The Fair Tax vs. Negative Income Tax
Milton Friedman was often known for favoring a negative income tax, in lieu of traditional welfare systems.
The negative income tax, if you are not familiar with it, is a proposal whereby you would essentially get the difference between your income and a specified exemption amount as supplemental income. At the point your income surpassed your exemption amount, you would stop getting the payouts at tax time.
For example, let’s set the tax exemption amount at say, $7000 per year. If you had no income at all, you would receive the full $7000 as a set, minimum income. If you make $3000 that year, then you receive an additional $4000 to bring you up to $7000. As you move up in income, your supplement gets smaller & smaller until you hit $7000 on your own, where you break even. After that point, you would receive no supplemental income at all.
Now the $7000 amount is completely arbitrary because I never heard Mr. Friedman ever define an amount he thought was appropriate, nor have I seen any actual legislation using this form of refund. But he did discuss it in terms of the current income tax, so this is a nice, round approximation.
Now of course the FairTax does something a bit different. It provides supplemental income via the prebate as does the negative income tax, but it does so on a smaller personal scale (less money per capita). It however is a fixed amount of income per capita that does not scale to what the person earns (it does not decrease as you earn your way out of it).
But it does do something Mr. Friedman wanted to do with the negative income tax. It helps to ‘eliminate the separation between those who receive and those who pay’ for subsidizing the poor. Everyone is paying and everyone is receiving equally (on a per capita basis anyway).
Mr. Friedman’s idea would have successfully limited tax-based welfare to low-income recipients (and he indeed intended it to replace most welfare programs), whereas the FairTax does not make such an attempt at confinement, nor does it attempt to remove any non-tax-welfare programs (I think Mr. Friedman would have probably thought the goal of removing welfare would be more important than the other economic benefits of consumption taxes).
Mr. Friedman often said that he believed that the income tax would eventually disintegrate and be replaced. I often wonder if he might have considered the FairTax as an option to do that. What do you think?
James,
Excellent thought provoking question. I heard Dr.Walter Williams, sitting in for Rush last week, mention that he had interviewed Milton Friedman many times over the years, and was one of Friedman’s “desciples”.
So, I wrote Dr. Williams a note asking for his opinions about how both he and Dr. Friedman might view a national consumption tax. The response is below, and while you may have seen it before, it was news to me.
Although Williams didn’t specifically shed any light directly on Dr. Friedman’s possible position, I also looked up Friedman on the net and found a 28 minute video clip of a TV interview in which Dr. Friedman rained all over the minimum wage, Social Security, and the fallacious view by many today that it’s possible to “do good” with other people’s money. He also stressed that big government was the problem, not the cure. I conclude that Friedman believed that empowering the people and reducing federal spending was far more important than how revenue is collected. Would Friedman support a national sales tax in lieu of his “negative tax”? Beats me, but I’ll keep on looking.
National Sales Tax
by Walter E. Williams
Representative John Linder (R. Georgia) has authored H.R. 25 “To promote freedom, fairness, and economic opportunity by repealing the income tax and other taxes, abolishing the Internal Revenue Service, and enacting a national sales tax to be administered primarily by the States.” Before we look at whether a national sales tax is a good idea, how about a little Economics 101 just to convince you that government spending, not government taxation, is the true measure of governmental impact on our lives?
Keeping the numbers small, suppose the annual value of what Americans produce, our (GDP), is $100. If government spends $40 of it, of necessity the government must force us to spend $40 less. There are several ways this can be done. Government could tax us $40. Government could borrow, thereby driving up interest rates, thus reducing private spending. Government could simply print money which would cause inflation and reduce our purchasing power. Finally, government could employ some combination of the three. The bottom line is that if government spends $40 of our GDP, we can’t spend that same $40.
There’s no question that tax reform is needed but tax reform is secondary to a much larger issue - federal spending. From 1787 to 1920, except during war, federal spending was a mere 3 percent of GDP compared to today’s 20 percent. If the federal government takes only 3 percent of the GDP, just about any tax system is relatively non-oppressive. However, if government were to take 50, 60, or 70 percent of the GDP, you tell me what tax system would be non-oppressive.
There’s no question that some forms of taxation are worse than others. In addition to its economic disincentive effects and intrusions on personal privacy, our income tax has huge compliance costs estimated to be between $250 and $500 billion. Abolition of the IRS, and the income tax code it enforces, replaced by a national sales, would create greater economic incentives, enhance personal privacy, and lower tax compliance cost by an estimated 90 percent. There’d also be greater faith and allegiance to our Founders’ constitutional vision where Article I, Section 9 that says “No Capitation, or other direct, Tax shall be laid, unless in Proportion to the Census or Enumeration herein before directed to be taken.” The Founders feared the abuse and the government power inherent in an income tax. Another benefit of a national sales tax is that our being taxed 23 to 30 percent with every purchase we become more aware of the cost of government. Income taxes and corporate taxes conceal that cost.
Before we accept a national sales tax, there are two minimal requirements. First, there must be a repeal of the 16th Amendment so Congress can’t hit us with both an income and sales tax. Second, there must be a constitutional amendment fixing the national sales tax at a certain percentage that can only be increased by a three-fourths vote of the House of Representatives.
People have advocated a national sales tax or a flat income tax for years and I don’t want to rain on their parade. But here’s my prediction: Congress will never enact a sales tax or a flat tax. Why? The two most powerful congressional committees are the House Ways and Means Committee and the Senate Finance Committees. Both dispense tax favors to different Americans that come at the expense of other Americans. With a sales or flat tax, their Santa Claus roles, not to mention campaign contributions, would be diminished. On top of that they’d have restricted opportunities for social engineering through fiddling around with the tax code.
My personal preference is a constitutional amendment limiting federal spending to a fixed percentage, say 10 percent, of the GDP. You say, “Williams, why 10 percent?” My answer is that if 10 percent is good enough for the Baptist Church, it ought to be good enough for the U.S. Congress.
Walter E. Williams
c52-04
December 13, 2004
The only fair tax is the consumption or sales tax. I’ve been in the insurance business for 35 years and I have seen small business and large alike hide income. If we could collect taxes on the underground economy we wouldn’t have a deficit or collection shortage. We don’t have any teeth in the code to discourage electricians, carpenters, restaurant owners to name a few who do not pay taxes on all income earned. Why should anyone get tax breaks for home loans, church contributions or any other excuses when many people may never own a home. We should also require the Government to balance their own books and account for everything that is collected and accoun for how it is spent.