FYI.
FairTax Facts
Wednesday, December 26, 2007
By: Leo Linbeck, Jr.
COMMENTARY from The Wall Street Journal Online, p. A10
Much has been written lately about the FairTax, the proposal to replace the current federal income tax with a national retail sales tax. Unfortunately, much of it is wrong.
This country needs a spirited and wide-ranging debate about fundamental tax reform. But that debate is not advanced by misimpressions and distortions of the FairTax. Let us then clear up a few.
One assertion about the FairTax is that it began as a project of the Church of Scientology at a time when it was seeking tax-exempt status. This is false. The FairTax actually comes to us from market research conducted more than a decade ago by a handful of business leaders. Their goal was to determine what type of tax system would be most acceptable to the American public. The studies they paid for cost millions of dollars, included hard economic research by respected scholars, and were subjected to critical peer review. The result is a proposal, since introduced as legislation in Congress, now known as the FairTax.
What emerged from this research is that a national retail sales tax is a preferred method of taxation among most Americans surveyed. Another is that the tax would have significant benefits for the nation's economy.
Why? Because it eliminates income taxes and payroll taxes (for Social Security and Medicare), which are costly to collect and end up as "embedded" in the price of everything we buy. Along with getting rid of the Internal Revenue Service and the complexities of the income tax code, the FairTax would eliminate the distorting effect that income and payroll taxes have on the economy.
Research on the price of consumer goods reveals that up to 20% of all prices today represent hidden income taxes and payroll taxes. Once these taxes are repealed and replaced with the FairTax, it is likely that market pressure would force retail prices to fall.
Eliminating embedded taxes will also do something else -- it will remove significant price disadvantages suffered by American producers competing with tax-free imports. Eliminating corporate income taxes and capital gains taxes, which the FairTax would do, would likely make the American economy the most desirable place in the world to do business.
Another benefit of the FairTax is that, unlike other sales taxes, it would not hit the poorest Americans the hardest. The FairTax proposal calls for sending every American a "prebate" check to offset the cost of the national sales taxes paid by those living in poverty. This feature would effectively exempt those living below the poverty line from paying taxes to the federal government, and provide all taxpayers with a reimbursement of a portion of taxes paid.
The FairTax rate is 23% on retail sales when calculated "inclusively," as are income tax rates. It will, in a fairer, more transparent and less-expensive way, raise the same amount of money the federal government now collects through the income and payroll taxes. Because it would be levied on consumption at the final point of sale, instead of on earnings, it would dramatically expand the tax base. The FairTax would collect revenue from the underground economy. Even illegal immigrants and the 40 million foreign tourists who visit the U.S. each year would pay it.
The distributional effects of the FairTax have been extensively studied, and although the proposal has distinct advantages for investors and wealth creation across the income spectrum, the greatest benefit of the FairTax is to low- and moderate-income Americans. The effect of eliminating regressive payroll taxes is commonly overlooked when analyzing the FairTax, but it would have a very significant impact, as these taxes represent the single largest tax burden on these income earners.
Significantly, the FairTax eliminates all loopholes, gimmicks, exemptions and deductions from the federal tax system. Under the FairTax, Congress would no longer be able to reward friends, punish enemies or manipulate behavior through the tax code. The FairTax would also eliminate the lucrative tax lobbying practices that represent more than 50% of all lobby dollars spent annually in Washington.
It's no surprise, then, to see that vested interests have argued against the FairTax and in favor of keeping the mortgage interest deduction. But wouldn't it be better for everyone to stop the IRS from withholding from paychecks; to see the price of new homes -- and all other goods -- drop by removing embedded costs; and to have interest rates fall as the savings rate increases? Is it really in everyone's interests to keep the income-tax system so that one-third of taxpayers can go on deducting a portion of their mortgage interest from their federal taxes?
There have been many tax reform proposals over the years, but most of them simply call for reforming around the margins of the existing tax system. The President's Advisory Panel on Tax Reform was assembled by the Bush administration and concluded its work a few years ago. Instead of seriously looking at the FairTax, the panel looked at a very different type of consumption tax, riddled with exemptions, and then declared that it would be too expensive and that the rate would have to be far higher than the FairTax rate.
Politically, the FairTax will only become law once enough citizens demand that it be enacted, overcoming the self-interest that members of Congress and others have in holding onto the current system. It is debatable whether a modern, citizen-led tax revolution is possible. But the growing popularity (even among presidential candidates) of the FairTax suggests that another Boston Tea Party may be at hand.
Mr. Linbeck is CEO and cofounder of Americans for Fair Taxation.
A couple of questions: The wealthiest Americans could avoid buying "big ticket" items domestically. How do you handle this? For many Americans their home mortgage deduction helps them afford the house they need for their family size. The removal of that deduction might result in devastating foreclosures that would make the current "crisis" look like a picnic.
Nothing was specifically mentioned regarding taxes for "capital gains" which is one of the treasured tax shelters the wealthiest have. Most at the upper levels of income have relatively small salaries, but have great stock, bond and property holdings that enable them to make huge capital gains at 10%-15% taxes. How is the elimination of these tax advantages (if it should happen) going to affect investment returns in this new system?
BAMANBLAZERFAN Wrote:A couple of questions: The wealthiest Americans could avoid buying "big ticket" items domestically. How do you handle this? For many Americans their home mortgage deduction helps them afford the house they need for their family size. The removal of that deduction might result in devastating foreclosures that would make the current "crisis" look like a picnic.
Nothing was specifically mentioned regarding taxes for "capital gains" which is one of the treasured tax shelters the wealthiest have. Most at the upper levels of income have relatively small salaries, but have great stock, bond and property holdings that enable them to make huge capital gains at 10%-15% taxes. How is the elimination of these tax advantages (if it should happen) going to affect investment returns in this new system?
BamaBlazer:
Good points and questions. While I've heard answers to your questions, I can't exactly recite the answers to you. Trying checking on fairtax.org.
As far as mortgage deductions go, I can't wait to not have one. In 2007, I paid $15K in mortgage interest to get about $4K back on my taxes. Not a good deal there. I hope to finish paying off my home by the end of 2008, to lose this deduction.
The fair tax is faux-small government conservatism at best. It over promises what it can deliver by counting benefits twice, and grossly understating the need for an enforcement agency. It also hurts people that have lived modestly and saved by forcing them to pay taxes on their savings twice. Once when the income was earned under the current system, and again when they spend their savings under a "fair tax" system. This might sound like a small thing, but with an entire generation preparing to retire its a fatal flaw. I'm including an article from "The Freeman", the author does a great job explaining the logical flaws behind the fair tax.
Quote:Sales, Flat, or Spherical, Tax Reform Isnt the Answer
By Gene Callahan
Lately there has been a flurry of interest in tax reform, typically aimed at making compliance less onerous, removing the incentive for special-interest lobbying, and reducing the size and intrusiveness of the tax-collection agency. While few people will reject those ends, that does not imply that the attempt to achieve them is the optimal use of the inevitably limited time and energy that citizens choose to devote to political activities. Of particular relevance to readers of this magazine is whether friends of liberty ought to focus on such reforms to forward the cause of freedom.
There are also schemes circulating for supplementing the current income tax with, for example, a sales tax or VAT (value-added tax), but such plans are unlikely to gain much support from libertarians, given that they pose the obvious danger of providing the government with an additional way to collect revenue. Since they threaten to merely increase the overall tax burden on society without offering, from a libertarian point of view, any compensating benefits, I will not address them in this article.
However, suggestions for replacing the income tax with a sales tax, or simplifying it by taxing everyone at a single rate and eliminating all deductions (a “flat” tax) have caught the fancy of some libertarians. The main attractions of these ideas are that substituting a sales tax or flat tax for the current income tax appears to ease the burden of tax compliance. A sales tax in particular does not seem to penalize savings and investment the way an income tax does, and the promoters of such policy changes contend that their new system of taxation will produce results closer to those that would come about on the unhampered market than does the existing apparatus.
One popular proposal along such lines has recently been described in The Fair Tax Book, coauthored by talk-show host Neal Boortz and Georgia congressman John Linder. Because of its prominence, I will use it as a paradigm for all plans of its kind. I believe that the problems it contains are endemic to other similar schemes; so my case against Boortz and Linder also applies more generally.
The authors under discussion present their alternative to our present system as a virtual cornucopia pouring forth blessings on the American people. Implementing their idea, they contend, will do away with the oft-reviled IRS, reduce the effort devoted to complying with the tax code to almost nil, greatly lift the living standards of the poorest Americans, reverse the trend of U.S. firms relocating overseas, and provide a tremendous boost to the nation’s economy. Clearly, if these promises are realistic, everyone should enthusiastically support their plan. However, a clear-sighted analysis of the proposal reveals that the case for predicting these benefits is constructed on a foundation riddled with wishful thinking and flawed logic.
For example, Boortz and Linder argue that their tax system will greatly boost the purchasing power of most Americans’ incomes, since it eliminates the portion of the cost of every good that currently stems from the seller’s tax burden. However, their argument relies on a ludicrous assumption as to where the incidence of present taxation actually falls: On the one hand, they claim that eliminating the income tax will reduce the price of what you buy roughly 20 or 30 percent because producers all pass the tax they pay on to you through higher prices. On the other hand, they also point out all the money you’ll save by no longer paying your own income tax. Apparently, unlike those involved in making everything you buy, you can’t just pass on that tax to others. It seems the incidence of the income tax falls entirely on one special segment of American society: the readers of The Fair Tax! The authors are guilty of counting the savings their readers will see from ending the income tax twice, once in the price of the things they buy and again in their own paychecks. In reality, getting rid of any tax will result in some combination of lower prices and higher incomes, the proportion depending on the particular circumstances of each case. But the total of the two effects will only sum to the gross reduction in taxation, and certainly not to double that figure!
Another supposed advantage of the Fair Tax is that, unlike the present situation where taxes are withheld from every paycheck, obscuring the share of one’s income that the government takes, the Fair Tax will be clearly visible, listed on every sales receipt. However, given that it would be a ubiquitous aspect of all one’s shopping, it is hard to see why its presence won’t fade from view just as readily as the income tax has through withholding. After all, workers today get a “receipt” with every paycheck that plainly shows how much of their salary went straight to Uncle Sam, but that has not solved the problem.
IRS Unnecessary?
Another curious claim on the part of the authors is that the Fair Tax will make the IRS unnecessary. Apparently, people will simply pay this sales tax with no need for an enforcement agency. No one will ever claim that what are really retail sales are wholesale, and no one will ever hide cash transactions from the government—all because we’ve changed how we collect a tax burden that remains just as large as it is today.
To illustrate the lack of realism on display, I’ll offer just one example of how the Fair Tax could be avoided (with a little imaginative effort the reader will probably be able to come up with many others): the tax is imposed only on final sales, meaning those to consumers, and not on purchases made by producers along the way to that end point. So let’s say some executive is tired of paying 23 percent extra—that’s the sales tax rate our authors envision—on everything he buys. The way around the tax is to have the firm pay for as much of his consumption as possible, by devising some way to portray buying the items as important business expenses rather than personal purchases.
Boortz and Linder will no doubt respond that such a practice will be illegal, but that’s not the point. To catch people at such a game requires an investigative body on the lookout for its taking place—the players are not going to turn themselves in, nor will those uninvolved easily spot the activity and report the participants to the authorities. Even with today’s comparatively low sales taxes imposed by state and local governments, it is common for small-business owners to offer a customer a discount for paying in cash, thereby splitting the savings from tax avoidance between the two parties. The Fair Tax rate, three or four times higher than its present counterparts, will promise a proportionally larger reward for successfully dodging it. Fair Tax advocates may not call the agency tasked with enforcing compliance with the new law the IRS, but they will surely require such an agency if they plan to maintain government revenue at anywhere near its current level, which is a crucial element in their sales pitch.
Moving Offshore
The contention that this kind of tax reform will stem the tide of American businesses relocating overseas relies on firms taking into account the tax impact of corporate decisions. If moving headquarters to some tax haven, such as Bermuda or the Cayman Islands , can significantly lower the firm’s tax costs, then the move is likely to get serious consideration. It is true, therefore, that eliminating corporate taxation, as Boortz and Linder propose to do, will be an attractive change in the eyes of multinational companies. However, executives do not consider only corporate taxes in deciding where to locate. The taxes they and their employees will personally have to pay, as well as the amount the local tax system adds to the cost of the products purchased within the country, are also relevant factors. Therefore, the best bet for a nation wishing to retain existing businesses and attract new ones is to have a low total tax burden, rather than to eliminate one form of taxation while seeking to completely offset the lost revenue by introducing a new method of collection.
To be fair to our authors, I will note that they also suggest their support for reducing the overall tax take, but they have decided to separate that issue from their tax proposal and focus on the latter, since they believe it would prove highly beneficial even without any tax cuts. This, I suggest, is a major error.
There is a subtle matter of economic theory, expounded by the great Austrian economist Ludwig von Mises, that is worth examining here since it has great bearing on the topic at hand. In his crowning work, Human Action, Mises points out that the actual burden of any tax is determined by the market process rather than by the taxing authority. The deep import of Mises’s contention can easily be overlooked because it seems at first glance to merely reiterate a standard lesson contained in introductory economics courses. It is commonplace for beginning students to encounter a demonstration of how the portion of a tax on, say, alcohol, that is paid by the buyer versus the portion borne by the seller is quite independent of the government’s decision as to which party is legally obligated to pay the tax. If, for example, there were only one supplier of alcohol, while drinkers’ demand for booze dropped very little in response to increased liquor prices, then the consumers would wind up bearing most of the burden of any new tax, even if officials assign the seller the responsibility for remitting it. Indeed, Boortz and Linder sometimes seem to grasp this idea, although they ignore it in contending, as I noted, that all the cost of the present income tax is passed on through higher prices.
But Mises’s insight goes well beyond the typical analysis. The mainstream textbooks analyze the market for the taxed good as if it were entirely self-contained, isolated from the rest of the economy. But in the real world the supply and demand for any good is deeply intertwined with the markets for all alternative goods and services that might be produced or consumed. That means that although legislators might be seeking to tax the alcohol industry, in reality it could turn out to be, say, truck drivers who are hardest hit, if liquor companies shift toward shipping by rail in response to their new cost. Or perhaps soft-drink manufacturers will be the group most affected, if consumers decide to forgo a few sodas a week to maintain their previous level of alcohol consumption at the now higher price.
One crucial ramification of understanding that the market determines the true incidence of a tax is that the particulars of how a government collects its revenues are of decidedly secondary importance. Of course, it is possible to design tax schemes so Byzantine that trying to comply with them is even more onerous than paying the taxes themselves. But in general the market process will distribute the true incidence of a nation’s tax system according to the cumulative dictates of individuals’ supply-and-demand decisions, thwarting policymakers’ dreams of directing the burden by top-down planning.
Another fundamental error common to tax-reform schemes like the Fair Tax is that their proponents evaluate the attractiveness of their favored plan in an ideal world where powerful and wealthy special interests won’t greatly influence its realization. They then compare that fantasy scenario with the messy reality of the tax code we have today. But any method of taxation that attempts to divert as much of the output of society’s productive activities into the coffers of the state as does the current one will inevitably prompt intense efforts by a multitude of parties to tailor the actual details of the system to their liking. I see no reason to imagine that their lobbying would not complicate any “reformed” tax code until it is as convoluted as what we have today. The only reform that is likely to avoid that fate is a dramatic reduction in the total tax take, thereby greatly decreasing the potential payoff of successfully tilting the system in one’s favor.
I don’t mean to rule out the possibility that one or another tax reform might represent a genuine improvement over the present situation. But the key question is whether such proposals deserve any significant portion of the necessarily limited attention that libertarians can devote to policy issues. A small reduction in the penalties currently imposed for drug crimes would no doubt be a step forward, but I suggest that focusing on such a goal would be a distraction from the real libertarian aim of repealing all laws violating individuals’ freedom to decide on their own what to eat, drink, and smoke.
Similarly, while the hope of achieving any large decrease in the level of taxation may appear remote today, that hope will only recede further into the distance if we dissipate our energy in marginal battles that, even if won, would leave the core of the problem untouched.
Those who desire to relieve the crippling effect that today’s massive states have on their citizens ought to focus on reducing the share of private wealth that governments are able to claim as their due. To instead concentrate on tinkering with the means by which that claim is effected is like a doctor treating a person for athlete’s foot even while the patient is suffering a heart attack.
The Freeman
The Fair Tax also relies on businesses lowering taxes when the income and capital gains tax goes away. And while you will hear proponents clamor and yell and scream that will happen, I guarantee it won't. When have you seen a business lower prices instead of simply taking the profit. Sure, prices will drop some to balance supply, demand, and price; however they won't drop an equal amount to the decrease in income taxes.
mixduptransistor Wrote:The Fair Tax also relies on businesses lowering taxes when the income and capital gains tax goes away. And while you will hear proponents clamor and yell and scream that will happen, I guarantee it won't. When have you seen a business lower prices instead of simply taking the profit. Sure, prices will drop some to balance supply, demand, and price; however they won't drop an equal amount to the decrease in income taxes.
Ummm....so?
Businesses will drop prices to whatever levels they're comfortable with in order to make money. That's the beauty of capitalism.
FYI: I'm not completely sold on the fair tax idea.
Buying big ticket items abroad usually doesn't save you any money... it costs you more. I have lived in several countries overseas and the prices are not cheaper on most items. My new flat screen tv that was $600 in the US is going for a cool $1400 in Mexico. Yes, the same tv. Computers, televisions, and especially CARS are much more expensive overseas. My water cooler that was $149 at Sam's Club in the US cost me $349 here in Mexico.
In Mexico there is a FIFTEEN percent tax on everything. In the Dominican Republic the taxes vary from 18% to 28% depending upon what it is. There is a reason why people from Europe always buy lots of electronics when they are in the US... it is MUCH CHEAPER.
dfarr Wrote:mixduptransistor Wrote:The Fair Tax also relies on businesses lowering taxes when the income and capital gains tax goes away. And while you will hear proponents clamor and yell and scream that will happen, I guarantee it won't. When have you seen a business lower prices instead of simply taking the profit. Sure, prices will drop some to balance supply, demand, and price; however they won't drop an equal amount to the decrease in income taxes.
Ummm....so?
Businesses will drop prices to whatever levels they're comfortable with in order to make money. That's the beauty of capitalism.
FYI: I'm not completely sold on the fair tax idea.
+1, except that I'm more sold on the fairtax than you.
BTW, How does the "fair tax" handle food taxation and prescription and OTC drugs? We have been criticized here in Alabama for not exempting these from sales taxes as they are in many states. These could be a real problem for many living today in marginal circumstances.
BAMANBLAZERFAN Wrote:BTW, How does the "fair tax" handle food taxation and prescription and OTC drugs? We have been criticized here in Alabama for not exempting these from sales taxes as they are in many states. These could be a real problem for many living today in marginal circumstances.
Go to Cuba and buy your drugs for pennies on the dollar.
dfarr Wrote:mixduptransistor Wrote:The Fair Tax also relies on businesses lowering taxes when the income and capital gains tax goes away. And while you will hear proponents clamor and yell and scream that will happen, I guarantee it won't. When have you seen a business lower prices instead of simply taking the profit. Sure, prices will drop some to balance supply, demand, and price; however they won't drop an equal amount to the decrease in income taxes.
Ummm....so?
Businesses will drop prices to whatever levels they're comfortable with in order to make money. That's the beauty of capitalism.
FYI: I'm not completely sold on the fair tax idea.
agree.
real world economy lesson.
no business actually pays taxes now. taxes, fees, licensing costs (all overhead) is 'passed on' to the consumer in the price of goods and services.
as president of a corp., I can assure you our prices include these.
when/if a 'fair tax' style tax is implemented, not all businesses will immediately roll back prices. only the reputable ones will. then the others will be forced [due to competition] if they want to stay in business. when/if the consumer doesn't see immediate price rollbacks, then you'll know which corps. NOT to buy from.
oldblazer79 Wrote:dfarr Wrote:mixduptransistor Wrote:The Fair Tax also relies on businesses lowering taxes when the income and capital gains tax goes away. And while you will hear proponents clamor and yell and scream that will happen, I guarantee it won't. When have you seen a business lower prices instead of simply taking the profit. Sure, prices will drop some to balance supply, demand, and price; however they won't drop an equal amount to the decrease in income taxes.
Ummm....so?
Businesses will drop prices to whatever levels they're comfortable with in order to make money. That's the beauty of capitalism.
FYI: I'm not completely sold on the fair tax idea.
agree.
real world economy lesson.
no business actually pays taxes now. taxes, fees, licensing costs (all overhead) is 'passed on' to the consumer in the price of goods and services.
as president of a corp., I can assure you our prices include these.
when/if a 'fair tax' style tax is implemented, not all businesses will immediately roll back prices. only the reputable ones will. then the others will be forced [due to competition] if they want to stay in business. when/if the consumer doesn't see immediate price rollbacks, then you'll know which corps. NOT to buy from.
Yep. The bar where I work is raising prices for the first time in 5 years due to the increased taxes in Jefferson County.
mobileblazer Wrote:dfarr Wrote:oldblazer79 Wrote:dfarr Wrote:mixduptransistor Wrote:The Fair Tax also relies on businesses lowering taxes when the income and capital gains tax goes away. And while you will hear proponents clamor and yell and scream that will happen, I guarantee it won't. When have you seen a business lower prices instead of simply taking the profit. Sure, prices will drop some to balance supply, demand, and price; however they won't drop an equal amount to the decrease in income taxes.
Ummm....so?
dfarr:
Which bar do you work at?
Businesses will drop prices to whatever levels they're comfortable with in order to make money. That's the beauty of capitalism.
FYI: I'm not completely sold on the fair tax idea.
agree.
real world economy lesson.
no business actually pays taxes now. taxes, fees, licensing costs (all overhead) is 'passed on' to the consumer in the price of goods and services.
as president of a corp., I can assure you our prices include these.
when/if a 'fair tax' style tax is implemented, not all businesses will immediately roll back prices. only the reputable ones will. then the others will be forced [due to competition] if they want to stay in business. when/if the consumer doesn't see immediate price rollbacks, then you'll know which corps. NOT to buy from.
Yep. The bar where I work is raising prices for the first time in 5 years due to the increased taxes in Jefferson County.
I'm at The Barking Kudu in Lakeview for the next 4 months until I move out of Birmingham.