The Fairtax plan will benefit the economy and the majority of Americans (a)
Debate Rounds (5)
Before I begin, I would just like to ask that whoever accepts this debate has some prior knowledge of the Fairtax, understands its implications, and still disagrees with it. Thank you.
Information about the fairtax can be found by reading the faq:
For those who don't know, the Fairtax Bill HR25, is the most widely supported alternative tax plan in congress, with 66 representatives and 4 senators who have publicly stated their support. The premise of the plan is to first abolish all federal personal and corporate income taxes, gift, estate, capital gains, alternative minimum, Social Security, Medicare, and self-employment taxes, and replace them with a national sales tax, which would be placed on the purchase of all final, new goods services. The tax-inclusive rate would be 23%, which works out to be approximately 30% tax-exclusive(the way sales tax is normally reported). In addition, a prebate check would be paid at the beginning of every month to every lawful household in the country that would be equal to the poverty rate of spending, which depends on family size, multiplied by the tax-inclusive rate of 23%. The prebate offsets the cost of the tax on necessities, and makes the tax progressive. The amount of the prebate is found in the faq.
There are many benefits to adopting a simplified tax code like the fairtax. The most apparent of which is the drastic cut in compliance costs. "In 2002 Americans spent roughly $194 billion dollars on tax compliance," and 6.6 billion hours filling out tax forms. That's 20 cents for every dollar collected. Under the fairtax, compliance costs drop drastically, as much as 95%, because the only cost is what would be paid to the states to collect the retail sales tax, which many of them already do.
Most importantly, net spending power increases for the average American family. Let's consider a middle-income married couple making $50k/year. If they spend all of their money on new goods and services(if they don't, their tax rate goes down further), their effective tax rate under the fairtax is 13.6%, whereas under the current system it is 15.8%, according to fairtax.org. However, I calculated the income plus payroll taxes to be 21.14%, so 15.8% is assuming that the average viable income tax deductions have been accounted for.
Although the scenario described above assumes that the base price of the goods that they purchase will remain the same, businesses would likely lower their prices because they would not have to pay any taxes, thus lowering their costs. Lower costs translates to lower prices by means of competition. This means that purchasing power increases even further.
Because investments(including college tuition) are not taxed under the fairtax, net investment is set to rise substantially under this plan. More investment translates into a lower interest rate and greater economic growth.
Because the tax will only apply to domestic sales, American produced goods will be much more competitive overseas because businesses will be able to sell their product entirely tax-free, whereas they must currently charge a higher price in order to account for their income tax burden. This means that net exports also rise under the fairtax.
Contrary to what some may think, tax evasion will decrease under the fairtax, and the reason is simple: there would be less tax-paying entities to account for, 20 million business instead of 140 million tax payers. Not only that, but the simplicity promotes compliance. According to the IRS, almost 40% of the public is out of compliance, and most of them probably don't even know it because they are confused by the complexity of the tax system.
The common skepticism of the fairtax is who loses? It seems like everybody pays less under the fairtax, but that can't possibly true if it's revenue neutral. So who loses? Well, illegal immigrants lose out because they will now be subject to federal taxation, yet will receive no prebate check. People like Paris Hilton, spending their father's fortunes on frivolous things, will likely pay more in taxes under this plan. Any person who has made a majority of their money through capital gains, will likely pay more under the fairtax. But a poor family living pay check to pay check, will benefit substantially under the fairtax.
1. The tax-rate will need to be extremely high -- probably in the 50%-60% range. This would be in addition to state and local sales taxes (which, for reasons I'll explain later, will need to increase under the FairTax system), so the combined federal/state/sales tax rate would be somewhere between 60%-80%, which I believe we would all agree would be a crushingly high rate. I will explain why this is so in a later post.
2. The FairTax would be impossible to enforce for the simple reason that the government could not force people to spend money on what would be taxable goods and services. There will be so many loopholes in the FairTax system (that is, ways in which can legally purchase or consume goods and services without paying the FairTax), that there would be very low compliance with respect to numerous purchases (particularly high-dollar items). This low compliance would cause two problems. First, the revenue to the government would not meet expectations, which would require the government to increase the FairTax rate even higher. Second, whole industries would be wiped out as consumers significantly cut back on their spending in certain areas. I'll discuss this further below.
3. The FairTax will substantially increase the tax burden on the middle class and, in particular, retirees. The reason for this is that the FairTax purportedly eliminates the tax burden on the poor (via the prebate) and substantially reduces the tax burden on the wealthy (as the wealthy tend to spend a much smaller percentage of their incomes on goods and services than do the middle class), thus the middle class and retirees will shoulder a greater tax burden if the FairTax is to be revenue neutral. Although some claim that the tax burden would shift to (a) illegal aliens, (b) the "underground economy", or (c) the Paris Hiltons of the world, a close examination of the actual numbers show that claim to be misplaced.
I will expand on points 1 and 3 in subsequent posts. In this, post, however, I would like to focus on how easy it will be to legally avoid paying the FairTax. In my examples below, I will assume that the tax-exclusive rate will be 30% (although, as I'll discuss subsequently, the actual tax rate will need to be much higher), and that the post-FairTax prices on goods and services will rise by approximately 30%. (Even the economists who support the FairTax agree that the most likely outcome will be that prices will rise by the tax-exclusive rate. See the Beacon Hill/Kotlikoff study of 2006, available on the fairtax.org website.)
I assume that we can agree that people will try to pay as little tax as possible under any tax system, whether an income tax or a consumption tax. Under the FairTax, it is important to realize that the only items to be taxed are new goods (including new homes) and services that are bought in the United States for personal consumption. (I'll deal with taxable government consumption in a later post.) Thus, in order to avoid paying the FairTax, people would simply need to shift their consumption to non-taxable items. Here are some obvious examples:
If the average new car costs $40,000 on a tax-free basis, the FairTax would add $12,000 to the final cost, pushing the purchase price to $52,000. Used cars are not taxed under the FairTax. Thus, if one were to buy a one-year-old used car for, say, $35,000, he would save $17,000. Accordingly, you will see a dramatic increase in the purchases of used cars (or simply hanging onto existing cars), and a substantial reduction in the purchase of new cars. Same with boats, furniture, jewellery and other relatively high-priced items.
The effect would be even greater with respect to new homes. Why would anyone buy a new home and pay hundreds of thousands (or even millions of dollars) in taxes, when one could buy an existing home (including a $20 million mansion in Beverly Hills) completely tax free? Alternatively, more people would simply stay in their current homes longer.
If a family were to take a ski vacation to Colorado, it would have to pay the FairTax on airfare, lodging, rent-a-car, lift tickets, meals and entertainment. If that same family were to take the same ski vacation to Canada, it would only need to pay the FairTax on 50% of the airline ticket. (International airline tickets are taxed a half-price.) Everything else would be FairTax free, saving potentially thousands of dollars. Similarly, retirees could retire FairTax free to Mexico and Central America (where many already retire to), saving thousands of dollars a year on taxes.
Now, let's look at high-dollar items. Paris Hilton could spend her entire inheritance FairTax free in Paris, France and the French Riviera. A hedge-fund billionaire could buy a massive $10 million yacht FairTax free in the Bahamas, and use his savings to buy a FairTax free luxury villa on the same island. Jewellery and expensive watches and handbags would all be purchased abroad. (In particular, foreign tourists would not buy such items in U.S. Stores). Virtually all expensive plastic surgery would be done abroad. (Much of it already is.) Doctors would set up expensive clinics abroad.
All business and investment expenses are tax free under the FairTax. Thus, no billionaire would ever buy a $60 million JetStream for his personal use (and pay $18 million in taxes). Instead he would have his corporation buy it tax free. Ted Turner could buy another billion dollar ranch completely tax free (since a ranch is a business). Luxury vacation homes would become "rental property" and either completely or substantially tax-free. Yachts would be business expenses. Etc., etc.
The point of these examples is that it would be easy to avoid paying the FairTax, and perfectly legal to do so. Although middle class folks could avoid the FairTax on their homes and cars, it would be particularly easy for the very wealthy to avoid paying the FairTax on their most expensive purchases. Thus, any respect for the fairness of the FairTax system would quickly evaporate, and more and more people would look for legal (and illegal) loopholes to avoid paying the tax.
And, finally, though you state that illegal tax evasion would drop, I don't believe that would be the case. If you've ever lived in a third world country with high tariffs, you quickly find that a thriving underground economy develops. While the Wal-Marts of the US would collect and remit the FairTax, the flea markets (which would quickly spring up) would not. Nor would contractors, yard men, landlords, even doctors and lawyers. Moreover, we could all get business licenses and claim may of our purchases were for "business" reasons. (Think "network marketing") for example. Thus, that new car could be considered a tax-free business expense.
The result of this (legal) tax-avoidance and (illegal) tax-evasion would be two-fold. First, the government would realize substantially less revenue than it was expecting. (As I'll show, the economic models supporting the FairTax do not account for any tax avoidance). Thus, the tax rate would soon need to be substantially increased. Second, whole industries would be wiped out -- including, in particular, housing, automobiles, tourism and retail.
These are substantial problems that cannot (in my opinion) simply be glossed over. Unless the non-compliance problem can be solved (and there is no way is could be), the FairTax is a complete non-starter.
OK. Your turn
1. I urge the readers to disregard this point, at least for now, because it is an unsubstantiated claim that my opponent has offered no evidence for. The only reason given (later in his argument) is that there would be non-compliance which would result in a much higher necessary tax rate. However, my opponent has not provided any references to back up this claim, and it will be refuted later in this post.
2. My opponent claims that there are many loopholes in the fairtax system that would make it impossible to enforce, resulting in low compliance and ultimately a higher fairtax rate being needed. Again, he does not substantiate these claims here, but provides evidence later in his post. For now I will just say that even if tax evasion increased in certain sectors of the economy, the decrease in revenue would be outweighed by the increase from the realization of taxes from the current black market, under-reporting of legal income, and from economic expansion resulting in a larger tax base.
3. It is true that immediately after implementation, retirees would be adversely affected as well as the middle class. During the transition phase, double taxation will be an issue for a lot of people who spent their lives saving after-tax dollars. However, this is not a valid reason to denounce the fairtax, as the long-term economic health of the nation is more important than a short-lived inconvenience. If this is the main setback for the fairtax, some sort of phase-in mechanism may be necessary to smooth over the transition. Table 11 of Beacon Hill 2007 shows that one decade after implementation, nearly every income level has seen increased utility from the fairtax. Two decades after implementation, every income level has benefited. The reason every income level can benefit with the fairtax is because real GDP is expected to increase, it is only when GDP is static that someone must lose for another to win.
From the Beacon Hill study of 2006:
"The first is the major capital gain that the federal
government stands to accrue if, as seems likely, the
Federal Reserve fully accommodates the introduction of
the FairTax and permits consumer prices to rise by
roughly 30 percent. That would reduce the real value of
nominal U.S. government debt in the hands of the public
(many of whom are foreigners) by about $1 trillion."
What they are saying is that if the government expands the money supply to accommodate the fairtax, consumer prices would rise by approximately the same rate as the fairtax. However, an econometric analysis of fairtax implementation found that real prices would fall by slightly more than the fairtax rate. By accommodating the fairtax after increasing the money supply, the government could realize a substantial reduction (about $1 trillion) in the national debt, which may be seen as an added benefit of the fairtax.
My opponent now introduces some examples of what he feels are non-taxable items, this seems to be the crux of his argument which he has alluded to several times throughout his post.
This argument is only significant during the transition phase of the fairtax, once the economy has adjusted the price of used goods would reflect the price of the new good with the tax. Thus, if a car loses 12.5% of its value each year as suggested by my opponents example, the price of a used car 1 year after purchase for a $52,000 car would be $45,500, so there would still be incentive to buy new.
However, during the transition phase, supply and demand should correct the problem on its own. If the demand for used goods were to suddenly increase, the price would also increase accordingly as the supply of used goods is fixed. In fact, sellers of used goods would likely increase their prices immediately after passage of the fairtax knowing full well that the demand will quickly exhaust their supply if they don't. Sellers of used homes would increase their price in response to increased demand as well.
The price difference is not as substantial as my opponent seems to think. If prices are allowed to increase 30% by increasing the money supply (income also increases due to the elimination of income taxes and unchanged gross pay), the value of the dollar on the world market would have to go down, discouraging Americans from spending abroad . Furthermore, most countries have income taxes and/or sales taxes of their own that directly or indirectly increase the price of their goods. Thus, the monetary incentive to make foreign purchases would be diminished. My opponent seems to think that an American billionaire seeks to avoid paying American taxes at all costs, but has no problem paying French taxes. (France has their own value added taxes which amount to much more than the proposed fairtax)
This argument is based entirely on a misconception of the fairtax. All final, new goods and services would be subject to the tax, even if they're being used by a business. The only time a business does not have to pay tax on something is if they show that it is a component for making something else. I don't think I need to refute the specific examples, but the plane, the yachts, the ranch, and the luxury vacation homes would all be subject to the tax and there would be no way to escape...unlike the current system, where billionaires can and do write-off planes and vacation homes as business expenses that they don't have to pay tax on.
It would not be easy to avoid paying the fairtax, and there is certainly no legal means of doing so. My opponent seems to think that America is a 3rd world nation incapable of enforcing its laws, but I can assure that there would still be federal agents enforcing the fairtax. No business that engages in marketing to the public would be able to escape the fairtax. The IRS currently checks tax returns of some 200 million tax filers, a similar agency should have no problem enforcing the tax for 20 million businesses...especially considering its simplicity.
Also from Beacon Hill 2006:
But the fact that we have not explicitly considered tax
evasion does not mean that we have ignored it. On the
contrary, we have implicitly incorporated a significant
degree of tax evasion in our calculations simply by using
NIPA-based projections of household consumption expenditures
in forming the FairTax tax base (Easton, 2001).
The projections used to predict consumption under the fairtax is already understated because it does not incorporate black market income. There is a substantial amount of money circulating through the black market, but these people still purchase legitimate goods as well. The fairtax would effectively tax legitimate purchases made by members of the underground economy, who currently pay no taxes at all. Furthermore, spending projections do not take into account the expansion of the economy, after the fairtax is implemented, due primarily to the removal of all taxes on savings and the subsequent spike in net investment.
My opponent asserts that "whole industries would be wiped out," but this statement seems to be a result of his misconception regarding the fairtax as it pertains to businesses. He failed to realize that the fairtax is applicable to all final goods even if they are bought by a business, and this seems to have been the backbone of his argument.
I am a little disappointed that my opponent decided to ignore all of my initial arguments and only address his own points, but I digress
Effect on Prices
First, let me congratulate you for admitting that prices will rise under the FairTax system by approximately the tax-exclusive rate (which, so far, we've considered to be 30%). Most FairTax proponents do not grasp this concept as they fall for the "embedded tax" nonsense. So, just to be clear, we both agree that if workers are to keep "100% of their current paychecks" and that the Fed accommodates (that is, inflates the money supply) that prices of taxable goods and services will rise by the tax-exclusive rate.
I argued that this will lead to a shift of purchases to non-taxable goods and services, including used goods and foreign purchases. You responded by arguing that the prices of used goods will also rise proportionately (i.e., approximately 30%). Let's examine that statement. If true (and I agree with you that is probably is), then the price of ALL goods and services will immediately rise by approximately 30% upon the implementation of the FairTax.
How does this help the average person (the basis for your argument) when he/she is currently only paying an average of 15.6% of his/her income in federal taxes according to the fairtax.org report referenced in your initial post. In other words, he/she will no longer be paying 15.6% of their income in federal taxes, but instead will be paying an additional 30% in federal taxes on everything (both new and used) that they buy.
Who would gain from this increase in prices? Current homeowners, for one, since they would see the value of their homes immediately increase by 30%. Those who own multiple homes would be that much happier, as would those who own substantial real assets. But the loser would be the lower income wage-earner who needs to spend substantially all of of his/her income in order to survive and currently rents an apartment. They'd get a modest bump in their take-home pay , but would suffer from higher rent and much higher home prices if they ever wished to purchase a home. Retirees would especially suffer, as the price of everything (including, in particular, health care and long-term care, would all immediately increase by 30%).
I'm also glad you cited the Beacon Hill/Kotlikoff study of 2006. http://www.fairtax.org.... I'll have more to say on this study later, but the part you quoted about the Fed accommodation is very important. As they said, such action would "reduce the real value of nominal U.S. government debt in the hands of the public . . . by about $1 trillion." What this means is that if the FairTax were adopted the Fed would need to increase the money supply to such an extent that the value of the US dollar would immediate drop by 30% vis-a-vis the rest of the world. So all dollar-denominated financial assets would immediately drop in value by 30%. This might benefit the U.S. Treasury (since the real value of its obligations would immediately drop by 30%), but would be terrible for the holders of U.S Treasury bonds, (whether foreigners or Americans) as the value of those bonds would immediately drop by 30%.
Now, this wouldn't just apply to US Treasury bonds, but also to bank accounts, CDs, and corporate and municipal bonds -- anything denominated in dollars. Notably, these are precisely the types of assets that US retirees own. So they would see the value of their lifetime savings immediately slashed by 30%. On the other hand, since the drop in the value of the dollar would be an easily predictable result of switching to the FairTax, the George Soro's (and Paris Hilton's) of the world would simply transfer their assets into foreign currencies and foreign bonds (and other hard assets), and immediately reap the windfall of a 30% appreciation of those assets vis-a-vis the U.S. dollar.
The point being: there might be less shifting of purchases to used goods and foreign purchases than I alluded to in my first post, but that would only be if the value of ALL goods and services in the US rose and the value of the dollar dropped upon the implementation of the FairTax. This increase in prices would hurt disproportionately those lower wage earners and, especially, retirees who have few real assets, and anyone who has savings in dollar-denominated financial assets. In contrast, the wealthy, the financially sophisticated, and those who have substantial holdings in hard assets and foreign currencies would benefit disproportionately.
Moreover, even if there is less shifting of purchases to used and foreign goods, the aggregate increase in the price level will lead to an overall reduction of consumption (remember, when you tax something you get less of it), and thus a decrease in the revenue generated from the FairTax. (You might argue that the decrease in consumption will lead to an increase in savings and, thus, investment. True, but the increased investment dollars would more likely flow to high growth countries, such as China and India, rather than a country whose economy has slowed due to reduced consumption under the FairTax.)
I'm afraid you misunderstand the FairTax on this point. You seem to believe that only actuall components of goods that are are resold by business would be exempt from the FairTax. This is incorrect. The FairTax exemption applies to ALL business expenses.
"If a person or business buys taxable property or services for the purpose of using such property or service in the production, provision, rendering, or sale of other taxable property or services in the ordinary course of that business, then that purchase is not subject to the FairTax."
http://www.fairtax.org... (Read the definition of "Produce, provide, render or sell taxable property or services" on page 6.) The remaining definitions and examples make it clear that these tax-exempt purchase would, in fact, include cars, yachts, private jets, ranches and rental property when used in connection with one's business. (Entertaining clients, for example). So, my examples of ways to avoid the FairTax via business purchases do hold true. Now, in fairness, the FairTax bill does provide that to the extent business assets are used for personal use (using the corporate jet for a vacation to Disney World, for example), the owner is supposed to pay the FairTax on the percentage that assets was used for personal use. I think we can all agree that this will be an extremely difficult provision to enforce and, in any event, will result in very little additional tax revenue.
Finally, I should point out the Beacon Hill/Kotlikoff l study did, in fact, ignore the effect of tax evasion/tax avoidance. Several months after the study was published, Kotlikoff participated in a debate on the FairTax at the American Enterprise Institute in which he admitted the error. http://www.aei.org... Now, he believed the error was only 2%, whereas Dr. Jane Gravelle of the Congressional Research Service claims it was 8.4%. http://www.aei.org.... I'll have more to say on this later.
Next up: The true tax rate revealed!
Effect on Prices
Prices will only rise by the tax-exclusive rate "if" the fed decides to accommodate. If the fed did not accommodate, the embedded tax argument would be perfectly valid, because there are indeed taxes embedded in the price of everything we currently buy. In fact, if the fed did not accommodate, and employers were to decrease gross pay down to current net pay, the base price of all goods should theoretically fall to a point such that the after-tax price is the same (or close) as what it currently is. If the fed did not accommodate, but employers left gross pay the same, prices would still fall a little bit because there are still corporate and payroll taxes eliminated that will drive costs down somewhat and therefore prices as well.
You concede that used goods would rise in price to reflect the rise in price of new goods, so that there would still be sufficient demand for new goods. "How does this help the average person...?" Well, it seems that you have forgotten about the impact of the prebate. I already explained in my first post that the effective tax rate for a couple making $50k/year would be 13.6%, assuming that they spent every dollar on taxable consumption. Thus, if we consider the rise in price of used goods to be a tax, than this couple is still benefiting under the fairtax. If you have a problem with that claim, I will gladly show the calculations.
Again, you ignore the effect of the prebate in suggesting that low-income wage-earners will be at such a severe disadvantage. Homeowners would see the price of their home increase, this is true...but if they sold their house with the intent of buying another house, they would not be at too much (if any) of an advantage compared to non-homeowners.
The only people who would be at a disadvantage under the fairtax are those with only modest income but substantial savings made with after-tax dollars, retirees are the prime example, but also some in the middle class. However, this disadvantage is one time only. If implemented today, retirees 20 years from now will be much better off than they otherwise would be. This is because the fairtax greatly facilitates and encourages saving, so it will be much easier for the middle class (and everyone) to save money, both for their retirement and for advancing their economic status.
You are correct that the expansion of the money supply would decrease the real value of U.S. Treasury bonds. However, many holders of U.S. Treasury bonds are foreigners, so their loss would be our (the U.S. government's) gain. In fact, China and Japan together have over 1 trillion dollars of treasury bonds, and there is a total of 2.3 trillion dollars held by all foreigners.
I have explained that current retirees would be at a loss if the fairtax were implemented today, because as you say, the value of their savings would be greatly reduced. However, such a draw-back could be easily resolved by offering current retirees a one-time only rebate to account for the loss in their savings or a portion thereof. If the fairtax were given serious consideration, proposals like this one or something similar may be deemed necessary for the transition. (I admit this is not an official part of the Fairtax plan) As for the wealthy converting all of their assets to foreign currencies, the market would quickly reach a new equilibrium, so although what you say may be true to some extent, the resulting increase in investment from the fairtax would soon re-inject more money into our financial markets than was lost from the initial conversion.
"The point being:" has already been addressed. The increase in prices would not hurt lower wage earners because of the prebate. Current retirees and low income earners with substantial savings would be at a disadvantage the first few years after implementation. However, this unfortunate side effect could be corrected as previously explained. In the long-run, everybody would benefit under the fairtax, even if it is true that the wealthy and financially sophisticated would benefit more.
You than assert that the increased investment would flow to "high growth countries, such as China and India," but growth of GDP is expected to grow more quickly with the fairtax. In fact, Beacon Hill has predicted increases in every sector of the economy (GDP, domestic investment, capital stock, employment, and real wages), and only a modest decrease in consumption the first couple years after implementation. However, after the economy adjusts to the transition, consumption will ultimately increase as well beyond what it would be in absence of the fairtax. http://www.beaconhill.org... (see table 3, pg 22)
Here I must apologize for my misunderstanding, you are correct that the fairtax exemption applies to all business expenses. However, in order for a business to make purchases tax free, they would have to be registered sellers and would therefore be expected to make quarterly tax payments to the fed. There are only 20 million registered sellers in the country now, and all of them would be subject to auditing. Thus, it would be very difficult to set up a fake business in order to make tax-free purchases.
It appears that you made an error in your claim regarding Dr. jane Gravelle. While the link that you posted is unclear because it is a presentation and not very detailed, it appears that 8.4% is the non-compliance rate implicit in the NIPA statistics. However, accounting for this difference would result in a tax-inclusive rate of 26%, which is only 3% more than the rate presented by fairtax.org. (see the second chart on pg 3 of your link)
Thank you again for continuing what should prove to be an excellent debate.
FairTax at the Micro-Level
First, let's look at the FairTax at the micro-level, using myself as an example. I'm an upper-middle class professional. Most of my income goes to my house, a vacation home, foreign travel, real estate and other investments, my children's education and savings. All of that would be tax free under the FairTax. Less than 25% of my income is spent on what would be taxable spending under the FairTax. Factor in the prebate for a family of four, and my effective tax rate under the FairTax would less than 5% of my income, a substantial drop from my current tax liability. Somebody's going to have to make up the lost tax revenue from me and other similarly situated folks. And it ain't gonna be Warren Buffet or Bill Gates -- they probably spend less than 1% of their incomes on what would be taxable goods and services, so their taxes would drop more than 99% under the FairTax. That should give you the first clue that the 30% rate just ain't gonna cut it.
FairTax at the Macro-Level
Now let's look at the macro level. How much taxable spending would be required under the FairTax in order to pay for the federal government. Before the current bail-out fiasco, the 2009 budget was projected at $3.1 trillion. http://www.nytimes.com... Under the FairTax, we'd need to add the cost of the prebate to the federal budget.
According to the US Census bureau, there are approximately 115 million families in the US. http://www.census.gov.... Each of those families would receive a average prebate of approximately $5500 per year. http://www.fairtax.org... That translates to a cost to the government of approximately $825 billion per year. Add the cost of the prebate, and the budget would soar to approximately $3.9 trillion.
Thus, in order to fund the government, the average family would need to pay approximately $34,000 per year in taxes per family. (i.e. $3.9 trillion/115 million families equals $34,000.) Now here's the kicker, at a 30% tax-exclusive rate/23% tax-inclusive rate, how much would the average family need to spend in order to generate $34,000 per year in tax revenue. The answer is $34,000/23% = $147,000 per year in annual spending on TAXABLE goods and services.
That's not just wishful thinking; it's mathematically impossible. The mean family income in the US is only $67,000. (See the census table above.) That means that each family in America would need to spend over twice its annual income on TAXABLE goods and services each year just to pay for government spending. As I've previously shown, not all spending would be taxable. Thus, I repeat, the FairTax is mathematically impossible at a 30% tax-exclusive rate.
The Independent Studies
So just how high would the FairTax rate need to be? Let's do a quick tour of the independent studies of the FairTax over the last decade. In 2000, Congress's Joint Committee on Taxation (an arm of Congress which studies each and every tax proposal) concluded that the FairTax rate would need to be 57% just to be "revenue neutral." http://www.nationalreview.com... A study by the Institute of Tax and Economic Policy estimated the required tax rate at between 45% to 53%. http://www.itepnet.org... In 2005, William Gale, chief economist of the Brookings Institution, published a detailed study of the FairTax in Tax Notes magazine, in which he concluded that the FairTax would need to average 52% over a ten year period (assuming a 10% non-compliance rate, which is about half the non-compliance rate under the current tax system). http://www.brookings.edu... (See Table 6). In 2006, the President's Tax Advisory Panel concluded that the FairTax would need to be 34% just to replace the federal income tax (assuming a 15% non-compliance rate). Since the income tax raises approximately 50% of federal tax revenue, this implied that the FairTax rate would need to be 68% to replace ALL of the federal taxes the FairTax purports to replace. http://www.taxreformpanel.gov... Finally, just last spring Dr. George Zodrow and Michael Diamond of the Baker Institute at Rice University conducted a detailed study and concluded that the FairTax rate would have needed to be at least 39% to be revenue neutral in 2006 (assuming zero non-compliance). http://www.bakerinstitute.org... (See p. 23-24). The study also admitted that that rate would be on the "lower bound" of the actual rate. (p. 25). In other words, EVERY independent study of the FairTax over the last decade has shown that the 30% tax-exclusive rate would be far, far too low to be even revenue neutral, let alone balance the federal budget.
The AFFT Study
In response to the overwhelming evidence against the proposed FairTax rate, AFFT (the group behind the FairTax) hired the Beacon Hill Institute (which, frankly, I doubt if anyone has ever heard of) to produce (presumably favorable)studies on the FairTax. The result? In 2006 BHI produced a study concluding that the tax rate would need to be 31.27% in order for the FairTax to be "revenue-neutral" for 2007. http://www.beaconhill.org... (See p. 673). Other than being slightly higher than AFFT's estimates, what's wrong with that study? Well, to start with, it conveniently buried the author's assumption that the federal deficit in 2007 would be $473 billion. (See Table 6). The actual deficit was a third of that. http://useconomy.about.com... Thus, according to their own study, a FairTax rate of 31.27% would have tripled the deficit. Moreover, the study did not take into account the estimated $600 billion in "transition costs" (which none of the other studies did either). But the most glaring problem with that study is that it did not take account of any non-compliance under the FairTax. (The authors mistakenly believed that the numbers they used did, in fact, take some non-compliance into account, but they belatedly realized they were mistaken.) http://www.aei.org... (Alas, you will need to either listen to the entire presentation or review the materials of Kotlikoff and Gravelle.)
According to Jane Gravelle of the Congressional Research Service, a non-compliance rate of only 8.4% (which is less than half of the non-compliance rate our income tax system) would have raised the required FairTax rate under the AFFT study to 36%, while still leaving a federal deficit of $473 billion. http://www.aei.org... However, if the non-compliance rate were 15%, which is the estimated non-compliance rate in the UK, which has a VAT (a form of consumption tax used in most countries in Europe) of approximately 20%, the required tax rate would jump to 39 %! So, again, using AFFT's own study, a 30% FairTax rate is totally unrealistic.
A higher tax rate translates into higher rates of non-compliance (and a greater burden on the middle class), which leads to a higher required tax rate. It's a vicious circle. And as I demonstrated in my earlier posts, there will be an almost unlimited number of legal and illegal ways to avoid paying the FairTax. Moreover, each of those studies ignored state taxes, which will drive the combined tax rate (and non-compliance rate) even higher. (And since the FairTax taxes government spending, state tax rates must rise.)
Now that I've (hopefully) established that the FairTax rate will need to be far higher than advertised, I'll try to more directly respond to my opponent's arguments in my next two posts.
"Most of my income goes to my house, a vacation home, foreign travel, real estate and other investments, my children's education and savings. All of that would be tax free under the FairTax."
Unless you own a business and collect the sales tax, your house, vacation home, and other real estate would be subject to the fairtax. The only way that you could purchase real estate tax free is if you pay quarterly tax reports to the government. If you tried to avoid the tax on your personal home, you would probably be audited even if you did own a business. And a lot of upper-middle class professionals do spend most of their income, even if you don't. They spend it on expensive cars, classy dinners, name-brand merchandise, and jewelry, all of which would be subject to the fairtax. Avoiding the tax on these things would not be a simple task.
"FairTax at the Macro-Level"
My opponents simple calculation is entirely bogus due to the disproportionality of wealth in this country. If your deduction was correct, the fairtax rate would have to be 70-80%, but none of the studies that you cited reached such a high rate, suggesting that calculation of the fairtax rate is much more complex.
All of those studies ignore the expansionary effect of the fairtax. A higher savings rate would eventually lead to more investment, which means more jobs and a higher average income, eventually resulting in more spending power and faster growth of GDP.
I apologize for not putting more effort into this argument, but I only have 2 minute to post. However, I do not feel too bad as my opponent has been ignoring all of my arguments. Essentially, his only argument is that non-compliance would be too high under the fairtax, and I will do a better job in my next argument of showing why non-compliance will not be as high as my opponent seems to think and that the fairtax would be enforceable by the federal government.
The prebate will not be enough to pay for the FairTax on the "necessities of life." According to FairTax.org, the annual prebate for a family of four will be around $5600. http://www.fairtax.org... How far would that go? Well, the average annual health insurance premiums for a family of four is $12,000. At a 30% tax-exclusive rate, the FairTax will add $3,600 to the cost of health insurance (excluding co-pays, dental, unreimbursed expenses, etc.) That's over half of the annual prebate. If that family rents an apartment for $1000 per month (which would be low for most cities), the FairTax on their rent payments would be another $3,600 per year. So, the FairTax on just health insurance and rent would total $7,2000 per year, much more than they would receive under prebate. And, of course, the family would still need to pay for food, clothing, utilities, transportation, etc., etc.
The prebate is a gimmic. At most, it would raise the required tax rate (because now the FairTax would need to be high enough to pay for the prebate in addition to normal government spending.) Or, to put it another way, if the prebate averages $5000 per family, that means the average family would see its tax obligations raised by an average of $5000 per year just to pay for the prebate. In other words, the government is taking money out of our right pockets in order to give us money back for our left pockets. Overall it's a wash. There's no such thing as "free money" from the government. We need to pay for it one way or the other.
Even if the prebate were increased (which would further increase the required tax rate), it still would not make the FairTax "progressive," for the simple fact that people with higher incomes tend to spend a smaller percentage of their incomes than do the poor and the middle class. (Think Warren Buffet.) So, even if the FairTax "untaxed the poor" via the prebate, it would just push more of the tax burden onto the backs of the middle class and retirees.
While I certainly agree that our current tax system is entirely too complex, the Tax Foundation's estimate of $194 billion in annual compliance costs is totally bogus. http://www.taxfoundation.org... Essentially, the Tax Foundation estimates the number of hours each person spends in preparing and filing tax returns, then allocates an estimated "cost" for that time the taxpayer spent in preparing/filing the return, at a rate of $30 per hour. So, it's not real money -- it is imputed costs. We could play the same game with the FairTax, since taxpayers will be required to keep records of each purchase they make in order to document that they paid the FairTax on those purchases, if every taxpayer spent just 5 minutes a day keeping, filing and organizing his receipts, that would be over 30 hours per taxpayer. At $30 per hour, that's $900 per taxpayer. Since under the FairTax, taxpayers will include all 300 million of us, that translates to "annual compliance costs" under the FairTax of $270 billion dollars, or $100 billion more than our current system.
Now, let's get real for a minute. For the vast majority of Americans, the compliance costs of our current income tax system is negligible. It takes 5 minutes to fill out a 1040 EZ form, and maybe an hour to complete a 1040A. The income tax only gets complicated for individuals when they have complicated investments, rental properties or small businesses. It would be the same thing with the FairTax. For most people, other than keeping receipts, the compliance hassle under the FairTax would be minimal. But for people that have rental properties or small businesses, the record keeping requirements would be extremely burdensome (just as the are now.) For example, if you use your car for both business and personal use, you would need to allocate the purchase price of the car between (taxable) personal use and (non-taxable) business use, and prorate your taxes. If, during the the next year your personal use increased, you would then need to pay additional taxes on the car. You would also need to allocate taxes for each and every purchase associated with that car -- from insurance, gasoline and car repairs, and be able to evidence the percentage of time you used the car for business use versus non-business use. To get an idea of how extensive this record-keeping would be, take a look the FairTax bill, particularly section 2 and 5. http://www.fairtax.org...
The point is: there's no free lunch here. Having said all that, I agree with one thing about the FairTax. It abolishes the corporate income tax, which I believe is expensive, wastefull, counter-productive, inefficient, etc. But we could abolish the corporate income tax without replacing it with the FairTax. We could simply tax capital gains and dividends as ordinary income.
COST PER TAXPAYER AND ECONOMIC GROWTH
You argue that the cost to the average taxpayer would be lower under the FairTax and that economic growth would increase. But all the studies that support thess arguments assume that the FairTax rate would be only 23% (tax inclusive) and that there would be full compliance. As I've shown in my previous posts, the tax rate would be far, far higher than 23% and there would be substantial opportunities for non-compliance. So the cost to the average middle class taxpayer would go up under the FairTax and economic growth would probably decline.
As I've explained, non-compliance would come in three forms. 1. Legal avoidance by shifting purchases to used goods, business expenses, etc. 2. Illegal evasion through the black-market transactions, misuse of business certificates, underreporting of sales and purchases. 3. Overall reduction of consumption due to increased prices. You simply could not force people to buy taxable stuff.
You argue that the cost of the FairTax will be borne by illegal aliens and the underground economy. It's a common argument, but if you actually run the numbers you'll find that's not so. Illegal aliens tend to make low wages, don't spend much (certainly not on new homes, cars and health insurance), and send much of their money home. What little they spend on new goods and services would generate less than 1% of required tax revenue. And since most illegal immigrants work at legitimate jobs where they are subject to withholding taxes, they probably pay as much or more in federal taxes under our existing system as they would under the FairTax.
The idea that the "one trillion dollar underground economy" would make up for revenue lost under the FairTax is equally misplaced. In the first place, if that entire amount were suddenly spent on taxable goods and services, at a 23% rate it would generate only $230 billion, or around 6% of required revenue. But it wouldn't all be spent on taxable goods and services. Most of it would stay underground -- buying drugs, stolen goods, prostitution and spent in cash transactions that would not be taxed. Even when a drug dealer blows $100,000 on a new Corvette, it wouldn't generate any more revenue than under our current system. Under the FairTax, the car dealer would be required to remit 23% of the sale to the government for taxes. But under our current system the car dealer and manufacturer would pay income taxes on the sale, the salesperson would pay income and payroll taxes on his commission, etc. That's what the so-called "embedded taxes" are, and they allegedly add up to 22% of the cost of the Corvette. Thus, the Corvette sale would generate $23,000 under the FairTax versus $22,000 under our current system. Plus, the drug dealer would get the prebate under the FairTax!
HempforVictory forfeited this round.
1. FairTax proponents claim that the FairTax rate would need to be only 23% in a "tax-inclusive" rate in order to be revenue neutral. As my opponent admits, that translates to a 30% "tax-exclusive rate," which is how sales taxes are normally computed. So an item that costs $100 on a tax free basis would cost $130 when the FairTax is added.
2. Notwithstanding the above, all independent studies of the FairTax over the last decade have shown that the 30% tax-exclusive rate would be not be revenue neutral. The tax rate would need to be at least 40% even if there were no tax evasion, and 50%-60% if even a relatively low amount of tax avoidance is factored in. (A common sense analysis of the numbers would also show you that a 30% rate could not possibly work.)
3. Those numbers are only for the tax at the FEDERAL level. You would need to add state and local taxes to the final retail cost of the good. And, since the FairTax taxes the spending of state and local taxes, the state and local taxing authorities will need to increase their tax rates. That is, if the State of Georgia were to build a road for $1 billion, it would need to pay the federal government an additional $500 million under the FairTax (at a 50% tax-exclusive rate), to bring the total cost of the road to $1.5 billion. The State of Georgia could only get this additional $500 billion to pay for the FairTax by raising the taxes on its own citizens. Thus, state and local taxes would increase under the FairTax, which will add another 10%-20% to the total cost of the good and service (depending on whether states eliminated their income taxes and adopted there on versions of the FairTax.)
Thus, when both federal, state, and local taxes are factored in, an item that costs $100 on a tax-free basis, would cost at least $160-$180.
4. Such high tax rates would lead to increasing levels of non-compliance. The non-compliance rate in England is around 15%, and it has a VAT of only 20%. (VAT's, by the way, are much easier to collect than the FairTax would be, because they are collected at every level of production, not just at the final retail sales leve.) Imagine what the non-compliance rate would be under the FairTax with a combined tax-rate of 60%-80%. Obviously, it would be astronomical, which would increase the required tax rate and the non-compliance rate.
5. Non-compliance would not just be illegal tax evasion (through underreporting of sales, black-market activity, misuse of business certificates), but would also be perfectly legal tax avoidance strategies (through buying used goods rather than new goods, taking vacations abroad, delaying purchases, or simply hanging on to cars, houses and other items longer than we otherwise would). In addition, overall consumption would drop as prices increased on both taxable and non-taxable goods and services.
6. This reduced consumption would harm businesses in general, but would specifically devastate car manufacturers, home builders and the retail industry.
7. Moreover, the high tax rate would be particularly burdensome to the middle class and retirees. Even though they would be able to avoid paying taxes on certain items, there would be many essential goods and services that they would simply have to buy no matter what the cost. These include medical care, insurance, utilities, gasoline, food, clothing , rent (if they don't own a house), furniture, prescription drugs, etc., etc. -- all of which would be taxed under the FairTax. The most tragic scenario would be a parent who loses his or her job (and thus her health insurance) then gets diagnosed with cancer. Not only will they need to pay hundreds of thousands of dollars for cancer treatment, but they will be taxed on that spending as well. Or, think of the octogenarian who has to go to a nursing home. Half of his life savings will go to pay the cost of the nursing home, the other half will go to the government to pay the FairTax. I mean, this would be a crime.
For all the above reasons (and the others I've discussed), the FairTax is a terrible idea. If the main proponents of the FairTax ever had the guts to debate it honestly, the public would quickly realize this. Alas, the few times they have ever engaged in any public debate on the FairTax, they simply claim they have never read any of the studies showing that the FairTax would need to be 50% or higher, so they cling to their assertion that the rate would need to be only 23% and the debate goes nowhere.
Having said that, I do believe that a consumption tax -- whether its a retail sales tax or a Value Added Tax -- could, and probably should, play a part in our tax system. Moreover, I also believe that many of the purported benefits of the FairTax could be enacted into comprehensive tax reform. Here's an example:
a. Eliminate (or substantially simplify and reduce) corporate income taxes. This would make American companies much more efficient and our products cheaper.
b. Tax capital gains and dividends as ordinary income (since the corporate tax is eliminated, this would eliminate the "double-taxation" argument.)
c. Greatly simplify the personal income tax by eliminating all exemptions, deductions and credits. All people who make the same income should pay the same amount of taxes regardless of how they derive their income, how large their mortgage is, how many children they have, how much they give to charity, etc. We could still keep mildly progressive tax rates (e.g., 10%, 20%, 30% or whatever would be necessary), but the complexity of the income tax would be greatly reduced.
d. Medicare costs are expected to skyrocket over the next few decades. So let's replace the Medicare tax with a national consumption tax (whether a retail sales tax or a VAT doesn't really matter). No prebate. Don't exempt anything. Thus, the tax rate could be kept fairly low. This would expand the tax base to include the very people who are benefiting from Medicare -- i.e., retired citizens -- and reduce the taxes on working families. Yes, there would be some unfairness, but far less than we would have under the FairTax. (If, like me, you are in favor of universal health insurance, the consumption tax could be expanded to pay for that. But I realize that is a debate for another day.)
e. I would probably keep social security and estate taxes more or less where they are today, though obviously they are subject to reform as well, but that's a topic for another day.
All of the above would provide many of the benefits of the FairTax, without the negative consequences. Our corporations would be more efficient. Our exports would be cheaper. Tax compliance would be easier and therefore much cheaper. There would be less incentive and opportunity to game the system. Taxes would be perceived as being more fair (although, clearly, we could never satisfy everybody as to what is "fair").
For an alternative tax plan that incorporates a consumption tax, please see Yale law professor Michael Graetz's tax plan that he calls the "Competitive Tax Plan." http://en.wikipedia.org...
For those of you have have read the debate this far, thanks for sticking to it and I truly hope you learned something. Feel free to post any questions or comments you might have and I'll try to answer them the best I can.
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Vote Placed by HempforVictory 7 years ago
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Vote Placed by FairTaxCritic 8 years ago
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