The biggest economic change that Republican presidential candidate Mike Huckabee, who finished third in New Hampshire's Republican primary yesterday, is vying for is the FairTax. He wants to see everyone taxed on consumption rather than the confusing taxation that goes on now through the IRS. In essence he wants to do away with the IRS, which obviously would be a major change to the current tax system. Some would say that anything that calls for the disbanding of the IRS can’t be all bad, but let's take a look at a couple opposing views.
On the subject of the FairTax plan, Huckabee’s website said, “Our current progressive tax system penalizes us for working harder and becoming more successful. As we climb the ladder, the government lurks on each rung, hungry for a bigger bite out of our earnings. The FairTax is also progressive, but it doesn't punish the American dream of success, or the old-fashioned virtues of hard work and thrift, it rewards and encourages them. The FairTax isn't intended to raise any more or less money for the federal government to spend - it is revenue neutral.
Expert analyses have shown that the FairTax lowers the lifetime tax burden of all of us: single or married; working or retired; rich, poor or middle class.”
On the other side of the debate, here is one of several potential problems, presented in a recent article in the Boston Globe:
“Prices will rise. Finally, FairTax supporters assume away many of the problems with their plan by asserting that prices will fall by 22 percent once all income taxes are abolished. Prices at the checkout would be about the same with the FairTax as they are now, they say, but everyone would come out ahead because their net wage will now equal their gross wage.
If this were so, it's hard to see why the rebate is needed, since there seems to be only winners and no losers under the FairTax. In reality, for prices to fall by 22 percent, business costs would also have to fall by 22 percent, which means that all workers would have to take a 22 percent pay cut.
It's unlikely that workers would agree to this. It is far more likely that the FairTax will raise the price of everything by 30 percent. This has been the case in every country and every state with a sales tax. The idea that prices will fall is just a pipe dream.
The FairTax is unworkable. It is a fantasy to think otherwise.”
Will the FairTax really work, or is it just a pipe dream Huckabee is preaching? If Huckabee is elected president, maybe we will find out.
11 comments:
Prices will remain practically the same because companies will not have to charge the customer the extra 22 cents on the dollar, as they do now, to pay the government. The inclusive 23% government sales tax will simply substitute for the inclusive 22% government corporate tax. No salaries will fall. Actually, the company should sell more product because people will now have their gross paychecks to buy more. The prebate is only in place to offset the many exemptions in place now, which will be eliminated under the FairTax. Read the book...please.
Economist Dale Jorgensen, Harvard University, was commissioned to find out what portion of current prices were represented by costs for complying with the federal income tax code (i.e., embedded tax costs). He concluded that 22% (average) of every retail dollar, spent by consumers, constituted a price-embedded tax. Thus, in addition to individual income tax and FICA withholding, individuals are unwittingly paying these unseen, embedded business tax costs with every purchase of a new product, or service.
Under FairTax, prices would fall, due to removal of embedded business tax-related costs. Concurrently, wages may rise due to a mix of factors, including reversion of withheld pay (or some portion thereof) to employees, advancement opportunities due to business expansion resulting from retained earnings, and/or increased demand for labor accompanying increased competition (from that expansion). Where profits (or wages) appear lucrative, competition will move into the market space, driving out excesses (immediately present after FairTax is enacted), arriving at new "market-adjusted" prices.
For FairTax to constitute 23% of new transaction cost (i.e., "market-adjusted" price plus FairTax), a mark-up of 29.9% (tax exclusive rate) on the new "market-adjusted" price is necessary. (Before balking, consider what we're paying now if income tax rates are converted to tax-exclusive sales tax rates on net income instead of percentage of gross income. The following figures can be compared to the 29.9% FairTax mark-up: Fifteen pct bracket = 17.6%, twenty-five pct bracket = 33.3%, twenty-eight pct bracket = 38.9% (! really), and thirty-five pct bracket = 53.8% (! that's how bad it is).
In order to make FairTax a progressive consumption tax (such as that recently called for by Warren Buffett), all citizen-families are simply sent a monthly consumption [tax] allowance, called a "prebate." This prebate is intended to reimburse taxes on necessities for every citizen family without need for record-keeping or reporting. Moreover, the direct payment bypasses the creation of a tax code specifying exempted products and services around which a lobbyist industry could grow. The amount is variable, based on family size, and is equal to the FairTax rate on poverty-level spending, as defined by the Dept. of Commerce. At present, a family of one would receive ~$200/month, a family of four, ~$500/month. Thus, the "effective" FairTax rate paid by citizens, will *never* equal the full 23%. Of course, U.S. visitors (legal, and illegal) will pay the full FairTax when they purchase anything new, at retail (used are not taxed again). Under FairTax, working families will have their whole paychecks (minus any state or local income tax withholding) plus their monthly family prebate.
Additionally, citizens will no longer have to spend the average 50 hours per year preparing their federal tax returns. Having more monthly income may result in using credit less, and saving more. Larger savings will make it easier to purchase a home, at a lower interest rate and monthly payment. (Thus, mortgage deductions are no longer applicable when income is not the basis for taxation).
But is FairTax actually fairer? To provide substantive answers, Prof.'s Kotlikoff and Rapson (10/06) have concluded,
"...the FairTax imposes much lower average taxes on working-age households than does the current system. The FairTax broadens the tax base from what is now primarily a system of labor income taxation to a system that taxes, albeit indirectly, both labor income and existing wealth. By including existing wealth in the effective tax base, much of which is owned by rich and middle-class elderly households, the FairTax is able to tax labor income at a lower effective rate and, thereby, lower the average lifetime tax rates facing working-age Americans.
"Consider, as an example, a single household age 30 earning $50,000. The household’s average tax rate under the current system is 21.1 percent. It’s 13.5 percent under the FairTax. Since the FairTax would preserve the purchasing power of Social Security benefits and also provide a tax rebate, older low-income workers who will live primarily or exclusively on Social Security would be better off. As an example, the average remaining lifetime tax rate for an age 60 married couple with $20,000 of earnings falls from its current value of 7.2 percent to -11.0 percent under the FairTax. As another example, compare the current 24.0 percent remaining lifetime average tax rate of a married age 45 couple with $100,000 in earnings to the 14.7 percent rate that arises under the FairTax."
Further, per Jokischa and Kotlikoff (2005) ...
"...once one moves to generations postdating the baby boomers there are positive welfare gains for all income groups in each cohort. Under a 23 percent FairTax policy, the poorest members of the generation born in 1990 enjoy a 13.5 percent welfare gain. Their middle-class and rich contemporaries experience 5 and 2 percent welfare gains, respectively. The welfare gains are largest for future generations. Take the cohort born in 2030. The poorest members of this cohort enjoy a huge 26 percent improvement in their well-being. For middle class members of this birth group, there's a 12 percent welfare gain. And for the richest members of the group, the gain is 5 percent."
The current income-based tax system is also more expensive to run, because of the manner in which the tax code is gamed by politicians and lobbyists. Politicians realize great power, and attract constituencies for support, by granting tax favors (i.e., credits, deductions, exemptions) through lobbyists. Fully, fifty-three percent of Washington lobbyists are there because of the tax code! The tax code is continually changing, making it more complex - more difficult to understand. And, the salaries and costs of tax lawyers and lobbyists end up in higher prices of the products and services we buy. Additionally, the time and money required to keep records, file returns, report for audits, retain accounting and legal help, pay IRS penalties and interest, is time and money lost for other productive, or recreational, activities. Depriving us of the use of withheld wages increases our expenses through zero-interest withholding, inflation, return preparation time, and interest paid on credit cards and loans that otherwise may not have been necessary. Summed up, the cost of tax compliance, nationally, has been estimated to range anywhere from $265 billion to twice that amount, depending on the extent to which tax-avoidance consultation is sought and utilized. These expenses constitute a substantial hidden tax which is incomprehensible to the average working American. And the FairTax gets rid of all of it for most Americans, and most of it for business owners.
We, as FairTax advocates, believe that government should serve We, the People, with a fair tax system that will not enable politicians to pit poor against rich (creating barriers to achieve wealth, adding tax penalty to the sacrifices made for personal success). Nor do we want politicians to continue using business as a tool to hide taxes from consumers, often villifying business, which discourages entrepreneuship, personal achievement, economic growth. Liberty and happiness depends on restoring the fruits of labor to those who produce them. We believe that the tax function should align with economic growth, not against it, that government should be paid for in the same manner as working Americans - when, and because, something is sold!
As things stand at present, the system primarily benefits politicans who cater to special interests through lobbyists who game the tax code. The politician seeks to capture them as constituent voting blocks, dependent on continued syphoning of taxpayer dollars to their members' benefit. This is increasingly repugnant to the average working American who often finds it difficult to meet the needs of his, or her, own family in an environment where federal and state business income taxes substantially contribute to trade inequities resulting in the loss of American jobs! Thus, the Sovereign are continually degraded by features of Congress's income tax policy. The most rapidly-growing needs-based "special interest" group has become the Citizens! You see? Congress has nearly all the power; and We, the People, have become We, the Serfs, robbed and enslaved. Getting the federal government's hands out of our family paychecks is the single most important reason to replace the income tax with a consumption tax, the FairTax.
Many of us have joined FairTax.org in order to build a national movement to free ourselves, our family pocketbooks, and our businesses from confiscation of income, and punishment of productivity. And this we say to our federal representatives,
"Either scrap the code and enact the FairTax, or we intend on replacing you with someone who will."
(May reproduce in whole or part. - Ian)
Neither Mike Huckabee or the FairTax are perfect, however both would be great for America.
There are problems with the FairTax however the problem you mentioned will not occur the prices will drop and wages will remain unchanged let me explain; the same person that brough t up that objection will tell you that the only change would be the employer matching of the payrole tax, let's assume that is true, the payrole tax is 7.5% so prices couldn't drop more than 7.5% right? WRONG!!
Let's say you're building a car and you need steel. in the cost of that steel you have all the payrole taxes paid by every company that ever touched that steel before you bought it to build your car and add in the cost of your taxes, these companies begin with the mining company, refineries, transportation companies and everyone else that touches that steel prior to your purchace. This example clearly shows how every item we buy could have multiple layers of taxes, estimated to be 20-30% of the cost of everything we buy. This effect along with other costs such as accountants and tax lawyers will be eliminated from business expences which will also reduce production costs and drive prices down.
The FairTax will be great for businesses and individuals alike weather you make $20k or $20mill a year. You will benefit from the FairTax UNLESS you are part of the underground economy(drug dealers, prostitutes, the mob)in which case you'll be contributing to the cost of government for the first time since 1913 when the income tax was instituted.
Like I said the FairTax is not perfect, there is one minor downside of the FairTax and that would be the fact that savings accumulated prior to the FairTax which has already been taxed will be taxed again when it is spent. I refer to this as a minor downside due to the fact that purchasing power of the savings does not change due to the removal of the imbedded taxes.
Mike Huckabee and The FairTax not perfect but sure beats the hell out of what we have now or any other options.
Your entry here raises some good questions, but I note that the Globe article you cite has some faulty reasoning in it:
"In reality, for prices to fall by 22 percent, business costs would also have to fall by 22 percent, which means that all workers would have to take a 22 percent pay cut."
This would be true if worker pay was the only cost input to business, but it isn't.
For clarity, the GAO estimates that somewhere around 22% of the cost of anything you buy is tax or tax-compliance related expense. This means tax paid, and it also means everything it costs to comply with the tax- hiring an HR specialist, paying a tax accountant, whatever tax strategists one retains, etc. Nationally, it's estimated that we spend in excess of $300M to comply with our tax system- that's above and beyond the $1.6T actual taxes paid- and astonishingly, it doesn't include the opportunity costs associated with tax strategies that forego maximal revenue generation in favor of avoiding taxes or capturing some tax benefit- this is estimated to cost us another ~$300M anually.
With the repeal of the current income tax system, the need to do this compliance work goes away- meaning the folks working today to comply with the tax system's requirements can do something else- like whatever it is their company does when it's not busy complying with our tax code. THAT's where that estimated 22% will come from- not from an average cut in everybody's pay, but from the elimination of an expensive burden imposed by the current tax system, and freeing those resources to be productive.
Personally, I think a 22% drop in price is optimistic- when business is taxed, that expense is passed along to not one but 3 inputs: to customers, in the form of higher prices, to workers, in the form of reduced wages, and to owners, in the form of reduced returns. My bet is that some of that gain will go to hire more workers and owners may use that gain to reinvest more in the business (say, by opening another location or investing in equipment).
This 22% figure probably assumes a supply chain of nested taxes cascading from one business entity to another, so some businesses (the ones with few inputs, or which are high in the supply chain) will experience less efficiency gains by virtue of the fact that they're not as heavily burdened to begin with.
That said, there will be efficiency gains realized, raw prices will definitely go down by some amount, and that's how the proposed tax can be revenue-neutral and promise to leave you better off than you are under the current system.
On the whole, shifting the tax event from your paycheck to the cash register will be a wash for most people- you'll have more money in your pocket, and you'll have more control over when and how you incur taxation, and that's a good thing- and at some point, you'll spend it.
In case you haven't noticed, I'm a fan of the proposed tax, even though I'm not much of a Huckabee fan. (I prefer my leadership to operate within the constraints of limited government, and usually Social Conservatives tend to want to use government to advance their social agendas).
The 22% drop in cost (upon removing existing federal taxes) comes from both the corporate taxes as well as the cost of compliance. It has nothing to do with individual income taxes nor wages.
Will prices automatically and instantly drop by that percentage? In some sectors, absolutely! Because they are commodities which are extremely competitively priced. In other sectors, it will take longer for the market to make the adjustment. But the free market will sooner or later adjust the prices to what is "right." And until it does, those that are priced competitively will win more marketshare, and those that are trying to make a quick extra buck will get a few extra bucks but then watch their business dry up as consumers feel they're getting ripped off.
The main FairTax website, www.fairtax.org has published a lot of specific research done on the legislation. (HR 25, S 1025) Check out the research section at www.fairtax.org/about_research and specifically some on how the FairTax has been shown to drastically expand the economy.
The 22% price drop from embedded taxes includes personal income taxes and payroll taxes. I don't belive it includes the cost of compliance at all.
Boorz acknowledges that he hasn't explained this well enough.
http://boortz.com/nuze/200509/09152005.html#fairtax .
We write in The FairTax Book that the competitive pressures of the marketplace will force prices down when embedded taxes disappear from the cost of retail goods and services, and we cite 22% as the average amount of those embedded taxes. Does this 22% include the income and payroll taxes that are paid by employees? Yes, it does.
This is not a problem with the FairTax. Even though the FairTax is a huge improvement on the current system, it's not magic. The money has to come from somewhere.
Not only does your article display how little you understand economics and the income tax, it also shows you failed to research the topic.
Stating that workers would have to take a wage cut is ridiculous. Currently an employer not only pays the full wage to his employee he also pays 7.5% additional to the federal government. With the Fair Tax he saves 7.5% and all costs associated with complying with the 66,000 pages of federal regulations. No accountants fees, bookkeeping fees, lawyers fees etc. Why would he cut his employees wages?
Rebating (or as it is called pre-bating) taxes up to the poverty level untaxes the truly poor. What is wrong with that?
The Fair Tax is truly progressive. It taxes wealth not wages. A wealthy person doesn't have wages or income, they have capital gains, in the form of interest payments and dividends. The pay no payroll tax, no medicare tax, and no social security tax. Under the Fair Tax they would pay. Also any drug dealer, prostitute, pimp, illegal gambler etc. would pay taxes and the underground economy of untaxed money would also be taxed.
Please, read the book.
Concise array of benefits under FairTax:
The FairTax rate of 23 percent on a total taxable consumption base of $11.244 trillion will generate $2.586 trillion dollars – $358 billion more than the taxes it replaces. [BHKPT]
The FairTax has the broadest base and the lowest rate of any single-rate tax reform plan. [THBP]
Real wages are 10.3 percent, 9.5 percent, and 9.2 percent higher in years 1, 10, and 25, respectively than would otherwise be the case. [THBNP]
The economy as measured by GDP is 2.4 percent higher in the first year and 11.3 percent higher by the 10th year than it would otherwise be. [ALM]
Consumption benefits [ALM]:
• Disposable personal income is higher than if the current tax system remains in place: 1.7 percent in year 1, 8.7 percent in year 5, and 11.8 percent in year 10.
• Consumption increases by 2.4 percent more in the first year, which grows to 11.7 percent more by the tenth year than it would be if the current system were to remain in place.
• The increase in consumption is fueled by the 1.7 percent increase in disposable (after-tax) personal income that accompanies the rise in incomes from capital and labor once the FairTax is enacted.
• By the 10th year, consumption increases by 11.7 percent over what it would be if the current tax system remained in place, and disposable income is up by 11.8 percent.
Over time, the FairTax benefits all income groups. Of 42 household types (classified by income, marital status, age), all have lower average remaining lifetime tax rates under the FairTax than they would experience under the current tax system. [KR]
Implementing the FairTax at a 23 percent rate gives the poorest members of the generation born in 1990 a 13.5 percent improvement in economic well-being; their middle class and rich contemporaries experience a 5 percent and 2 percent improvement, respectively. [JK]
Based on standard measures of tax burden, the FairTax is more progressive than the individual income tax, payroll tax, and the corporate income tax. [THBPN]
Charitable giving increases by $2.1 billion (about 1 percent) in the first year over what it would be if the current system remained in place, by 2.4 percent in year 10, and by 5 percent in year 20. [THPDB]
On average, states could cut their sales tax rates by more than half, or 3.2 percentage points from 5.4 to 2.2 percent, if they conformed their state sales tax bases to the FairTax base. [TBJ]
The FairTax provides the equivalent of a supercharged mortgage interest deduction, reducing the true cost of buying a home by 19 percent. [WM]
References:
[ALM] Arduin, Laffer & Moore Econometrics, “A Macroeconomic Analysis of the FairTax Proposal,” July 2006.
[BHKPT] Bachman, Paul, Jonathan Haughton, Laurence J. Kotlikoff, Alfonso Sanchez-Penalver, and David G. Tuerck, “Taxing Sales under the FairTax: What Rate Works?” published in Tax Notes, November 13, 2006.
[JK] Jokisch, Sabine and Laurence J. Kotlikoff, “Simulating the Dynamic Macroeconomic and Microeconomic Effects of the FairTax,” National Tax Journal, June 2007.
[KR] Kotlikoff, Laurence J. and David Rapson, “Comparing Average and Marginal Tax Rates under the FairTax and the Current System of Federal Taxation,” NBER Working Paper No. 12533, revised October 2006.
[THBNP] Tuerck, David G., Jonathan Haughton, Keshab Bhattarai, Phuong Viet Ngo, and Alfonso Sanchez-Penalver, “The Economic Effects of the FairTax: Results from the Beacon Hill Institute CGE Model,” The Beacon Hill Institute at Suffolk University, February 2007.
[THBP] Tuerck, David G., Jonathan Haughton, Paul Bachman, and Alfonso Sanchez-Penalver, “A Comparison of the FairTax Base and Rate with Other National Tax Reform Proposals,” The Beacon Hill Institute at Suffolk University, February 2007.
[THBPN] Tuerck, David G., Jonathan Haughton, Paul Bachman, Alfonso Sanchez-Penalver, and Phuong Viet Ngo, “A Distributional Analysis of Adopting the FairTax: A Comparison of the Current Tax System and the FairTax Plan,” The Beacon Hill Institute at Suffolk University, February 2007.
[THPDB] Tuerck, David G., Jonathan Haughton, Alfonso Sanchez-Penalver, Sara Dinwoodie, and Paul Bachman, “The FairTax and Charitable Giving,” The Beacon Hill Institute at Suffolk University, February 2007.
[TBJ] Tuerck, David G., Paul Bachman, and Sylvia Jacob, “Fiscal Federalism: The National FairTax and the States,” The Beacon Hill Institute at Suffolk University, June 2007.
[WM] Walby, Karen, and Dan Mastromarco, “Promoting home ownership: How the FairTax’s benefits for homeowners exceed the mortgage interest deduction,” Americans For Fair Taxation White Paper, August 2006.
(Republish, in whole or part, as desired. -Ian)
The "Fairtax" would win over supporters if service/labor was taxed at a lower rate than new products. More US dolllars would remain here at home employing people in service and repair and less would go overseas to purchase cheap consumer goods. Such a plan would probably win over the labor unions, environmentalists and economists.
Critics of the FairTax almost always have to misrepresent the FairTax in order to find a "hook" on which to hang their objection. This is no exception.
Claiming that workers would see a 20+% drop in wages in order to sustain product prices is the diametric opposite of what will happen... workers will, in fact, see a rise in the amount of money they take home. With this increased income, workers will have the choice of raising their standard of living, building a cushion for retirement or to pass on to children or, since tax penalties will be eliminated, saving the money through investments for future uses.
Rather then hitting the lower and middle income worker, the FairTax will substantially increase both their purchasing power, and their political independence.
And that's really scaring those who oppose the FairTax.
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