Questions about the FairTax Plan
From reader Cynthia McClelland:
I have several questions about the fair tax proposal.
1) If payroll deductions for Social Security/Medicare are discontinued, what about the employers’ contribution? Has this been figured into the proposed beginning rate of the national sales tax?
2) Do advocates of the fair tax think business America will actually lower prices to reflect the reduction in taxes which they pay and currently pass along to consumers? (Of course if they do not their sales will plumet, because the average consumer cannot pay current prices plus 23% — is that why it is assumed they will?)
3) One reason Americans purchase homes, rather than rent, is the income tax deduction for mortgage interest. However, if in addition to losing this deduction one has to pay sales tax on the purchase of a new home, will we become more of a renter society (Not a good plan in the sense that people who own a piece of the rock are believed by some to be much more peaceful citizens). Clearly the environment would benefit from our continued use of existing buildings instead of tearing them down and replacing them.
4) Unless all states get rid of their income tax systems, citizens will still have this to contend with. Many times state income tax is more complex than Federal.
5) There may be huge benefit to the environment, but not to manufacturers, if people drastically reduce their purchase of new furniture, clothing appliances, etc. Unfortunately, this would impact the tax revenue of the government, not to mention the potential for major economic problems if our consumer driven economy ceases to be as consumer driven. I am sure the economists have thought of this, but what do their calculations show.
I look forward to hearing more about the practical aspect of implementation and contingency plans for various “what if” scenarios.
Comments, anyone?
Cynthia,
Here’s my take on answers to your questions. There will be others, I hope.
1) If payroll deductions for Social Security/Medicare are discontinued, what about the employers’ contribution? Has this been figured into the proposed beginning rate of the national sales tax?
Yes, the Fairtax replaces all Payroll and Income taxes, among other taxes. The employers share of payroll taxes will most likely remain with the employer and can be used to reduce business costs. The 23% Fairtax rate included payroll tax considerations.
2) Do advocates of the fair tax think business America will actually lower prices to reflect the reduction in taxes which they pay and currently pass along to consumers? (Of course if they do not their sales will plumet, because the average consumer cannot pay current prices plus 23% — is that why it is assumed they will?)
The issue of what happens to prices is very murky. No official price studies have been done by AFFT as far as I know. Based on available data, businesses could have an estimated 10% lower costs due to the elimination of payroll and income taxes and some reduction in federal income tax compliance costs. If the 10% cost savings are applied to lower prices, rather than increased profit margins, business expansion, increased shareholder payments, employee pay raises, etc., then after tax prices at the cash register may rise by 17%. (1.00 x .9 x 1.30 = 1.17) This also assumes everyone will be getting their full gross pay plus a prebate, so, higher prices and higher income could mean that “real prices” would remain about the same. Your standard of living would be relatively unchanged.
3) One reason Americans purchase homes, rather than rent, is the income tax deduction for mortgage interest. However, if in addition to losing this deduction one has to pay sales tax on the purchase of a new home, will we become more of a renter society (Not a good plan in the sense that people who own a piece of the rock are believed by some to be much more peaceful citizens). Clearly the environment would benefit from our continued use of existing buildings instead of tearing them down and replacing them.
Several studies are available which show that the purchase of a new home may actually cost less under the Fairtax. And of course, there is no need for an income tax deduction for mortgage interest if there is no income tax!
4) Unless all states get rid of their income tax systems, citizens will still have this to contend with. Many times state income tax is more complex than Federal.
What the states do is still to be determined. One thing you can count on is that state and locals taxes are going to go up significantly or services will be reduced. By treating governments as consumers and taxing government consumption, the “real” cost of government will increase. And taxpayers will have to foot the bill!
5) There may be huge benefit to the environment, but not to manufacturers, if people drastically reduce their purchase of new furniture, clothing appliances, etc. Unfortunately, this would impact the tax revenue of the government, not to mention the potential for major economic problems if our consumer driven economy ceases to be as consumer driven. I am sure the economists have thought of this, but what do their calculations show.
Your concern is warranted. What happens to legal tax avoidance and illegal tax evasion could have a significant impact on the revenue neutral 23% rate. Fairtax consumption base/rate studies did not account for any evasion or avoidance. Other studies, including the report by the Presidents Tax Reform Commission, included evasion/avoidance in their calculations and concluded that the rate would have to be much higher. On the other hand, if real prices remain unchanged for private consumers, it’s not clear that there would be much pressure to evade or avoid taxes?
Great reply by Hank, but I just wanted to add some thoughts...
1) Employers no longer pay any taxes under FairTax. This is accounted for in the 30% tax rate (at a tax rate of 30% [price x 1.3], 23% of the final price is taxes).
2) As long as a particular industry is not monopolized, they would need to reduce their prices in order to remain competitive. The best thing is that all these businesses are no longer paying ANY taxes, because if they pay taxes, they just pass the extra cost of those taxes on to their consumers. Say that I owned a auto repair company and hired a mechanic to work on your car. I’m no longer having to pay payroll and social security taxes on this employee, nor am I having to pay taxes on the parts I use to fix your car... so I no longer have to charge you as much to remain at the same profit level as I was under Income taxes. One more thing, zero taxes is very inviting for companies... this would likely bring a long of companies back to the USA so that they can remain competitive on a global scale.
3) Similar to my answer for #2, there would be a similar effect on the housing market. Yeah, currently under income tax you get to deduct your interest... BUT you’re still paying taxes on that house. The government currently taxes the lenders on their interest rate (so lenders up the interest rate to make up for this) and the builder’s payroll taxes were figured into the cost of the house... those taxes are gone under fairtax! So lenders, in order to remain competitive, can now lower their interest rate by a quarter percent and the builders will no longer figure their payroll taxes into the cost of building the house. FairTax.org has a great white paper on how this will affect the price of new homes. They figure that over the time of the loan, FairTax will actually save the buyer a lot of money (around $40k on a $150k property).
4) Because most states currently have a sales tax system, and are experienced with making sure people are paying these sales taxes, FairTax will require that these sales taxes be collect by the states themselves. If you read the actual proposal, you’ll see that there would be steps to make sure the states adopt a universal taxing strategy. This keeps it fair between all states, and gives the states more control of collecting the taxes.
Ok, my state and my local governments tax me on my oncome. how would fairtax at a national level stop states from enforcing this practice?
How much more money would the fed government take in under fairtax rather than the current system?
how would fair tax be used to halt and reverse the growing national debt?
KB,
You wrote:
“Ok, my state and my local governments tax me on my oncome. how would fairtax at a national level stop states from enforcing this practice?”
Under the Constitution, they can’t. The Fairtax doesn’t require State and Local governments to adopt the Fairtax plan, only encourages them by providing a fee to act as the collector of federal revenue, and allowing conforming states to collect internet revenue. Most states with income taxes use the federal tax return as a starting point for determining state income taxes. If the fed gets out of the income tax business, states would have to set up their own methods of determining their income tax. Not an easy task. And, if the 16th Amendment is repealed, then it would be unconstitutional for the States to use an income tax. (Which raises the legitimate question of why would the States ratify a Constitutional Amendment that eliminates the income tax if they would prefer to continue to raise revenue through income taxes???)
“How much more money would the fed government take in under fairtax rather than the current system?”
None, the Fairtax plan is revenue neutral, that is, it will raise the same amount of revenue as the current payroll, income, and gift/estate taxes.
“how would fair tax be used to halt and reverse the growing national debt?”
The Fairtax plan does not directly address the subject of balancing the budget and paying off the national debt. That’s left for “Phase 2″, whatever that is. Fairtaxers do believe that by printing the federal tax rate on every receipt, everyone will be more aware of the cost of funding the national government. There are also studies that indicate that the GDP will grow significantly under the Fairtax, although the growth rate is still to be agreed upon.
I believe that the only way to “get out of debt” is to reduce federal government spending. Frankly, I’d vote for anyone who had a plan to get the fed out of activities that the Constitution left to the States and the people. How revenue is collected is not nearly as important as how and why it is needed in the first place. Even Boortz supports what he calls the “10th Amendment Commission”. a presidential Commission aimed at recommending to Congress reductions in the size and cost of the federal government for an up or down vote, perhaps similar to the BRAC Commission which had good results.
Hank,
You wrote “And, if the 16th Amendment is repealed, then it would be unconstitutional for the States to use an income tax.”
How does the constitution limit the states from any chosen method of tax collection?
With regards to this plan, education is a very controversial issue. Private education would then have a very clear ability to compete with public education, since public education would be forced to pay all those taxes before being sold at “no cost”. Private education would not have to pay those taxes, and educational tuition is exempted from the FairTax, which may break the grip the government has on education.