the size of the tax.
12.29.2007 5:58pm
Sean O'Hara (mail) (www):
I imagine there are lots of Dems rooting for Huckabee so they can portray him as out to screw the poor. And I don't think they'd be wrong to do so -- I can't imagine how a rebate system would work such that it doesn't take money away from poor people and make them jump through hoops to get it back.
12.29.2007 6:11pm
ChuckR:

The FairTax people picked the 23% figure because it allows them to mislead people about the size of the tax.

Elliot, that isn't true at all. It's quoted as 23% because it is proposed as a replacement for income taxes which are ALL quoted as inclusive rates. This makes it simpler to compare the fairtax rate to the current tax rates system (apples to apples).

Here, let me translate a few of the inclusive tax rates we currently pay:

FICA: 7.65% (inclusive), 8.3% (exclusive)
Long-term cap gains: 15% (inclusive), 17.7% (exclusive)
28% bracket: 28% (inclusive), 39% (exclusive)
35% bracket: 35% (inclusive), 54% (exclusive)

Now who's fudging the tax numbers to make their rate look lower?
12.29.2007 6:21pm
ChuckR:

I can't imagine how a rebate system would work such that it doesn't take money away from poor people and make them jump through hoops to get it back.

Sean, the "prebate" is the component of the fairtax that eliminates the regressiveness of the tax for the poor. And in keeping with making everything "fair," this prebate would be available to all tax payers.

It would be an opt-in system. Unless the family / head-of-household applied for it the prebate would not be sent.

Plus, somehow the Social Security administration gets tens of millions of checks sent out without too much trouble. Modernizing this with a debit card would make it even simpler and less prone to delay.
12.29.2007 6:25pm
ChuckR:

One salient point made by Roger Hedgecock, among others, is that unless the Fair Tax was paired with a repeal of the 16th Ammendment, all it would accomplish would be to add a sales tax on top of the pre-existing income tax.

The passage of the fairtax bill would likely be coupled with a "sunset" provision which would eliminate the fairtax as law if the 16th Amendment were not repealed within some reasonable time period. This criticism of the fairtax as law is pretty much a non-starter.
12.29.2007 6:26pm
ChuckR:
<blockquote>
One salient point made by Roger Hedgecock, among others, is that unless the Fair Tax was paired with a repeal of the 16th Ammendment, all it would accomplish would be to add a sales tax on top of the pre-existing income tax.
</blockquote>
The passage of the fairtax bill would likely be coupled with a "sunset" provision which would eliminate the fairtax as law if the 16th Amendment were not repealed within some reasonable time period. This criticism of the fairtax as law is pretty much a non-starter.
12.29.2007 6:27pm
Elliot Reed (mail):
I think a Huckabee candidacy is a great idea. As I Democrat, I think this country is in desperate need of another Goldwater.
12.29.2007 6:31pm
NI:
The libertarian in me would like to simultaneously abolish the income tax, not raise any other taxes to make up for it, and require the feds to balance the budget. In other words, drastically reducing government.

But since that has about as much likelihood of happening as I have of being elected President (and I'm not even running), if we have to have either a burdensome income tax or burdensome sales tax, I'll take the latter. Here's why:

A sales tax, paid on the spot and with no need for documentation sworn under penalty of perjury, would deprive the IRS of the ability to go snooping around in anyone's financial affairs that they take a fancy to snoop around in. There is a huge cost to liberty in having an income tax because the only way to enforce it is by giving the IRS carte blanche to make inquiry into everyone's income. Even as I understand the need for the government to have SOME revenue, I am deeply offended at the idea that in a supposedly free society there is no aspect of my financial affairs that is private.

That plus the amount of records a person has to keep to comply with the income tax laws is horrendous. I own a business; last year my federal income tax return was 36 pages and took me half a day (with the help of an expensive accountant) to complete. My business costs would drop by a quarter to a third if I didn't have to maintain records for the benefit of the IRS.
12.29.2007 6:32pm
Elliot Reed (mail):
Indeed, in comparing the FairTax to the income tax the 23% figure is slightly* more useful. But "X% of the total cost is tax" is not what people in this country understand the phrase "X% sales tax" to mean, so calling it a "23% sales tax" is severely misleading, to the point where I'd just call it a "lie".

*Much more useful is the percentage of their income people would pay net of prebate. That would go way down for high earners, and way up for the bulk of lower-income people, who currently pay nothing or less (thanks to the EITC) in income tax.
12.29.2007 6:41pm
Chaf:
Most anyone thinking about taxes is, of course, thinking first and foremost about his/her own tax burden. And in the context of one person's tax burden, it's pretty reasonable to quote inclusive rates on one side and exclusive rates on the other.

As an example, suppose John's total Federal income tax burden is currently 28%, inclusive. Suppose that we're looking at a "Fair" Tax rate of 23%, inclusive. Now, on the day the tax changes, let's assume that John's wages don't change (he has a $50k salary before and a $50k salary after), and the retailer's portion of the cost of goods and services doesn't change (in other words, retail prices increase by the exact amount of the tax - a $1.00 widget becomes a $1.30 widget). As far as John is concerned, his take-home pay has increased by 28%, and the cost of goods and services has increased by 30%.

A person can argue, quite reasonably, about other details like the ultimate disposition of the employer's FICA match, the actual impact on retail prices, and the like, but the fact is that when comparing an existing tax to a new one, the inclusive rate does best describe the savings from the elimination of the old tax, and the exclusive rate does best describe the burden of the new tax. It's only really fair to compare inclusive vs. inclusive or exclusive vs. exclusive if we're deciding which of two new taxes to impose.
12.29.2007 6:47pm
kietharch (mail):
"..... they claim that people will get to keep all the money they would now pay as income tax without experiencing any increase in the prices of goods and services they purchase (even though the latter would now have a hefty new sales tax attached to them)....."

Illya, I think I agree with your thinking generally but a sales tax is quite visible and the taxpayer is constantly reminded (unlike a Value Added Tax, which is largely concealed). I live in a high sales tax state and I can testify that a sales tax 0f around 9% is a good reminder of how much government costs.

Regarding the issue of a 23-30% sales tax adding to the cost of living, of course it does but then so do both a corporate and personal income taxes add to the cost of living. I would guess that the government tax take, whether by income taxes, sales taxes or VAT, burdens the individual and the economy generally in proportion to the total taxes collected and that the real issue is one of (1), fairness and, (2), efficiency of collection.

It's tempting to think that the "Fair Tax" would be an improvement but it's a very complicated choice. There would probably be a whole universe of unintended consequences.
12.29.2007 6:47pm
Chaf:

A sales tax, paid on the spot and with no need for documentation sworn under penalty of perjury, would deprive the IRS of the ability to go snooping around in anyone's financial affairs that they take a fancy to snoop around in.


Trouble here is, with a national sales tax, there would be an awfully compelling incentive to evade the tax by executing transactions off the books - especially for services: The plumber does a $100 job and thus should charge you $130. What's to keep him from charging you $115 cash instead, so you and he each end up with $15 more than you would have had otherwise?

And so the outcome one must reasonably expect would be a substantial underground cash economy which undermines the projected revenues of the sales tax. At that point the government would absolutely have to either jack up the rate - which would strengthen the incentive to evade the tax; or else start monitoring transactions to catch evaders - which would end up looking an awful lot like the IRS; or else supplement the sales tax revenues with money from another source.
12.29.2007 6:59pm
Frater Plotter:
A sales tax, visible on every receipt that you get from every retailer, is highly visible every day, whereas the real impact of the income tax you maybe see every other week when you look at your pay stubs, and again every year when you do your tax returns.

Either of these is more visible than a VAT-style tax that is incorporated into the prices of goods (as gasoline taxes are). An "invisible" tax, noticed only by business owners, is the absolute worst for low-tax advocates. The more visible the tax is, the easier it is to make the case for reducing it.
12.29.2007 7:02pm
kietharch (mail):
Chaf, off-books stuff pays well in an income tax environment also.
If my plumber is in the 30% bracket (not hard to imagine) then the same temptations exist.
12.29.2007 7:04pm
veteran:
"In 2005 individuals, businesses and non-profits will spend an estimated 6 billion hours complying with federal income tax code with a compliance cost of $265.1 billion dollars.......Projections show that by 2015 the compliance cost will grow to 482.7 billion." from the tax foundation.org.

I imagine the fair tax or sales tax system would keep all of the accountants and related businesses employed.

After all when you realize that everything from your income, IRA, 401K, college fund, health fund, etc., etc., etc, there is no end to what you have to explain for. If we were actually free there would be a lot more homeless people.


NI said: "would deprive the IRS of the ability to go snooping around in anyone's financial affairs that they take a fancy to snoop around in. There is a huge cost to liberty in having an income tax because the only way to enforce it is by giving the IRS carte blanche to make inquiry into everyone's income."

I can personally vouch for how much they know, if you took an course at any place that receives government money, they know how much you paid, how you paid and the course(s) that you took. If you went to any hospital emergency room they know the same. You have no idea the extent to which they have your number. You carry a social security number, imagine having it tattooed on your arm.

One day I will tell you a scary story.
12.29.2007 7:12pm
TomC11 (mail):
I agree with the above that the sales tax is far more visible than the income tax. How many people actually know the number of dollars they pay each year in income tax? Do you? For that matter, what is the over all percentage of your income that you pay in tax? It's not the "tax bracket" (i.e., the top marginal rate) that most people cite, since that higher percentage only applies to the last dollars of your income.

The Fair Tax has two huge benefits (among others that I won't address right now).

1) There is only one number that the government can change when changing taxes. No more of the 'We're only going to tax the ___ (fill in the black) and not the rest of you'.
2) The IRS and the fortune we spend each and every year trying to comply with out crazy tax system would be automatically and immediately saved.

As for the supposed huge task of sending out prebate checks. The amount to be sent would depend on how many people are in the household. How hard would that be? Fraud, you might say, would be a problem. Guess what, it's a lot easier to catch people who are lying about how many children they have than it is to catch the cheaters under the current system.

One final question. Why is it that opponents of the Fair Tax proposal use the argument that the tax percentage would be 'too high'? If our government would need to take 23%, 25%, 50% or 99% of all transactions of servies and new goods, what difference does that make? The fact is they're already taking that amount of money from our society, right now, today. How would it hurt, in the long run, to have the number out there in the open? I really wish someone would answer that question for me because so far I have been greatly disappointed.
12.29.2007 7:25pm
Duffy Pratt (mail):
Chaf:

Good point. But is it any different than the restaurant owner who takes in cash and fails to report it on his income tax return. Whatever tax system you set up, people will figure out ways to cheat. Right now, the plumber who ordinarily charges $120 for his service might charge less for payment in cash, so that he can hide the transaction both from sales tax, and from the IRS. So that cheater probably would cheat under both systems. There are probably people who are now cheating who would have to pay sales tax under the proposed plan, and other people who now pay tax who would get an incentive to cheat. How they all balance out? I don't think anyone can say for sure.
12.29.2007 7:27pm
velvel in decatur (mail):
One of the points that Bartlett and Taranto of the WSJ seem to have fun playing with is the abuse matter. They seem to forget that there is a large underground market here that avoids and evades regularly. Perhaps the pros and cons ought to explain how taxes are either paid (enforced) or avoided under a VAT system and how the new system here would take care of the problems.
After taking tax courses in law school and paying lots of money to our cpas, the abolition of the 16th amendment (that did not include a percentage because the advocates could not believe that a rate over 10% could ever be used) and the reassignment of IRS agents to something more useful (border guards in the southwest, maybe) coupled with the end of preferences (and end of some of the congresssional pimping?) is most appealing.
and then CCH would not kill so many trees for the code and regs books.
12.29.2007 7:40pm
Procrastinator:
How does any FairTax proponent deal with the idea that, for a lot of people, their paychecks would be the same or slightly increased, but everything one could possibly buy is suddenly a LOT more expensive? There's something to be said about sticker shock.

Are things like food and clothing exempt? Would industries endlessly be petitioning the government to add their products to the exempt list too?
12.29.2007 7:44pm
AK (mail):
I like the idea of a VAT, but how do we replace the income tax with a VAT without double-taxing trillions of dollars?

I have a couple grand saved in the bank, all of it money that I earned by working. That money is what is left over after the federal government taxed my wages. If a VAT is put in place, I'll have to pay taxes to the Federal government again when I spend it. Sure, any new money that I earn will only be taxed once, but all my savings will be retaxed.
12.29.2007 7:50pm
Loren (mail) (www):

For all its flaws, the income tax system at least gives taxpayers a fairly clear indication of what their total income tax liability is: every April you have to calculate it, or hire an accountant to do it for you. In a sales tax system, by contrast, you don't really know how much money you're paying the federal government in all.


I gotta disagree here, simply because of the existence of income tax withholding. If every April you had to actually cut a check to the government, then it would be on the forefront of every American's mind how much the feds cost them that year.

But with withholding, that's flipped upside-down, so that many if not most Americans are PLEASED upon the completion of their income tax returns, as they see how big their "rebate" will be. The government takes your money before it's truly due, holds it for up to fifteen months or more, and then gives the excess back to you without compensating you with any interest for the time they held it.

(On the other hand, fail to make enough advance payments, and the IRS will not only charge YOU interest for keeping your own money until you've calculated what you owe, but they'll slap you with additional penalties too.)

The end result is that around tax time, people talk a lot more about the size of their rebate than the size of their tax bite.

To its credit, the FairTax proposes that all sales receipts identify the amount of tax included in the sale price, so that buyers are continually reminded of the cost of government. To its detriment, that's not as conspicuous as a tax that's added at the register, and, as already pointed out, most people wouldn't keep track of the taxes paid over an entire year.
12.29.2007 7:56pm
bla bla bla:
Ilya,

You appear to ignore the main argument for the fair tax: That it will increase the national savings rate, which increases GDP growth.
12.29.2007 8:17pm
Public_Defender (mail):

I like the idea of a VAT, but how do we replace the income tax with a VAT without double-taxing trillions of dollars?

I have a couple grand saved in the bank, all of it money that I earned by working. That money is what is left over after the federal government taxed my wages. If a VAT is put in place, I'll have to pay taxes to the Federal government again when I spend it. Sure, any new money that I earn will only be taxed once, but all my savings will be retaxed.

This is a problem. Many have made long-term financial decisions based on the existence of an income tax. Removing the income tax would make some of those decisions very costly.

If a VAT replaced the income tax, would the government refund the taxes paid on money put into Roth IRA's? Or would people who put money in regular IRA's and 401K's get a windfall?

Another problem would be the mortgage and state/local tax deductions. Given the number of people who are teetering on the edge of foreclosure, losing the ability to offset those expenses against taxes paid could force some people out of their home.

People who give to charity would find that their gifts cost them 10-35% more than under the current tax code. So charities could take a real hit.

Changing to a VAT would create some real transition problems. My guess is that enough people would be hurt (or fear that they would be hurt) that a VAT will never replace the income tax.
12.29.2007 8:19pm
Peter Wimsey:
It seems like the business-to-business exemption would cause a lot of headaches, too, especially for services. Would it mean that, if Joe Public hires me, I charge him my rate +30%, but if Microsoft hires me, they are only charged my rate? Does this also work for property purchases - my house costs X+30%; but a house purchased by a business only costs X?
12.29.2007 8:44pm
Mike Keenan:
Maybe someone has already made the point, but you could have a progressive sales tax by taking income minus savings and then taxing only the difference -- the amount spent. Each person would have to fix out an income tax form so there would be transparency. It wouldn't be much different from the current system in application. There would be deductions and so forth. The system would probably have to be fairly progressive though to work.
12.29.2007 8:45pm
A. Zarkov (mail):
"For all its flaws, the income tax system at least gives taxpayers a fairly clear indication of what their total income tax liability is…"

Not really. Don't you think that business passes along some of the tax they pay as increases in the price of goods? Of course it's not dollar for dollar as the amount of their tax that business can pass on depends on the elasticity of demand. We have the same problem with the FICA tax. Employees would make more in salary if their employers didn't have to pay FICA. Again it would not be dollar for dollar.

The current income tax system is anything but transparent with regard to how much tax you actually pay. On the other hand, a national sales tax would be extremely transparent. True if you wanted a tally for the year you would need to keep records, but you have to do the same thing for your income tax.

The big benefit in having a sales tax replace the income tax is an increase in savings. Tax work and you get less. Tax consumption and you get less. We need less consumption and more saving.

I don't like Huckabee, but I'm with him on the income tax.
12.29.2007 8:48pm
Brett Bellmore:

For all its flaws, the income tax system at least gives taxpayers a fairly clear indication of what their total income tax liability is:


But even a flat tax results in the vast majority of taxpayers' tax liability being dramatically smaller than the cost of their share of government services.
12.29.2007 9:05pm
LTEC (mail) (www):
It's hard to see why the "fair tax" is more fair. The only
real reason to consider it is because it is much simpler. As long as we're thinking seriously about replacing the income tax with something much simpler, may I humbly suggest that we seriously consider the simplest method of all for the government to raise money: PRINT IT. Yes, I'm sure there are many problems with this (especially inflation). But it is so simple, we should take it at least as seriously as the "fair tax".
12.29.2007 9:18pm
Houston Lawyer:
We go to a lot of trouble to hide the cost of FICA and Medicaid withholding from people. It is really eye-opening to file as self employed.

The Fair Tax would be a boon for someone like me, who saves a large portion of his check. I don't know whether it would repeal the corporate income tax, but that would lower the cost of capital.
12.29.2007 9:26pm
CDU (mail):
1) There is only one number that the government can change when changing taxes. No more of the 'We're only going to tax the ___ (fill in the black) and not the rest of you'.
I fail to see how FairTax addresses this concern. The opportunities to pander to voters/contributors through the tax system may change, but they're still there. The 'rebate' included in the fair tax plan opens up a whole new set of avenues for this sort of thing. The FairTax folks say it would be limited to a single figure for individuals (and another smaller figure for their dependent children), but I see no reason to believe that the politicians would let it stay that way. Rebates for charitable giving, mortgage interest, retirement savings, veterans, the disabled, education, and everything else that currently gets tax breaks are sure to pop up soon.

Similarly, on the tax side, I'm sure there will be armies of lobbyists assailing congress with arguments why their particular good or service should be exempted: food, health care, housing, etc. The types of exceptions will change, but the basic political forces that have turned the tax code into a byzantine mess are still there. Even a radical overhaul of the tax system won't change that.
12.29.2007 9:32pm
TomC11 (mail):
CDU:

You're right. There is still the potential for abuse...just like there has, is, and will always be with government. At least part of the point is (or should be) that the Fair Tax would be a chance to 'reset' the system. 'They' would have to start all over being corrupt dirtbags.

You did not, however, address my second point regarding the savings in terms of complying with the current tax code.

For those who think that products/services would be more expensive, consider that the entire supply chain the contributes to the creating of services and new goods would be freed of all federal taxes. Competition would bring those savings to the consumer in short order.
12.29.2007 9:53pm
Dave Hardy (mail) (www):
1. I'd agree that a sales tax makes the tax more, not less, visible.

2. AZ has a sales tax that exempts food, medication, and a few other things. This at least makes it less regressive -- might even be slightly progressive. It *might* be possible with further tweaking and exemption of things which are a disporportionate share of lower-income folk's spending, to make it more progressive. Altho I suspect there is a practical limit here.
12.29.2007 9:57pm
oledrunk (mail):
Please factor in the revenue a sales tax would obtain from the underground economy - drug profits and those working off the books.
12.29.2007 9:59pm
Elliot123 (mail):
"For all its flaws, the income tax system at least gives taxpayers a fairly clear indication of what their total income tax liability is: every April you have to calculate it, or hire an accountant to do it for you. In a sales tax system, by contrast, you don't really know how much money you're paying the federal government in all."

It gives taxpayers an idea of what their personal liability is, but it doesn't do much for informing them about the cost of government. Based on personal laibility, millions might think government if free.
12.29.2007 10:00pm
oledrunk (mail):
Consider also that every dollar earned - legally or otherwise - must be spent or saved.
12.29.2007 10:08pm
Duffy Pratt (mail):
Oledrunk:

You could burn some. Neither spent nor saved.

How about a gift. If I give a dollar to someone, did I spend it or save it?

Also, as I wrote above, there would be an increase in revenue from people who do not now report their income. But the tax will also probably generate new kinds of cheating -- right now lots of people already take cash for goods and services to avoid paying sales/use tax. These people would almost certainly cheat the fed income tax as well. I don't think anyone has a really clear idea of what the balance of cheating between the two systems would be.
12.29.2007 10:16pm
Steve2:

I gotta disagree here, simply because of the existence of income tax withholding. If every April you had to actually cut a check to the government, then it would be on the forefront of every American's mind how much the feds cost them that year.




Eh, I take it bothering to read the section of the pay stub that says how much was withheld isn't typical?
12.29.2007 10:19pm
Barney15e (mail):
Chaf, you are misstating the way the Fair Tax is to be implemented relative to the cost of goods.

(in other words, retail prices increase by the exact amount of the tax - a $1.00 widget becomes a $1.30 widget).
The $1 widget does not cost $1 after the Fair Tax is implemented. The current embedded taxes in the cost of goods is removed and the Fair tax added in. So if the price tag says $1 on FT-1, then it will be $1 on FT-day--Price without embedded taxes is $0.77 plus the 30% exclusive tax = $1
What Immediately Happens to Prices?

Will it all work that smoothly? As the link points out, it will take a few years, but equilibrium will occur.
12.29.2007 10:42pm
tcg:
As someone squarely on the FairTax fence but leaning toward supporting it (especially over the current system, but maybe not over a flat income tax with only a standard deduction), I agree with Ilya's skepticism with regards to Huckabee's endorsement. Anything that guy supports makes me very nervous right now. Huckabee's support for the FairTax may be one of the worst things that could happen to it. I still think I'm in favor of it though. Most of the criticisms of the FairTax that I've seen end up being more of a critique of the selling techniques being used by proponents rather than a critique of the tax system itself.

I hate to plug another blog, so Ilya please remove this if you want... There are some really great discussion threads about the FairTax on www.fairtaxblog.com with people both pro and con debating it very civilly. They even get into pretty serious debates over what the rate would have to be to remain revenue neutral. There's also a section-by-section discussion of HR 25.
12.29.2007 10:52pm
m4cph1sto (mail):
How transparent is the current tax system? Most individuals have no idea how much tax they pay. If asked to calculate it, they could look at their tax return documents. But what about corporate taxes? What percentage of the cost of goods and services is due to taxes on corporations and businesses, which are rolled into the price of their products? Add to this the fact that most people don't even pay attention to the amount of tax they pay - it is "conveniently" deducted automatically from each pay check, held by the government interest-free, and people (though not necessarily VC readers) eagerly await their annual refund - it's like a second Christmas! The first step toward the Fair Tax should be repealing the scam that is income tax withholding. If the average American had to write a check to the government for their income tax each month, there would be a real tax revolt in this country and things would change rather quickly.

And what about the toll the current tax system has on the U.S. economy? Imagine what would happen if the Fair Tax were implemented. The U.S. would become the greatest "tax haven" in the world. Corporations based in the U.S. would pay no taxes whatsoever. No payroll taxes. There would be a huge influx of businesses and industry from foreign countries to the U.S, and the U.S. economy would grow dramatically.

As for the "complex system of rebates": describing the Fair Tax "prebate" system as complex is not only misleading, but utterly laughable. Here's how it works: the government already designates a "poverty level" of income. If the Fair Tax level is 23%, then every individual gets a monthly check (or direct deposit, etc.) for 23% of the poverty level. Families get a lower fraction for each dependent. How this can possibly be considered "complicated" compared to the current system of tax deductions, for example, is beyond me. Anyone making the poverty level pays no tax. Anyone earning less actually earns money from the Fair Tax, similar to your choice of social program. The more you earn, the less significant the prebate becomes to you, but everyone gets the same amount.

As for calling the Fair Tax a "double free lunch" scheme is also irresponsible. Fair Tax supporters claim that despite the 23% sales tax, prices would remain pretty similar to what they are now, and government revenue would be equal to that under the current system. At first this may seem impossible by a simple "in=out" analysis. But this is an over-simplification. The day the Fair Tax is instituted, prices will of course go up due to the sales tax (but so would your paycheck, by a roughly equal percentage). But over a short period of time, corporate profits would go up - because corporations would no longer pay taxes. The hidden cost of tax compliance would be eliminated (i.e. business decisions would no longer be based in part on the tax repercussions, but instead only on what makes the best business and economic sense), and competition in the market would quickly result in lowered prices. Furthermore, tax evasion would be practically eliminated, and the "underground economy" would become part of the tax base (i.e. criminals would pay the Fair Tax when they spend their illegally-obtained income), the economy would grow (for the above-mentioned reasons), and tax revenues would increase. Soon the government would be able to lower the tax rate to below 23% (assuming we responsible citizens don't simply allow them to pocket the extra revenue). In the end, it is probable that retail prices would level out to what they are currently.

Finally, this argument against the Fair Tax really annoys me: that politicians would try to work in loop-holes, try to exempt certain retail goods and services from taxation, or mess around with the prebate system to allow "deductions" similar to what we have now. This would not be the Fair Tax! Don't criticize a proposal by first changing its terms and then criticizing it. The Fair Tax is almost ridiculously simple, and it allows no room for weaseling by politicians, lobbyists, or special interests. All retail goods and services are taxed equally, and everyone with a social security number gets the same monthly prebate (except dependent kids of course who naturally get a lesser amount). It's as simple as that, no room for mucking around.

As for the difficulty or complexity of implementing a sales tax: it's been done for ages by states and communities, and nobody's ever complained about the burden these taxes place upon the state. Its implementation would be simple, straight-forward, and seamless, especially in this age of computers. Unlike a certain other tax system we all know and love.
12.29.2007 11:00pm
Lev:
1. eliminate the "corporate" income taxes, because individual citizens are the ones that pay them anyway.

2. require the individual income tax to be paid each month, in person, in cash.
12.29.2007 11:11pm
veteran:
This is great, the saturday night before new years and we have yet to come up with a solution.

What if we just go to a property tax system implimented from your county. They tax you and pass the money upstream, swimming upstream is always good exercise, plus you know who taxed you and where they live.
12.29.2007 11:18pm
AK (mail):
m4cph1sto...

These are good arguments, but they don't address my biggest concern: how do we avoid retaxing savings that have already been taxed?

I have $10,000 in the bank. It wasn't originally $10,000. It started out as $12,000 in wages. Then the IRS told me I had to fork over $2,000. Okay, fine. At least I have $10,000 to spend now in December 2007.

But in January 2008, along comes a 23% VAT, and suddenly that $10,000 isn't really worth $10,000. $10,000 won't buy me the same amount of food, clothing, or automobile that it would have bought me in December 2007.

A 23% VAT is really a 23% wealth tax on money in savings accounts. But it's actually worse than that. The wealth tax applies to all of my assets! Here's why:

Last year I bought a car for $20,000 with cash that had been taxed. Today the private party resale value is about $10,000. So I sell the car and get $10,000. What happens next? Well, I have $10,000, but $10,000 doesn't buy what it used to because of the VAT.

Every single possession you own, including your real estate, is subject to the VAT wealth tax. If you can figure out a way around it, great. Otherwise, no thanks.
12.29.2007 11:22pm
Eli Rabett (www):
State sales taxes are not going to disappear either, so that 23% becomes 30% or more (or 30% becomes 37%, etc.), then you have the issue of what to do with state income taxes, abolish them and the combined state+federal sales tax goes to 40-45%. THAT you would notice.
12.29.2007 11:35pm
Waldensian (mail):

It is really eye-opening to file as self employed.

Oh yes. That quarterly thing is breathtaking.
12.29.2007 11:44pm
Tony Tutins (mail):
At first the idea of swapping a sales tax for an income tax sounded great, because I can cut expenses down to the bone. Riding a bike to work is healthier, anyway. Evenings spent reading library books and playing Scrabble are a lot of fun, as is running off a batch of homebrewed beer. The balance of payments problem would disappear as Americans turned from consumers to savers.

But then I realized that passage of the "Fair Tax" would be a windfall for the superrich because they only spend a tiny fraction of their annual income. Further, the poor would be exempt from a baseline amount of sales tax, as they are exempt from paying income tax now. To make the "Fair Tax" revenue-neutral, the tax rate would have to go up. If everyone carefully considered each purchase, sales volume would fall, meaning tax rates would have to go up. Having to actually buy something would be like losing a game of musical chairs. The brunt of the tax would fall on ordinary Americans in a way it hasn't up to now.
12.29.2007 11:59pm
A. Zarkov (mail):
"If everyone carefully considered each purchase, sales volume would fall, meaning tax rates would have to go up."

Consumers would have more money to spend because they don't pay federal income tax, so the sales tax would not be a burden. But I think you are right, sales volume would go down. But it has to go down because consumers are spending borrowed money. As a country we have to save more and spend less. The government also has to spend less.

"But then I realized that passage of the "Fair Tax" would be a windfall for the superrich because they only spend a tiny fraction of their annual income."

It would be a windfall. But the super rich are investing and not spending the windfall. Don't we want investing? Perhaps you think they don't invest wisely.
12.30.2007 1:06am
m4cph1sto (mail):
AK:
First I'll address the simplest of your issues. The resale value of your car. You bought your new car for $20,000, prior to the Fair Tax. Now (assuming that retail prices would not return to pre-Fair-Tax levels), the resale value of your car, post-Fair-Tax, would be determined by the cost of a new car, post-Fair-Tax. Just as the market value for all used goods is determined by the depreciated <i>current</i> values of corresponding new goods, regardless of what those values were in the past. If the cost of a new $20,000 car becomes roughly $26,000 after the 23% Fair Tax, then you'll be able to sell your used car for more, regardless of the fact that it was purchased prior to the Fair Tax.

As for the value of savings "in the bank". That's slightly more complicated, again assuming that prices wouldn't stabilize at pre-Fair-Tax levels after some time. I'm not sure what conditions are in the bill (HR25), but there are various proposals to deal with such transitional issues. One is that, for investment accounts with special tax status, people would be issued a one-time check to compensate. That gets kind of complicated, but it's definitely do-able, since it would be one-time only. In many cases, like a simple savings account (with no special tax status like other investment accounts), you'd just be out of luck. You'd have to decide for yourself, what would you prefer: the possibility that your $10,000 savings might not buy you as much as it would previously, but you'd earn the rest of your income "tax-free" for life, and have a vastly superior and simplified tax system, a stronger economy, less corruption, etc... or stay with the old system but buy a little more with your $10k.
12.30.2007 1:30am
m4cph1sto (mail):
AK:
First I'll address the simplest of your issues. The resale value of your car. You bought your new car for $20,000, prior to the Fair Tax. Now (assuming that retail prices would not return to pre-Fair-Tax levels), the resale value of your car, post-Fair-Tax, would be determined by the cost of a new car, post-Fair-Tax. Just as the market value for all used goods is determined by the depreciated current values of corresponding new goods, regardless of what those values were in the past. If the cost of a new $20,000 car becomes roughly $26,000 after the 23% Fair Tax, then you'll be able to sell your used car for more, regardless of the fact that it was purchased prior to the Fair Tax.

As for the value of savings "in the bank". That's slightly more complicated, again assuming that prices wouldn't stabilize at pre-Fair-Tax levels after some time. I'm not sure what conditions are in the bill (HR25), but there are various proposals to deal with such transitional issues. One is that, for investment accounts with special tax status, people would be issued a one-time check to compensate. That gets kind of complicated, but it's definitely do-able, since it would be one-time only. In many cases, like a simple savings account (with no special tax status like other investment accounts), you'd just be out of luck. You'd have to decide for yourself, what would you prefer: the possibility that your $10,000 savings might not buy you as much as it would previously, but you'd earn the rest of your income "tax-free" for life, and have a vastly superior and simplified tax system, a stronger economy, less corruption, etc... or stay with the old system but buy a little more with your $10k.
12.30.2007 1:31am
m4cph1sto (mail):
State sales taxes are not going to disappear either, so that 23% becomes 30% or more (or 30% becomes 37%, etc.), then you have the issue of what to do with state income taxes, abolish them and the combined state+federal sales tax goes to 40-45%. THAT you would notice.

State sales taxes, as they are now, would be completely separate from the federal Fair Tax. They would be calculated based on the value of the goods/services including the Fair Tax, since the Fair Tax is set up as an inclusive tax, just like the income tax is now. Actually, what's likely to happen is that, after seeing how well the Fair Tax works, the states would decide for themselves to also abolish their own income taxes and replace them completely with sales taxes.
12.30.2007 1:43am
Tony Tutins (mail):
But the super rich are investing and not spending the windfall. Don't we want investing? Perhaps you think they don't invest wisely.

If the super rich pay less tax and the poor continue to pay zero tax, then to maintain federal tax revenue, who will have to make up the difference? You and me.

To keep him paying the same amount in taxes, I want Bill Gates to buy a Gulfstream a week, frankly. Maybe even a Boeing -- he lives close to the factory and could pick out the colors and options while they're putting it together.
12.30.2007 2:02am
CDU (mail):
I'm a bit surprised nobody has mentioned this so far, but another thing to keep in mind is that consumption taxes (particularly consumer facing ones like sales taxes) are far more sensitive to economic cycles than income taxes are. In the face of an economic downturn, consumers will generally stop spending, cutting government revenues and increasing deficits at a time in the economic cycle when you generally want the government to do more, rather than cutting back.
12.30.2007 2:25am
James968 (mail):
One obvious mistake in the post is that most people don't really know how much they pay. The only think about how much they get back. If you ask someone how much tax they paid last year, most will typically say "I didn't pay anything, 'I got a refund'" . In reality the government only refunded SOME of their money. In reality they kept a very large portion of it.

With the Fairtax, if you want to know how much it is, JUST LOOK AT THE RECEIPT.
12.30.2007 2:57am
James968 (mail):

My business costs would drop by a quarter to a third if I didn't have to maintain records for the benefit of the IRS.


Also the cost of an employee just dropped by about 6-7%
12.30.2007 3:05am
Brian K (mail):
I don't see why you guys think that someone to lazy/stupid/indifferent/uncaring/rationally ignorant/etc to figure out how much they paid in income tax will magically keep track of the amount paid in "fair" tax throughout the year. What percentage of the much-more-politically-engaged-than-average people on this very board know how much they paid in sales tax last year? I'm going to guess few, if any, do.
12.30.2007 3:23am
David M. Nieporent (www):
My business costs would drop by a quarter to a third if I didn't have to maintain records for the benefit of the IRS.
True, but your savings would go to lawyers to keep you out of jail. Do you think the IRS will just believe you when you tell them how much you sold and how much "FairTax" you collected? Consumers would save on tax preparation under the FairTax proposal, but businesses would still have to maintain detailed business records.


Incidentally, unless FairTax people plan to outlaw good public relations practices by businesses, everyone is going to see it as 30%, not 23%. If I'm a retailer, I list the price of the item as $77, and the receipt shows the price as $77 plus a 30% FairTax of $23. No retailer is going to helpfully hide the cost the way FairTax people want them to do by using "tax inclusive" prices.
12.30.2007 9:00am
PersonFromPorlock:
There's an assumption here, that taxes show the cost of government, that needs to be challenged. They certainly show part of the cost of government, but the costs of complying with government requirements for, for instance, safety equipment in cars or sorting your trash for recycling or building a house 'to code' are right off the 'government' books but very real.

I suspect that the Fair Tax would have very little direct effect on government's penchant for making people 'do good' at their own expense, but successfully changing the current tax system might encourage the voters to do something about these hidden costs as well.
12.30.2007 9:02am
PersonFromPorlock:
David M. Nieporent:

True, but your savings would go to lawyers to keep you out of jail. Do you think the IRS will just believe you when you tell them how much you sold and how much "FairTax" you collected?

The paperwork would pretty much already be done for state/local sales taxes in most places. In fact, the states could function as agents for the federal government and collect the Fair Tax for it, which would not only simplify the paperwork but encourage the states to adopt a Fair Tax of their own.
12.30.2007 9:14am
Angus:
The biggest problem I have with the fair tax is that even proponents will admit that for several years the economy will be thrown off balance because of the change. Prices will jump up high initially, but will eventually reach equilibrium and come down. The typical answer as to how to cope with this? Just don't buy anything major for a few years.

Sorry, folks, but recommending that severe a cutback in consumer spending will send hundreds of thousands of businesses (small and large) into a tailspin towards bankruptcy. They'll start slashing workers and wages, leading to an economic tailspin. I have a feeling that the economic shock brought on by a complete "fair tax" overhaul would make the Great Depression look good in comparison.
12.30.2007 9:19am
oledrunk (mail):
Duffy Pratt:

The dollar given away is either spent, saved or given away endlessly.
12.30.2007 9:43am
AK (mail):
As for the value of savings "in the bank". That's slightly more complicated, again assuming that prices wouldn't stabilize at pre-Fair-Tax levels after some time.

"After some time"? I don't have "some time" to wait around while prices stabilize. If my car breaks, I need to pay for repairs now. I need to buy gasoline now. I need to buy birthday presents for my family now. What am I supposed to do, sit on my savings and consume nothing until the invisible hand pushes prices back to where they were before the tax?

Even assuming that prices will eventually stabilize, the tax will create a deadweight loss. Whatever today costs $100 will still cost $100 when prices stabilize, but that price includes the government's cut. So the government taxed my earnings, and it taxes me again when I make a purchase. Uncle Sam gets an additional $23. That doesn't appear out of thin air! Sure, I don't see the additional tax because it's absorbed into the price, but the manufacturer does. Now he only gets $77 for something that he previously would have received $100 for, so he can't bring as many units to market as he could before.
12.30.2007 10:31am
AK (mail):
If you ask someone how much tax they paid last year, most will typically say "I didn't pay anything, 'I got a refund'" In reality the government only refunded SOME of their money. In reality they kept a very large portion of it. With the Fairtax, if you want to know how much it is, JUST LOOK AT THE RECEIPT.

I can tell you exactly how much tax I paid last year. TurboTax puts the amount at the bottom of the page. I have to calculate how much tax I owe every April, so I'm aware of it.

But I have no idea how much sales tax I paid last year, because I don't keep the receipt from every single purchase I made in 2006. Do you know anyone who does?

I don't like withholding for the same reason that many people don't: it breaks up the tax bill into managable chunks, making high taxes easier to swallow. But I'd rather have a withholding system that takes out hundreds of dollars every week than a system that nickel-and-dimes taxpayers when they buy a hot dog or pair of shoes. That breaks up the tax bill into even smaller easy-to-swallow chunks.
12.30.2007 10:40am
Smallholder (mail) (www):
My concern with the fair tax is not about the details of implementation. I fear that after implementation - however it is achieved - the fair tax, like a proposed flat tax, or a reform of the current system would not stay fair/flat/reformed for long. Congress has the power to pass laws. Congress is influenced by lobbyists and special interests. Upon achieving a fair tax/flat tax/reform, the lobbyists would begin campaigning immediately:

"The blind lost their special exemption! Add a special fix for blind people or we'll run adds come next election that portray you as hating the sight-impaired."

Can you imagine that the Realtor associations wouldn't lobby for preferential tax treatment for homeownership?

Do you think sugar beet farmers will be willing to give up their tax incentives in the name of fairness/flatness/reform?

Additionally, and this is specific for the fair tax, there is one tax break I wholeheartedly support: The mortgage deduction for owner-occupied homes. The social benefits of an ownership society outweigh any loss of income; I want there to be significant financial incentives to home ownership like the mortgage deduction and the exclusion of capital gains on primary home sales.

I'm willing to be convinced: I dislike the current system tremendously.

Fairtaxophiles, please educate me: how would the fair tax prevent future Congressional "tweaking" at the behest of interest groups?

Is it possible to encourage home buying in a fair tax system?
12.30.2007 10:42am
RainerK:
Having lived in Europe for a long time I can comfortably say that the ubiquitous and high VAT is not obvious to consumers when they make their daily purchases. "Lets see, the price of this loaf is 3 Euro 88 Cents, 21% of that is? .. ahh, forget it."
It's there and everyone knows it, but the tax is well hidden.

I don't know if it's legally possible, but I'm willing to bet that as soon as we had a federal sales tax, Congress would start the push to force the States to abolish their income taxes (loss of homeland security grants anyone, no more highway money?) and have the lost revenue replaced with a share of the FEDVAT. Further power grab by Washington - merely the continuation of the trend.
12.30.2007 10:59am
Eli Rabett (www):
Since any fair tax must include services, such as lawyers fees, to be truly fair, we can look forward to much bleating from the bar, the docs and the hospitals. Oh such a joy, let's see, the 23% fair tax on a $500/hr fee is another $115 for a rate of $615/hr. Now since the tax is not immediately remitted, that $115 sits and earns interest for a month or so. . .
12.30.2007 11:28am
Justin (mail):
Your "theory" boils down to the idea that we should make policies you don't like as painful and unsuccessful as possible so we get rid of them. This is about as silly as the WSJ's "lucky duckies" and "tax the poor" opeds.

There's something to be said about transparency - but that isn't your argument, your argument is that even a transparent system wouldn't be painful enough to get rid of taxes you don't like.

Note: there are good reasons to be against the fair tax - yours just isn't one of them.
12.30.2007 11:52am
Truth Seeker:
Since the fair tax is revenue neutral, what it has to do is change where the money comes from. Has anyone explained exactly who will pay more and who will pay less under this scheme?
12.30.2007 12:09pm
Kenton A Hoover (mail):
Anyone who thinks that processing their business taxes will become simpler should keep in mind the existing level of bureaucracy associated with sales tax accounting and collections. Any sales tax simply decentralizes the tax collection system, and in a revenue collection scheme of such scale audit and fraud prevention will still be sizable activities. Not to mention that companies like eBay will find themselves in the tax collection business, which is not a desirable place to be.
12.30.2007 12:24pm
CDU (mail):
Since the fair tax is revenue neutral, what it has to do is change where the money comes from. Has anyone explained exactly who will pay more and who will pay less under this scheme?
Well, according to Bartlett's article the percentage of the total tax burden paid by the:
lowest quintile will increase by 1.4%
second quintile will increase by 5.3%
middle quintile will increase by 6.7%
fourth quintile will increase by 6.1%
highest quintile will decrease by 19.1%

These figures seem to be drawn from figure 9.3 of the President's Advisory Panel on Federal Tax Reform's final report.

So whatever it's other virtues, the FairTax will lead to a fairly massive shift of the tax burden from the wealthy to the middle class.
12.30.2007 12:24pm
Bill R:
Smallholder,
I wholeheartedly support: The mortgage deduction for owner-occupied homes. [...] I want there to be significant financial incentives to home ownership like the mortgage deduction and the exclusion of capital gains on primary home sales.
Ah, spoken like a true blind beet farmer "home owner".

Since home owners receive no direct benefit from the mortgage deduction, it doesn't seem likely to encourage home ownership. "Bank" ownership of homes, on the other hand, does seem to be encouraged by the mortgage deduction. Considering how many people choose to actually relinquish ownership of parts of their homes to a "bank" when they want some cash (presumably factoring the mortgage deduction into that decision), it seems to discourage home ownership. Overall, it seems that it mostly drives housing prices up, delaying first time home buyers from entering the market and subsidizing home builders and the like. In my experience, many middle class families "buy as much house as they can afford" after factoring in the tax deduction on the mortgage which allows home prices to raise to a higher level.

The cap gains deduction also should be repealed. Reimplementing a rollover shelter provision (probably a bit more flexible than it has been in the past however) while removing all "step ups" in basis on inheritance seems reasonable however.
12.30.2007 12:25pm
A. Zarkov (mail):
Some people take a deduction for state sales tax paid on their federal income tax. It's not hard to figure out the amount from your credit card invoices and checks. I have electronic receipts for more than 90% of my purchases. I have electronic receipts for all of my ATM withdrawals so I know how much I spend on incidental small cash purchases. As such I can get a pretty accurate estimate of my state sales tax expenditures for the year. When in Europe I had absolutely no trouble figuring the VAT amounts in my head at the time of sale.

The FairTax will reduce consumer spending, but that's already here because consumers have spent more than their income for the last 5 years. They did this by using credit and refinancing their homes. The party is over. The retail industry is hitting the wall—look at the plunge in the S&P retail index (^RLX) since July 2007. Check out this Bloomberg interview with Howard Davdowitz, consultant and investment banker for the retail sector, "it's ugly out there."
12.30.2007 12:26pm
A. Zarkov (mail):
"The cap gains deduction also should be repealed."

Absolutely. The change from the rollover exemption to the current law has fueled rampant speculation and cheating.
12.30.2007 12:40pm
m4cph1sto (mail):
True, but your savings would go to lawyers to keep you out of jail. Do you think the IRS will just believe you when you tell them how much you sold and how much "FairTax" you collected? Consumers would save on tax preparation under the FairTax proposal, but businesses would still have to maintain detailed business records.

Most businesses do this already for state and local sales taxes. How many incidents have you heard of in which a business was targeted for suspicion of cheating on a state sales tax? Probably none, right? The operation of a business necessitates recording the total amount of sales done each day/week/month. Since every business does this already, there would be no additional "detailed business records" required under the Fair Tax.

No retailer is going to helpfully hide the cost the way FairTax people want them to do by using "tax inclusive" prices.

I hate using Europe as an example, but retailers have done just this in European countries for a long time. Plus, it will be the law to require prices to be listed "tax inclusive", so businesses will have no choice. Of course, there's nothing stopping them from reporting exactly how much of that price was due to the Fair Tax on the receipt, as a convenience to their customers.

The "tax inclusive" policy is not meant to hide the tax from the people. It is done for one reason: economics. Tax inclusive pricing will facilitate the drop in retail prices predicted to occur after the Fair Tax is implemented (you'll have to ask an economist to explain this). Also, since the Fair Tax is replacing the income tax, which is also inclusive, it must be inclusive as well, in order to more smoothly and transparently balance the effect of dramatically increased personal incomes.

Also, since only goods sold at retail are taxed, it is necessary to promote a "level playingfield" in terms of new vs. used goods. If businesses keep advertising the prices of retail goods "tax exclusive", it will be more difficult for sellers of used goods to raise their prices by the appropriate 30% (23% on an exclusive basis). Sellers of used goods cannot claim that 23% of their price goes to the Fair Tax, because their goods are not taxed. However, economics dictates that if the cost of new goods is increased by a certain percentage from the Fair Tax, the price of used goods should increase by the same percentage. Exclusive reporting would make this more difficult, simply due to public perception - they would see new prices advertised as lower than the true cost (i.e. without the Fair Tax), while used prices would be advertised as the full true cost.
12.30.2007 12:58pm
m4cph1sto (mail):
The biggest problem I have with the fair tax is that ... prices will jump up high initially, but will eventually reach equilibrium and come down. The typical answer as to how to cope with this? Just don't buy anything major for a few years.

Yes the day after the Fair Tax goes into effect, prices will probably go up. However, if businesses are smart, they'll calculate ahead of time their projected savings under the Fair Tax, and lower their retail prices accordingly, to obtain a competitive advantage. So in reality, prices won't increase as much as you'd think on that first day. As those savings become more real for businesses, they'll drop their prices even more.

As for people not buying things: so let's say prices go up by 20% on that first day. But at the end of that week, people will get their full pay check for the first time in their lives - no deductions for income tax, social security tax, etc. Average personal income will go up by about 20% as well. So what happens? People will buy the same items they'd normally buy, with the extra cost of goods balanced by their extra income. The only change will be the point at which the taxes are collected: instead of being deducted from income, taxes will be collected when that income is spent.

Of course this is a slight over-simplification, but even so, the point is that there will be no cutback in consumer spending.
12.30.2007 1:13pm
uh_clem (mail):
The "Fair Tax" is a living proof that no idea, no matter how impractical or disconnected from reality, is so absurd that it won't get support from a certain constituency as long as it's labeled as a "conservative" idea.

The irony, of course, is that the plan as proposed would create a gigantic federal bureaucracy to distribute regular checks to low-income households which would dwarf FICA, AFDC, Medicare, etc. Is this a "conservative" plan? Is Eugene the Pope?

Just like the 23%/30% ruse, calling this plan "conservative" is (to paraphrase Eliot Reed above) so severely misleading, to the point where I'd just call it a "lie".

I won't further waste everyone's time by debunking what's already been thououghly discredited.
12.30.2007 1:15pm
Dave Hardy (mail) (www):
"So whatever it's other virtues, the FairTax will lead to a fairly massive shift of the tax burden from the wealthy to the middle class."

I would think that undeniable. If one of the benefits claimed for it is that it encourages investment rather than spending, necessarily it must move tax burden away from those who invest larger portions of their income (i.e., have income left over after meeting the necessities) and toward those who invest less (i.e., those who have less left over after buying necessities of life). Hard to both reward investment and avoid regressivity.
12.30.2007 1:23pm
CDU (mail):
How many incidents have you heard of in which a business was targeted for suspicion of cheating on a state sales tax?
I think a better example here would be taxes on cigarettes. In many states the combined state and federal taxes on tobacco products make up about the same proportion of the total cost per pack as the FairTax proposal would on all sales. Because taxes make up a much larger proportion of the price, there's a much bigger incentive to cheat. A seller doesn't have much incentive to break the law to get the extra 5-7% state and local sales taxes represent, but 30% (quoting the exclusive rate here since we're comparing to sales taxes) is a much bigger incentive. The cigarette tax experience bears this out. If you look at cigarette taxes in high tax states, cheating is a much bigger problem than it is with sales taxes.
12.30.2007 1:24pm
m4cph1sto (mail):
Just don't buy anything major for a few years.

I forgot to mention, it's my feeling (and that of most Fair Tax supporters) that retail prices will begin to drop in a matter of weeks, not years. Before the Fair Tax goes into effect, businesses will of course try to calculate the projected financial impact. They will know a ball-park figure for how much they'll save (e.g. from reduced cost of compliance), and they'll lower their prices accordingly on the very first day of the Fair Tax, to gain competitive advantage. Within 2-4 weeks, as consumers start taking advantage of their higher incomes, and the business savings become more real, prices will drop further and soon level off at pre-Fair-Tax levels.
12.30.2007 1:30pm
CDU (mail):
Within 2-4 weeks, as consumers start taking advantage of their higher incomes, and the business savings become more real, prices will drop further and soon level off at pre-Fair-Tax levels.
This I really don't buy. If FairTax is revenue neutral, then the government is sucking the same amount of money out of the economy both before and after. There may be some net savings for both companies and individuals in not having to document income, distribute W-2 forms, and pay tax preparers (H&R Block is going to take a hell of a hit) but the elimination of transaction costs like that are a few percentage points at most, nowhere near 23%. There's just no way that people are going to have 23% more income without prices rising by an equivalent amount.
12.30.2007 1:43pm
m4cph1sto (mail):
the plan as proposed would create a gigantic federal bureaucracy to distribute regular checks to low-income households which would dwarf FICA, AFDC, Medicare, etc.

This is another common misconception. The Fair Tax doesn't create a new federal bureaucracy. It replaces the IRS with a new, dramatically smaller, and simplified federal service to do three things: keep track of revenues (much easier than with the current system), monitor compliance (easy - it's just a sales tax), and distribute the monthly "prebates". I'll address this last task in detail. Compare the distribution of a single, fixed amount of money to every adult with a social seciruty number (with a single, smaller amount per dependent child) under the Fair Tax, to the current system employed by the IRS: a system of tax refunds with deductions so complex no single person understands it completely, with every american getting a different amount, with rampant fraud that necessitates an endless cycle of audits and recalculations.

As a final point of argument, the prebate checks are distributed to everyone, not just low income households.

I don't understand how detractors can make such misleading comments about the Fair Tax, to say that it would increase the complexity and buraucracy of tax collection, when the fact that it would do just the opposite is so obvious.
12.30.2007 1:51pm
CDU (mail):
I don't understand how detractors can make such misleading comments about the Fair Tax, to say that it would increase the complexity and buraucracy of tax collection, when the fact that it would do just the opposite is so obvious.


The reason FairTax gets so much opposition on this score seems quite simple and obvious to me. As much as fiscal conservatives and libertarians hate the IRS, they hate entitlement programs even more.
12.30.2007 1:58pm
byomtov (mail):


So supporters of the Fair Tax argue that people will simultaneously:

Pay just as much in taxes as they do now (It's revenue-neutral)

Spend just as much as before (Because they will get their full paycheck)

Save more (It encourages savings and investment)


Quite a trick. It's almost as good as self-financing tax cuts, and about as realistic.



Exactly.
12.30.2007 2:21pm
mga (mail):
Suppose the so-called Fair Tax were enacted and, in some fashion, the existing income tax was repealed. Does nayone in his or her right mind have any doubt that the Democrats would reimpose an income tax as soon as they regained power? Or that they would repeal the Fair Tax when reimposing the income tax?
12.30.2007 2:49pm
CDU (mail):
Another transition problem. AK and Public_Defender already mentioned the double taxation of pre-transition savings (you paid income taxes when you saved it and will pay the sales tax when you spend it). However, there's also a mirror image problem with stuff bought on credit. The day before the transition I could buy a bigscreen TV with my credit card (paying neither the national sales tax nor using already taxed income to purchase it). Then I use the extra money in my first paycheck after the transition to pay off the credit card. I've just prevented the government from collecting taxes on either end of the transaction. I could make even bigger purchases (like a house or car) if I were willing to pay interest on my borrowed money for a while. The interest payments do make this less appealing, but the potential 23% gain is so big, it probably makes this strategy appealing nonetheless.

I'm sure a lot of people will realize this if the FairTax were actually implemented. I foresee a huge binge of credit fueled purchases in the weeks and months before the tax goes into effect, followed by a huge dropoff in consumer spending for a year or more afterwards as everyone pays off their pre-transition purchases. That sort of post-transition spending slump could wreck the economy and would lead to a huge first year budget deficit as the government doesn't get the sort of sales tax revenue it expected.

The FairTax supporters seem to be envisioning a 'transition day' when everything would change all of a sudden. However, if nothing else, this discussion has convinced me that FairTax (or any radical change to our tax system) would probably best be implemented through a more gradual transition than all at once. For FairTax I'm envisioning something like a national sales tax that goes up one percent per quarter for 7.5 years with commensurate reductions of income taxes and a gradual phase in of the payments.
12.30.2007 3:02pm
Smallholder (mail) (www):
Bill R. wrote:


ha, spoken like a true blind beet farmer "home owner".


Heh!

Actually, I'm a farmer who opposes farm subsidies - I think the free market would do preserve more family farms than guvmint-teat-sucking-agribusiness.

But I am a homeowner - and part of my drive to buy my first (and subsequent) houses was the knowledge that homeownership was a favored investment. The government mortgage deduction makes the actual cost of borrowing money cheaper, so that the monthly payments for ownership compare more favorably with renting. The knowledge that you can cash out capital gains tax-free if you downsize is also a solid motivator. I could be wrong, but my understanding is that the pro-homeowning policies of the government have contributed to the fact that we have the highest homeowning percentage in the world.

The reasons I support the continuation of the homeownership deductions is not because it is convenient for me or for other current homeowners. Homeowners are better for society. They are more involved in the community, likely to join the neighborhood watch, support the local schools, etc. Hopefully some of that participation is altruistic, but there is a real financial incentive: your major investment will be worth more if it is located in a pleasant community with low crime and good schools.

As evidence that I'm not just supporting blind beet farmers homeowners out of personal financial incentive, allow me to note that I am totally opposed to the landlord deductions which I currently enjoy. If tax policy didn't subsidize land (slum?) lording, I'd sell my rental property. Then the home would be owned by an occupant and society would reap the benefits. If more rentals went on the market for sale to owner-occupants, the price would fall slightly (again favoring purchase by potential homeowners), and rents would go up - again pushing people toward the financial security of homeownership.

You may not agree with my pro-homeowning policy predilection, but if you want me (and like-minded people) to support the fair-tax, you have to convince me that we are not going to harm home ownership rates.
12.30.2007 3:14pm
Elliot123 (mail):
When people talk about embedded taxes in prices, do they mean the income taxes paid by the producers and retailers which come from the sales revenue?

If so, since business income tax is computed on profit rather than revenue, wouldn't we need to know 1)total national sales, and 2)total business income tax? That would tell us what percentage of revenue went for business income tax. That would be the maximum amount of embedded tax available for elimination. Is there some reason to think it s 23%?
12.30.2007 3:20pm
Angus:
Anyone who thinks consumers will buy just as many widgets at $1.20 or $1.30 as they would buy at $1 has pretty much stuck a stick in the eye of economics. Apart from laws of supply and demand, there is consumer psychology involved.

In my family, we'll pay $2.50 for a 12-pack of soda when it is on sale, but we'll be damned if we'll buy even a single 12-pack for $2.99, the normal price. Too damned expensive. I know a lot of people are that way about product prices: X amount and no more or I'm not buying.
12.30.2007 3:25pm
stanneus :
I'd like to offer a friendly amendment to LOREN's observation about the anesthetizing effect of withholding of taxes under our current system. Withholding was devised in 1942 or 1943 to accelerate the receipt of tax revenues so as to fund the enormous costs op WWII. Of course, the government didn't repeal this honeypot at the end of the war, and nowadays 70% of all individual (as opposed to business) taxpayers are already anesthetized to the true burden of taxation — thanks to the withholding feature of our tax system. Were wage &salary earners to receive their full pay, undiminished by tax withheld, they would then actually have to sit down and write checks to the government. Taxpayers who must deplete their bank accounts of monies they had deposited there are much more likely to hold their government to strict account for its spending than taxpayers who never had that money in their pockets at all. Nothing sensitizes a taxpayer to the cost of government more directly than taking money out of his own pocket — physically — and putting in the government's. What is more, taxpayers are encouraged to authorize unnecessarily high withholding amounts, and for those taxpayers, April 15 is not moment of rueful reflection and resentment, but of joy: it's refund time. The withholding feature of our system tells 70% of the citizenry that taxes are not only painless but joyful, even enriching. The national sales tax proposals are no stronger anesthesia than the withholding system already is.
12.30.2007 3:25pm
hattio1:
Wow,
The more I hear about the Fair Tax proposal the stupider it sounds.


First, as to the "prebate" being simple and hard to cheat on. Who are you kidding? I worked with a guy who claimed 10 children and a wife as dependents. He had zero children. Extra dependents are easy to claim. And you have the problem of allocating the "prebate" between mom and dad in shared custody arrangements. I know Mike Huckabee would like to pretend it's all nuclear families out here, but it just ain't so. And I'm really shocked on a law blog that no one has mentioned this 85 + comments in


Second, the way to cheat around the Fair Tax is simple...set up a business. If I set up a business cutting my neighbor's lawns, I can buy all necessities for that business, and all my personal expenses, under that business name and avoid paying taxes. What??? You don't think ice cream is a necessary business expense for lawn care??? Welcome to an IRS style enforcement regime, and there go all your savings. Plus, as always, the rich will have both the best incentive, and the greatest ability to cheat. Why pay sales tax on the cost of your butler and you food? Pay the butler to set up a "complete home needs" business where he does all of your shopping for you, and charges it to you as a business expense.

Third, the notion that businesses will immediately reduce their prices by 23% or so. This has got to be the one thing that shows how little thought was put into this proposal. Walmart already has warehouses full of stuff they paid full price for. Their shelves are full of stuff they paid full price for. They CAN'T reduce prices by 23% unless they're willing to take losses for the amount of time it takes them to empty their warehouses. If this defense is the best you can come up with, it makes me question the entire idea of a Fair Tax.
12.30.2007 3:50pm
Dave Hardy (mail) (www):
Not that the Fair Tax sounds appealing to me, but since I do both sales and income taxes for my businesses, I can say the sales tax is much simpler. Once a month you take total sales - out of state sales x 6.1%, and send the money in.

With income tax, calculate withholding for each employee (luckily, I'm the only employee), pay monthly. Different rules on that, BTW, depending upon total income tax liability (usually it's 15th of the next month, but go above a certain level and it's within x days of the paycheck).

Then you do a quarterly report, breaking it all down between income tax, SSI, Medicare, and by the month. And if you have low-income employees, accounting for that negative tax, I forget what it's called.

Then you do an annual report.

Then repeat the process for the State.

Then at end of year you do annual reports, adding up the quarterlies, State and Fed, and file a W-3 and W-2s with the Social Security Admin, showing total withheld for all employees, plus W-2s to each employee.

Mind you, all this COULD be cut down. If you filed four quarterlies, why file an annual, too? And why not just have IRS give its data to the SSA? For that matter, since this State anyway says you just withhold 19% of your federal income tax withholding, why shouldn't the state accept the federal form plus a check for 19% of the federal withholding? In short, it could all be reduced to four federal quarterlies, I think.
12.30.2007 4:16pm
m4cph1sto (mail):
Third, the notion that businesses will immediately reduce their prices by 23% or so. This has got to be the one thing that shows how little thought was put into this proposal. Walmart already has warehouses full of stuff they paid full price for. Their shelves are full of stuff they paid full price for. They CAN'T reduce prices by 23% unless they're willing to take losses for the amount of time it takes them to empty their warehouses.

Under the FairTax, goods that are currently in inventory (e.g. all the stuff in WalMart's warehouses) when the tax goes into effect are to be sold tax free. So that solves one of your concerns.

Second, the way to cheat around the Fair Tax is simple...set up a business.

This is part of the FairTax that I'm less familiar with. From my understanding, the only goods that are not taxed are those sold at wholesale. This is to prevent double-taxation. All services are taxed. So if your butler sets up a business, buys all your groceries as a business expense, he'd still pay the FairTax on the groceries, and you'd pay the FairTax when he bills you for his services. Even the government will have to pay the FairTax on its purchases of goods and services.

The only way I can see to cheat the FairTax is for a company to abuse the wholesale system, for example by purchasing items wholesale but not reselling them. If someone knows of how the FairTax system will address this, I'd love to be informed. My thought is that there'd have to be some enforcement mechanism. But monitoring and enforcing this one issue should be trivial compared to the task the IRS has now, with our current tax code providing endless opportunities and methods for cheating the system.
12.30.2007 5:16pm
CDU (mail):
This is part of the FairTax that I'm less familiar with. From my understanding, the only goods that are not taxed are those sold at wholesale.
The way most states currently do it, even goods bought at retail can be bought free of a sales tax if they are bought by a business. However, the process is so cumbersome that a lot of businesses just go ahead and pay that tax on most items they buy at retail, since the hassle of getting the sales tax exemption isn't worth it for 5-7% when you're making relatively low cost purchases (office supplies, or a new sawblade for a contractor). They just pass the cost on to their customers. If the tax rate were 30%, there would be a lot more incentive to use the exemption (and to set up a business to get the exemption even if you aren't entitled to it). Since the FairTax folks say they'll piggyback use the current state systems of collecting sales taxes, I assume they'd have to use the same sort of setup.
12.30.2007 5:25pm
Smokey:
Just about any tax system would be better than the one we groan under now. But I have a question for the proponents of the Fair Tax:

Is there any mechanism in the Fair Tax that would make it difficult for Congress to raise the initial 23% to 24%, then to 29%, then to 37%, then to 51%?... It sounds just like the UN's ravenous World Tax [aimed directly at U.S. taxpayers] -- which would begin at ''only'' .7% of our GDP, and continue up, inexorably and forever.

Human nature being what it is, that 23% is simply the starting point. You see, there are homeless children who need our help! And blind beet farmers, etc., etc., etc., ad infinitum.

Who represents the average taxpayer?? Anyone?
12.30.2007 5:29pm
hattio1:
CDU,
Here in AK just about everybody uses the sales tax exemption. All you have to do is show your business license. Stores have no real incentive to check that the person's purchases are the sort that they would use in their business, and every incentive not to (since refusing to give the exemption would just send their business to their competitor).


m4cph,
The problem with your plan is what was pointed out by CDU, whether you are buying "wholesale" or "retail" (for sales tax purposes) is not controlled by what store you go to, but rather by what you claim you are using the goods for. In other words, either the system is set up so the butler can get the tax exemption, or that a restaurant can't, but you can't really set up the system to charge the butler and not charge the small business man.
12.30.2007 5:36pm
CDU (mail):
Here in AK just about everybody uses the sales tax exemption. All you have to do is show your business license.
Given the differences between states, YMMV. Of course, this opens up a whole other can of worms involving using widely differing state sales tax systems to collect a nationally uniform federal tax. If all enforcement is passed off to the states, a state could quite easily make its lack of diligence in collecting the federal tax an attractive feature to induce individuals and businesses to relocate there (and bring in retail business from out of staters). That all assumes that state governments will be willing to collect federal taxes in the first place.
12.30.2007 5:44pm
m4cph1sto (mail):
hattio1,
You're right that the "wholesale" versus "retail" situation is pretty messy. The issue is addressed here. It is definitely an opportunity for people to cheat the system, but this is understood by the writers of the bill, and it seems steps have been taken to minimize fraud. In the end, I still believe that even if there is some predictable amount of fraud, it will be less severe and more easily dealt with than what we have under our current system. If this issue is someone's main argument against the FairTax, I don't think it's a very good one. It's certainly not a deal-breaker.
12.30.2007 6:03pm
Eli Rabett (www):
No we never see prosecutions for sales tax fraud in


Tennessee
dc and about everywhere else.

This is a very popular way for restaurants to go out of business. Once they catch you cheating on sales tax payments the tax folk will charge you on their ESTIMATE of you business and you are cooked.

BTW shall we now cut off posting on this thread or do you want to continue playing:)
12.30.2007 6:24pm
Eli Rabett (www):
No we never see prosecutions for sales tax fraud in


Tennessee
and about everywhere else.

This is a very popular way for restaurants to go out of business. Once they catch you cheating on sales tax payments the tax folk will charge you on their ESTIMATE of you business and you are cooked.

BTW shall we now cut off posting on this thread or do you want to continue playing:)
12.30.2007 6:29pm
Owen Hutchins (mail):


Under the FairTax, goods that are currently in inventory (e.g. all the stuff in WalMart's warehouses) when the tax goes into effect are to be sold tax free. So that solves one of your concerns.

So a large company that can afford to carry a large inventory, or even run up their inventory before it goes into effect, gets a great bonus, while small companies don't. Got it.

I think the most telling part is how the tax burden is shifted (perhaps I ought to say, "shafted").
12.30.2007 6:55pm
Dan Weber (www):
<blockquote>First, as to the "prebate" being simple and hard to cheat on. Who are you kidding? I worked with a guy who claimed 10 children and a wife as dependents. He had zero children. Extra dependents are easy to claim.</blockquote>
Sure, he did this on his W-4. But he still had to pay the taxes when he filed.

I assume we've all read <i>Freakonomics</i> and the part where several million children disappeared when the IRS required SSN's for dependents.

As for consumption going down once it is taxed... well, yes, it will. Just like income goes down when it's taxed. If you have to tax <b>something</b>, it's better for that to be consumption rather than production.

<blockquote>In my family, we'll pay $2.50 for a 12-pack of soda when it is on sale, but we'll be damned if we'll buy even a single 12-pack for $2.99, the normal price. Too damned expensive. I know a lot of people are that way about product prices: X amount and no more or I'm not buying.</blockquote>

Yeah, I refuse to pay more than $2 for a gallon of gas, too. You should ask my wife how that's working out for me.
12.30.2007 7:27pm
Duffy Pratt (mail):
M4cph1sto:

Are you sure about all services being taxed? Does that mean that employers pay tax when they pay their employees? That's not the way I understood it.

Also, I think you are naive if you believe that there will only be one kind of cheating on the fair tax. What will the line be between collateralized instruments and investments? If a factor issues credit that is secured by inventory, when would the fair tax come into play on the factor's services? That may not be the best example, but the distinction between stuff and investments is not the bright line that many people might think it is. Is a person who trades sporadically in antiques an investor (non-taxable) or is he just keeping inventory (taxable).

And cash transactions (now often used to bypass the sales tax) will be used quite a bit to bypass the federal sales tax. There will also be difficulties with barter. When there is a barter transaction, someone is going to have to decide what the fair market value of the goods/services being bartered is.

Now think of trades or exchanges. Suppose I agree to trade some vegetables I've been growing in my backyard for some beer that my neighbor brewed? Who pays the tax? How much? How does the government figure this sort of thing out?

I'm not saying that the new system would be more complex than what we've got. But its sort of pie in the sky to think it would be simple, even before Congress starts writing in the loopholes.

Finally, not too long ago the economist all predicted that we'd have a trillion dollar surplus, assuming a tax system that everyone was familiar with. The idea that anyone knows what would happen to the economy if the fair tax was adopted is simply blowing smoke. The track records of the people who _know_ these sorts of things is less than exemplary.
12.30.2007 7:56pm
m4cph1sto (mail):
Duffy Pratt,
You're certainly right, people will always come up with creative ways to cheat the system. The retail versus wholesale issue is just one of the most obvious.

Not all services are taxed, in the sense you implied. The FairTax defines which services are excluded - for example, normal business employers don't have to pay taxes when they pay their employees. In general, any service that someone bills you for, and "household services" are taxed.

And I agree, the fine line between "stuff" and "investments" is difficult to define. There is some language in the bill to define it, but there's always some leeway - just like in our current system.

For barters and exchanges, the FairTax bill also employs specific language to define how taxes should be paid. If goods are given in exchange for a service, the provider of the service is required to pay the FairTax, which would be 23% of the normal cash rate for the service. For barter transactions of goods, in which one (or both) of the members is a "registered seller" with the state, he would pay the FairTax amount for the what he would normally have sold the goods for. If the transaction involves two private citizens trading apples for oranges (or whatever), nobody would be required to pay the FairTax. This would apply to your situation of trading your home-grown vegetables for your neighbor's home brew. This transaction would not be taxed (to do so would be ridiculous).

As with our current income tax, goods and services will always be bartered/traded/provided "under-the-table". It's not the objective of the FairTax to get your child to pay the tax on the sales from his lemonade stand. The point is that, even given a fair amount of reasonable leeway (e.g. the lemonade stand), and some expected amount of fraud, the tax revenue would still be enough to replace the income tax, and there would be considerably less fraud than under an income tax system.

In my mind, the best argument in favor of the FairTax is the benefit it would have on U.S. business and industry. I'd like to think that there would be a significant influx of all kinds of business, commerce, and manufacturing operations into the U.S., for the obvious reasons that investment and profit would all be tax-free. Goods manufactured in the U.S. would have an automatic price advantage in foreign markets, since they won't be taxed at all in the US. It would sure go a long way to help rectify our trade deficit.

The VC is probably the wrong forum in which to have such a detailed debate on this topic, but it's still been very interesting!
12.30.2007 11:39pm
CDU (mail):
In my mind, the best argument in favor of the FairTax is the benefit it would have on U.S. business and industry. I'd like to think that there would be a significant influx of all kinds of business, commerce, and manufacturing operations into the U.S., for the obvious reasons that investment and profit would all be tax-free. Goods manufactured in the U.S. would have an automatic price advantage in foreign markets, since they won't be taxed at all in the US. It would sure go a long way to help rectify our trade deficit.


I'm afraid the math on that doesn't work. As long as the tax is revenue neutral, the money the government sucks out of the economy has to come from somewhere. Manufacturers may not pay taxes directly, but they'll have to pay their employees more to account for the portion of the tax burden that gets shifted from corporate taxes to sales taxes paid by individuals. Unless it causes the U.S. standard of living to drop, FairTax is going to exacerbate the wage gap between the U.S. and other countries for manufacturing, offsetting any savings on the corporate tax front.
12.30.2007 11:51pm
Bill R:
Smallholder,
You may not agree with my pro-homeowning policy predilection, but if you want me (and like-minded people) to support the fair-tax, you have to convince me that we are not going to harm home ownership rates.
I think this is one of the "transition" problems just like inventory and existing "post tax" savings. I honestly don't know how to fix it, but I've not given the solution much thought. These transition issues are my primary concern with the "fair-tax". It doesn't seem that the "fair-tax" is a deterrent to home ownership as prices should drop to reflect it. The cost of land and housing in popular urban areas seems to be driven mostly by the ability to pay -- not by the inherent cost of the raw land or construction.

In the case of a mortgage deduction, perhaps some sort of phased out grandfather clause would help existing home owners though - such as phasing out the mortgage deduction on existing or "dollar-for-dollar" refis at 5% a year so in 20 years it's gone - let inflation and the government help out together. This would also encourage folks to stay in their current homes with their current mortgage levels and thereby prop up the housing market a bit for a while to spread the impact more. This won't help the loss of capital caused by the drop in home prices due to the elimination of the mortgage deduction, but there's probably no way to solve this -- the home builders and people who already sold their homes have already taken this government subsidy -- sometimes folks are left holding the bag when they rely on subsidies and life just isn't always fair. In order to ride out the transition, many smart folks will bail out on their homes and rent once the "fair-tax" looks more likely to become law.

(Actually, I'm not convinced "home ownership" is always a laudable national goal. It tends to artificially lock people into the regional job market where their home is. Since we no longer have a system where one goes to work for one employer in a "one-industry" town and stays for life, the notion of "home ownership" as a virtue may not be as appropriate now.)
12.31.2007 3:23am
j_a:
I should be surprised, but of course I am not.

Most of the technical issues and problems of the Fair Tax discussed here -such as cheating, compliance, retail vs. wholesale, etc.- have been solved in most of the world, by a very similar an effective system: the Value Added Tax

the Fair Tax is not more than a weird, fumbled up VAT. The VAT has been implemented, analyzed, transitioned into, etc. in scores of countries, an all these issues have been tackled on. We should do the same, instead of trying to invent a new -and more complex- system.

As anyone that has managed a business in a VAT environment can attest (I have done that twice in my life), the VAT compliance process is quite simple and relatively inexpensive, and far less prone to cheating that the Fair Tax will ever be.

But of course, it would mean America learning from the rest of the world (including -shudder- France). That will never do.
12.31.2007 7:11am
Tony Tutins (mail):
In the case of a mortgage deduction, perhaps some sort of phased out grandfather clause would help existing home owners though .... This would also encourage folks to stay in their current homes with their current mortgage levels and thereby prop up the housing market a bit for a while to spread the impact more.

I dunno. The Reagan-Rostenkowski income tax reform team twenty years ago couldn't manage to do away with the mortgage deduction, although they slashed most other deductions. Whether rational or not, it is a sacred cow. Homeownership is part of the American story, like the melting pot welcoming immigrants, who are able to succeed in ways they never could back home, and whose kids are Americanized by our universal public schools.
12.31.2007 10:28am
Robert Lutton:
j_a

the Fair Tax is not more than a weird, fumbled up VAT. The VAT has been implemented, analyzed, transitioned into, etc. in scores of countries, an all these issues have been tackled on. We should do the same, instead of trying to invent a new -and more complex- system.


Uh...j_a, you miss the point. If the proponents of the "fairtax" admitted to themselves that Europe had an equivalent system and it did not result in the successes promised for the "fairtax", then they would have to admit their idea is not so wonderful after all.

1. Prices did not return to pre VAT levels
2. Businesses did not flock to the VAT-zone
3. Savings are higher and consumption is lower....but is that really good for the economy? It is probably good for individuals but I don't think it is good for Capitalism.....at least that is not how it has played out recently. High consumption countries have kicked the ass of the high savings countries.
12.31.2007 10:33am
J. F. Thomas (mail):
Within 2-4 weeks, as consumers start taking advantage of their higher incomes, and the business savings become more real, prices will drop further and soon level off at pre-Fair-Tax levels.

But as noted above, what the fair-tax will mean is a massive shift of the tax burden from the upper quintile (who will see their taxes drop almost 20%) to the bottom 80% of the the tax base. The barely progressive tax system we have now will become truly regressive. People who spend most of their incomes on living expenses will be the subjected to the highest tax burden while those who are able to afford luxuries (or even buy expensive goods outside the country) will be able to avoid the tax altogether.

Will real estate transactions be subject to the fairtax? If so, not only will the mortgage deduction (the biggest single tax break for most middle class families) disappear, but the value of real estate will decline (because the value of real estate will not reflect the value of the mortgage deduction) while the transactional cost will increase by 28.7%.

And btw, I don't know where these people learned math, but a $23 tax on a $77 purchase is 28.7%. It's not 23% and it's not 30%, I don't care if you call it "inclusive" or "exclusive" or how you try to finesse it.
12.31.2007 10:57am
J. F. Thomas (mail):
And the idea that businesses will be able to absorb a 28.7% tax (especially low-margin businesses like food and electronics where profit margins are often less than 5%) and prices would return to pre-tax levels is patently absurd
12.31.2007 11:07am
tcg:
JF Thomas, a quick, neutral answer to one of your questions re real estate:

The FairTax would apply to only newly-constructed homes. It would not apply to the sale of a home from a private individual/family owner to a new private owner. Same with cars, and theoretically every other piece of property, real or tangible personal.

You're welcome to interpret the consequences of that for yourself, and please share your thoughts as we all try to decide what we think of the FairTax. FWIW, most analysis I've seen concludes that the "value" of old homes will increase because new homes would be taxed, but I'm not sure how many of those included a detailed consideration of the effect of the mortgage deduction.
12.31.2007 1:03pm
Duffy Pratt (mail):
m4cph1sto:

Thanks for the reply.

Basically, in taxation, wherever government draws a line, there will be litigation on what falls on which side of the line. And, exchanges between people is exceedingly complex. It may be that the sales tax would be simpler than the income tax system. But I don't think that is immediately obvious, and it would depend on how many loopholes congess put into the tax, and how aggressive the revenuers would be in enforceent. I think the Fair Taxers are a bit pollyannish on both counts.

In Texas, whether the sale of a pumpkin is taxable depends on how the buyer will use it: for food, then nontaxable; as a jackolantern, then taxable. Of course, the seller has to collect the tax, and has no idea how the buyer will use it.

Similarly, a soup bone at a grocery store is non-taxable. The same bone sold at a pet store is taxable. (It's a matter of use again.) I know one person who considered divinding her store in half: one half selling high grade dog food, and the other half selling soup bones, all so she could keep the business she was losing to customers who were going to grocery stores to save the tax on the bones.

Conversely, I've seen several homeless people who eat dog food to survive. I wonder how many of them know that they are entitled to a state sales tax rebate? Or whether any class action lawyer has considered collecting those rebates (kind of hard to locate and notify the class, I would guess).

For years, companies have been trying to classify workers as independent contractors instead of employees, mostly to avoid paying benefits. For example, GE has entirely outsourced its IT department. They are all independent contractors. The fair tax might turn this upside down.
12.31.2007 2:08pm
David M. Nieporent (www):
The paperwork would pretty much already be done for state/local sales taxes in most places. In fact, the states could function as agents for the federal government and collect the Fair Tax for it, which would not only simplify the paperwork but encourage the states to adopt a Fair Tax of their own.
Two problems with that. Three, if you count the question of whether the states would be willing to act as tax collection agents for the federal government. First, some states don't have a sales tax at all. Second, as Bartlett points out, no state has anywhere close to as broad a sales tax base as the FairTax base needs to be, so they can't just tack their FairTax bill onto their federal taxes


Most businesses do this already for state and local sales taxes. How many incidents have you heard of in which a business was targeted for suspicion of cheating on a state sales tax? Probably none, right?
No, actually, I've heard about it plenty. A quick google found an example in about one second. Google "sales tax evasion" and you can see plenty.


The "tax inclusive" policy is not meant to hide the tax from the people.
I simply don't believe this claim. I think the idea that it's supposed to somehow match the income tax approach is disingenuity on the part of the FairTax proponents. The Fairtax is a type of sales tax; sales tax is never reported in the U.S. by the tax inclusive approach.
12.31.2007 6:09pm
David M. Nieporent (www):
And btw, I don't know where these people learned math, but a $23 tax on a $77 purchase is 28.7%. It's not 23% and it's not 30%, I don't care if you call it "inclusive" or "exclusive" or how you try to finesse it.
If you're going to insult people for getting things wrong, you might want to try getting them right. (This could be a standing suggestion to you here.)

Hint: redo the math, and come back.
12.31.2007 7:25pm
Elliot123 (mail):
As much as I dislike the income tax, I have to concede we do need to fund the government. All schemes have drawbacks. But I suppose I'd go for the flat rate income tax as the best of the flawed alternatives. All earnings from all sources multiplied by the same rate for everything.

Eliminate Social security tax since it's a sham with lockboxes and non-negotiable T-Bonds, and just lump everything together. It's interesting the new Eastern European economies are going for the flat tax. It's effective, easy to understand and administer, and very visible.
12.31.2007 11:18pm
tcg:
oh, and JF Thomas, the filthy rich (my phrase) who you say will just go buy stuff overseas to avoid the FairTax would have to pay the FairTax when they pass through US Customs. Someone who was involved in designing the FairTax thought of that possible loophole.

As I've said already, I'm squarely on the fence wrt the FairTax, and one of the things that really makes it difficult for me to decide is that most of the critics don't actually know all of the specifics of the FairTax and make superficial critisms of what they assume a national sales tax would entail. I think we're all better served in this debate by more complete knowledge of what the FairTax really does and does not do.
12.31.2007 11:35pm
CDU (mail):
oh, and JF Thomas, the filthy rich (my phrase) who you say will just go buy stuff overseas to avoid the FairTax would have to pay the FairTax when they pass through US Customs. Someone who was involved in designing the FairTax thought of that possible loophole.


We only look inside a few percent of the containers coming into the country, and that's looking for things a customs inspector knows on the spot are illegal like drugs, illegal aliens, and dirty bombs. Does anyone think we can examine enough of the individual packages coming in from overseas and figure out whether the proper tax has been paid on them to catch more than a tiny percentage of the tax free offshore websites that are sure to spring up if FairTax is implemented?
1.1.2008 1:25am
Smokey:
Conversely, I've seen several homeless people who eat dog food to survive.

Somehow, I doubt hat.
1.1.2008 4:22am
Duffy Pratt (mail):
Smokey:

Why do you doubt it. I've seen people do it in N.Y., and in Los Angeles. I doubt it was their entire diet, but one woman I knew lived out of a station wagon. It was packed to the gills with empty Alpo tins, and no doggie in sight.

The nutritional balance for dog food is not that far off from that for people. And the people I'm talking about are not necessarily the brightest bulbs in the first place.

You don't hear about sales tax audits for corporations because they are not very high profile, and they are not good publicity. They happen all the time, and there can easily be millions at stake, for a simple sales tax error. (For example, suppose a company is building a power plant. The state that it's building the plant in has a rule that consulting services are not taxable, but goods sold are. The company structures its bill with a huge consulting fee and really bargain basement prices for the goods sold. That's the sort of thing sales tax auditors litigate all the time.)

Does the proposed use tax, as applied to foreign transactions, give an allowance for VAT or other foreign sales taxes already paid?
1.1.2008 5:07am
ChuckR:

Does the proposed use tax, as applied to foreign transactions, give an allowance for VAT or other foreign sales taxes already paid?

Imported goods are subject to the fairtax. This levels the playing field since most foreign countries reduce or eliminate taxation of their exports. That gives them a huge advantage over domestically produced goods. The fairtax eliminates foreign imports' advantage.

See the answer in the fairtax faq.
1.1.2008 11:41am
Elliot123 (mail):
I am amused by the objections to adopting the fair tax because people may cheat or it may be complex. It may be a horroble idea, but we should probably contrast it to what we have now rather than some flawless ideal.

Now we have an income tax that nobody understands, with thousands of people who devote their professional lives to figuring out what it actually does. We have a Social Security tax that is regularly channeled to general revenue in exchange for non-negotiable bonds held in a file cabinet in West Virginia. We have a population bubble about to consume all current Social Security taxes, call all the non-negotiable bonds which must be paid from general revenue, and elimnate the Social Security loans to general revenue which have kept income taxes down. The Fair Tax proposal may be a bad idea, but compared to what?
1.1.2008 4:02pm
David Schwartz (mail):
The fair tax is just plain crazy. They propose dumping the entire compliance cost of the federal tax scheme on retailers and have the nerve to call it fair?!

If we used a pure retail sales tax as the primary means of financing the federal government, the small retail business will be a thing of the past. State sales tax compliance is hard enough (ever hit one digit off in your account number on California's state sales tax?) but Federal would be significantly harder. Basically, the difficulty scales with the amount of money, and a 30% tax is a lot more than a 7% tax.

If I had to handle so much Federal money, I never would have gotten into retail.
1.1.2008 5:18pm