Link Worth Noting: the Wall St. Journals anti-FAIR Tax editorial, and Ed’s comment at TaxProf
by Linda Beale
Link Worth Noting: the Wall St. Journal’s anti-FAIR Tax editorial, and Ed’s comment at TaxProf
crossposted with Ataxingmatter
I’ve often commented on the so-called “FAIR Tax” on this blog–a proposal for a consumption tax that tends to be supported by GOP politicians and right-wing propaganda tanks and is often blatantly misrepresented in discussions. See, e.g., Bruce Bartlett on Fair Tax Proposal ; FAIR Tax: Huckabee’s win in Iowa requires more discussion of his tax proposals. Caron on TaxProf notes today the Wall Street Journal’s editorial on the issue and commenter Ed D notes a number of the problems with the FAIR tax that I’ve pointed out before.
The so-called “FAIR Tax” is in fact terribly unfair. It is an extraordinarily regressive tax, since it is a tax on consumption rather than income and at least the bottom half of the income distribution tend to spend all of their income. It is often represented as a 23% tax, but that figure is misleading, since it is calculated based on a tax-inclusive sales price rather than a tax-exclusive one as most sales taxes are (so a 23% tax is really considerably higher than 23 dollars on a 100 dollar purchase price). Further, the rate would have to be much higher than that to be revenue neutral– at least 30% and realistically even around 50%. The Fair Tax proposal includes a tax paid by the government to the government and other unlikely sources of income, assumes no losses due to compliance problems, calls for “simple” enforcement due to elimination of the income tax, and assumes away transition problems (if our income tax were abolished in favor of this regressive tax) while shoving a huge burden to the states. All of those proposals are unworkable:
- there is no increase in revenues when the government pays tax to itself;
- compliance problems are likely to be higher with a national sales tax than with an income tax (most studies, based on other countries with consumption taxes, suggest 20-25% noncompliance);
- an agency equivalent to the IRS would be needed to audit compliance and to interpret laws and to pursue legal cases, just as is needed with the income tax;
- transition problems are gigantic: the elderly already living on retirement income have generally already paid an income tax on their earnings (and possibly on their savings income as well) but will now have to pay a consumption tax when their spend that savings, so they will be double taxed (think of all the areas that would be affected by removing the current tax system as well–prices generally have tax incentives built in, so that is another area that will hit established families much harder than young ones, and the elderly who are not rich especially hard);
- states that have income taxes mostly start from the federal income calculation as the base–they will either have to develop their own equivalent machinery to the IRS or completely revise their tax systems as well; states that already have sales taxes will now have much more of a problem collecting sufficient revenue, since a low-income person making a 100 purchase will have to pay the high federal rate of tax (say 40%) as well as the state rate (perhaps 7%), resulting in the $100 purchase now being $147. Many of the national sales tax proposals assume that the states will do the collecting for the federal tax –which brings its own problems in terms of inordinate burden on already stressed states, likelihood of inadequate compensation to the states, problems of confidentiality and consistency of collection across the states, etc.
IN short, a national sales tax system would be disastrous for us, and especially so as a substitute for the income tax.
The Wall St. Journal editorial suggests that GOP candidates should step away from the Fair Tax during the campaign: The Fair Tax Trap (Oct. 29, 2010). Given the title of the Wall Street Journal piece, one might have thought that it was going to address the many problems with the national sales tax proposal. But it doesn’t really. Instead, it argues that Democrats are attacking Republicans who support the FAIR tax without “mention of the tax-cutting side of the proposal”, bemoans that “the attacks do seem to work” and suggests that the “political reality” means that it would be better not to talk about the Fair Tax now and instead wait until “the income tax is on the road to repeal.” About the only issue it acknowledges is the vast increase in amount paid at point of purchase if someone lives in a sales tax state and ends up also owning a national sales tax amount of 23% (especially if there is still an income tax), which it admits could lead to cheating and the continuing need for an enforcement apparatus.
The Wall St. Journal thus appears to be advising its base (the right-wing and Republican party) on how to win an election by continuing to deceive people. It says it is a problem that the Democrats don’t mention the “tax cuts” from a FAIR tax. Come on. That’s tax cuts only for the rich: the poor will pay even more of their income out in taxes under the extremely regressive national sales tax. What about the transition problem (that people currently ready to retire would have already paid their share of tax on their wage income but would pay it again every time they spend a dime) or the problem for the states or even the deceptiveness of the rate? Not about to fill people in on those issues.
The Wall Street Journal is Wall Street Junk. The wealthy elite are getting by with economic murder in this country, and that must drastically change. TAX THE RICH, FEED THE POOR, AND LET’S BUILD AND REPAIR INFRASTRUCTURE TO CREATE JOBS!
All true, Linda.
But wouldn’t a *progressive* consumption tax (report your income and your savings, pay tax on the difference) be a reasonable way to go?
It could be as progressive as you want.
True, it might be unfair generationally. Have to think about that one.
This question from a wild-eyed liberal who also thinks that economic efficiency is hugely important.
How about no tax of any kind for people who make less than say $40,000.00 per year, then tax the rest on a progressive upward scale to finance the costs of Government, war machine, perks, all the other corruptable things that go hand in hand with Government largeness. This seems fair to me.
With the exception of the payroll tax (or insurance premiums for SS and Midicare, if you prefer) that’s not far from what we have now. The second quintile pays an effective income tax rate of about 3 or 4%.
The problem is that we don’t tax the wealthy and the high earners anywhere near enough. Look at the bracket limits for 2010. (Married filing jointly)
That is scant progressivity, and a top marginal rate reached way, way too early. For all the tea-bag tax hype, the bottom 50% is hardly taxed at all, and the rich have many ways of evading their already too low taxation. The result is the biggest disparities in both wealth and income ever recorded in the U.S. and enormous deficits.
Steve Roth: “This question from a wild-eyed liberal who also thinks that economic efficiency is hugely important.”
Why is a consumption tax considered efficient? Isn’t there a rather significant deadweight cost to a consumption tax? By comparison, say, to an estate tax? Or a property tax?
As the Reps are fond of saying, the income tax mostly hits the rich. And that’s the tax they want a consumption tax to replace? Hmmm, wonder why? In a democracy don’t we want the rich to spend? Especially in times like these? Wouldn’t a consumption tax be a drag on any economic recovery? What is efficient about that?
What about the fact that the consumption tax is designed to destroy the economy. At 23% to 40% more for each purchase would result in demand decreasing that amount which would lead to 33% to 50% unemployment within a few years. It would also cause a collapsed in the tax revenue collected which would mean that the tax rate would have to increase. By the end of this the economy would be destroyed and we would be back to the stone age. Also due to the fact that the very rich spend only about 1/10 of their yearly income would mean that their tax rate would be about 3% while the poor tax rate would be ten times that at 30%.
If efficiency is important you should be looking at the land value tax.
In my opinion, the least bad tax is the property tax on the unimproved value of land, the Henry George argument of many, many years ago. ─Milton Friedman
People making under $40,000 generally rent, so not taxing them is a de-facto subsidy to their landlord.
All Taxes Come Out of Rents!
>their tax rate would be about 3% while the poor tax rate would be ten times that at 30%
some see that as a problem, others as a feature.
Umm, I’m absolutely sure that the Fair Tax proposal includes a rebate of some kind to the low paid, meaning that it is in fact progressive.
However, It is still a particularly dumb idea.
No, not because it’s a consumption tax (in order, the tax with the least deadweight costs to the highest: property, consumption, income, corporate and capital gains. Moving from taxes later in the list to those eariler reduces deadweight costs for the same revenue raised.) which isn’t a bad idea.
But because they want it to be a sales tax, not a VAT. Hitting consumption with a one off 23% (or higher, agreed) sales tax at the point of final retail sale is simply an open invitation to create a massive grey economy. The *only* way you can get a consumption tax up that high is to have a VAT. So that, while the final tax is indeed 23% ( as it is (ish) in the country I live in, Portugal), you’ve actually collected it slice by slice as each participant in the value chain is charged that 23% only upon the value they have added.
Even then there’s a huge temptation to cheat as and when you can. But if it were a one off 23% only at retail then just think of the temptations!
I first wrote about this, oooh, five years ago. I pointed out that I could make millions in a couple of months if such an insane law were ever brought in. Sure, I’d have to be a crook to do so but then I don’t think there’s any real shortage of people willing to be a crook to make a few millions in such a short time.
Howlingly, horribly, easy in fact. So, I register under the law, just as I would with the current sales taxes. Yup, I’ll collect the tax for the Feds. I’ll have to pay some sort of bond, as I do under current sales tax legislation. The bond is set at what I say is my likely turnover. Great. I’ll be a small electronics store. I say my turnover will be a couple of laptops a day, thus setting my bond.
I carry along for a few months selling a couple of laptops a day, paying my suppliers and the tax. Then I order three containers of laptops and have a “blow out sale!”. I charge 10% less than everyone else. I can do this because I’m not going to pay that 23% tax. I’m making a very nice 13% margin on my three contaimer loads (3,000-5,000 laptops sort of range).
Sell them all and then skip. Borrow another SS identity (these aren’t tough to get now are they?) and rinse and repeat next city over in two months time.
OK, there might be some refinements needed but there would only really be one way of stopping this refinement of the classic “long firm” fraud.
The bond I put up at the beginning would have to be huge. Well, good luck with that, you’ve just made it damn near impossible to finance a new retail venture because of the capital needed for the bond.
The Fair Tax is an incredibly stupid idea simply because it isn’t a VAT which is the only way you can impose a consumption tax of that size.
I think a national sales tax is a great idea. When have Americans ever done anything smart before they did every stupid thing that anybody could think of? Until a bad idea comes up and swats us in the face, like a codfish swung by Ted Williams, we won’t recognize it as bad. This is why I’m voting for the Tea Party candidates on Tuesday, and why I’m voting in favor of our state referendum to reduce the MA sales tax from 6% to 3%. Stupid is better than Smart, because you can leorn so many more vivid lessons from Stupid.
1. I agree that a sales tax/VAT is a bad idea because it’s A. hard to administer and 2. Very hard to apply progressively (can make some goods like food exempt but it’s just a big mess requiring a huge beauracracy/management system.)
2. You can do a consumption tax using the current IRS management system: report income, report savings, pay taxes on the rest. Yes there are mechanical issues but it’s much easer than a sales tax or VAT.
3. Such an approach would use the same kind of progressively tiered taxation system that exists now for income.
4. Many have made the argument for the economic efficiency of a consumption tax. Not necessarily definitive, it could be bad analysis, but I don’t have the time or wherewithal to go deep on it here.
jazzbumpa: “That is scant progressivity”
It’s even worse than that. Put all taxes together — local, state, federal — and our tax system is not progressive at all above about $60K a year.
Heywood Mogroot: “If efficiency is important you should be looking at the land value tax.”
Yes!! Though I think it would probably be ill-advised to build our whole tax structure on it. But the state initiatives to constantly drive down property taxes make me crazy. Yes, prop taxes tax improvements (bad incentive) along with land value, but still.
Min: “Isn’t there a rather significant deadweight cost to a consumption tax? “
Tim Worstall: “in order, the tax with the least deadweight costs to the highest: property, consumption, income, corporate and capital gains”
I *really* want answers to this. In theory, taxing things with high demand elasticity results in the greatest deadweight loss. And consumption (especially by the rich) has far more elasticity than income or arguably even carbon usage (especially by businesses). (And there seems to be zero demand elasticity for investment income, because if you have cash there’s no alternative to investing it except watching it deflate away.)
So Tim, why do you say consumption taxes yield low deadweight losses? I’m really not arguing with you. Wildly curious.
Heywood Mogroot: “People making under $40,000 generally rent, so not taxing them is a de-facto subsidy to their landlord.
“All Taxes Come Out of Rents!”
Errr, you mean if we raised the renters’ taxes their rents would go down?
Well, if we raised their landlords’ taxes, their rents would probably go up. So, do we tax the landlords and have rent control?
When is the last time that anyone has seen Linda Beale respond to a single main post on this blog?
The citizens of this country has been indoctrinated into thinking that the Income Tax system is the way to fund the government.
They have also been indoctrinated into thinking that the current Income Tax system
is progressive and that it helps the poor.
But the current income tax system is NOT progressive at all!!
With tax credits, deductions and various tax loopholes, there are a myriad of ways for very high wage earners to get around the higher tax brackets of this “progressive income tax system”.
Thus the percentage of tax they end up paying is LESS than the percentage of tax paid by those who earn lesser incomes.
So these people are supporting an income tax system that does NOT do what it claims it does.
In theory the income tax system may be progressive but in actual practice it is not.
Since the income tax laws are constantly changing, only very wealthy businesses and very wealthy individuals have enough money to hire tax attorneys and CPA’s to constantly monitor the ever changing income tax laws, IRS directives and tax court cases to restructure their business and investment holdings to zero out the “progressive” tax they are supposedly paying.
The current Income Tax system has proven to be extremely inefficient and it is ALWAYS coming up short on what the government claims it is owed.
Therefore tax reform is needed.
But it is IMPOSSIBLE to reform the current income tax system because its model is based on progressive income tax tables which then get zeroed out by credits, deductions and other loopholes.
Those that continue to argue for and support the current income tax system are actually hurting the segment of the population they claim to be helping – the middle class and the poor.
The only solution is a new tax system.
And the only argument that should be occurring today is what that new tax system should be.
Anyone voicing support for the current Income Tax system is supporting a tax system that is inefficient, is made up of mind numbing rules and laws that the majority of citizens do not understand and actually harms the middle class and poor of this country.
The odds that a consumption tax enacted as a replacement for the income tax would be adequately progressive are almost nil. It would certainly require almost all the machinery of the current income tax (and then some) to work, and the top rates would have to be extraordinarily high for it to be an adequately progressive tax—maybe around 1800%, for example. Given the anti-tax rhetoric and the anti-tax moneybags, there’s no way Congress would enact a sufficiently progressive consumption tax that left a sufficent exemption level so that the poor and nearly poor would pay no tax. IN fact, much of the right-wing anti-tax rhetoric is to the effect that the poor should always pay some income tax, just to be part of the American experience (see, e.g., Tax Foundation drivel on this issue).
There’s nothing really particularly efficient about a consumption tax, except when it is a flat tax imposed at point of sale on everything sold. Once items are exempted (they inevitably will be–can you imagine Americans being willing to pay tax on borrowed money, which is necessary to have a fair consumption tax); once taxpayers are exempted (they must be–else the poor will pay an inordinate amount of tax and be driven even poorer and governments would spend inordinate amounts of expensive labor trying to refund to each other tax that shouldn’t have been paid; once the tax is redefined as a quasi-consumption tax (which it will be–no tax stays the same in this country for years and years and years, and the consumption tax will change with the winds, if enacted)–once all these things take place, the consumption tax will likely be less efficient than the income tax, and will likely engender all the same compliance problems, arbitrage opportunities, and complaints that the income tax now falls prey to.
The problem of course, that a tax on the “unimproved” value of land distorts decisions about land use, by propelling “development” even if development doesn’t otherwise make sense (e.g., of wilderness, green spaces, etc.)… When we were a frontier country with so much space that no one could imagine there’d be a shopping mall every 50 miles, maybe that would make sense. But where development has already run amok and created concrete jungles with little rhyme or reason, who wants to try to fund the federal government by taxing “unimproved” land? Not me.
Norman and Jazzbumpa
I agree heartily here. We should actually raise the rates, with more brackets. Although anybody with more than $250,000 a year is really in the “rich” group, there is still a significant difference between making $250,000 a year and making $3 million a year, or $30 million a year, or (shades of hedge fund managers) $600 million a year. We should increase the number of brackets and raise the rates up to around 55% or so for the highest brackets.
I don’t get here as quickly as I wish, but I do respond. Read em.
The problem with your screed against the income tax system is that it isn’t the system that causes those problems, it is the ignorance of Americans, the facility with which big money influences the system, and the refusal of mainstream media to provide the kinds of informative articles that would help educate the citizenry about this. The problems of inadequate progressivity would occur with a VAT, a national sales tax, or any other kind of tax so long as those inadequacies persist in our country. And in fact would probably be made worse, since the big money that is pushing for the “flat tax/Fair tax/consumption tax” would be spending money to try to make ordinary Americans think that something that was working against them was workign for them.
The income tax system’s many rules don’t even impact the vast majority of American taxpayers. Around 70% take a standard deduction, meaning that they don’t have to deal with most of the complexity in the Code. It’s mainly the very rich and the big corporations who have to deal with the complexity, and the complexity exists because they tend to hire big guns (CPAs, tax lawyers) to help them work around the rules, so the rules have to be updated to cover the workaround and the whole cycle starts again. The complaint about tax complexity is another example of the naivete of the anti-tax movement as voiced by ordinary Americans. The complexity helps ensure that at least some rich pay some portion of what they ought to pay, and thus helps ensure that ordinary Americans aren’t burdened by the wealthy’s failure to pay.
As far as a “new” tax system–it takes years for people to understand how rules work, and imposing a completely new tax system is an invitation for arbitrarge and abuse, an invitation to the rich and big corporations to REALLY manipulate the tax system to their advantage. In fact, that is probably one of the reasons that the right-wing think tanks support “repeal” of the income tax for a “Fair tax”. After some 20-30 years, we’d start to have some rules in place that would make it more workable. But at the beginning it would be somewhat chaotic and those with the will to cheat and the means to buy someone to help them do it would be the winners.
Linda, thanks for the reply. Your point about the necessary top marginal rate for a consumption tax is is telling. Will ponder more.
Linda, land value taxation does not stimulate development that otherwise doesn’t make sense. It stimulates the most appropriate use of all land, which means there is more intensive development of the most advantageous land, mostly in city centers, and less pressure to develop lower-value land farther out. It is also not a tax on unimproved land, but on the value land would have IF it were unimproved — i.e., the value it has minus everything the owner is contributing. As this value is all publicly created, it makes good economic as well as moral sense to recover it for public purposes and benefit.
Heywood, all taxes do not come out of rents. Probably somewhere around half do. Although a tax on land can’t be shifted off the landowner because the supply of land is fixed (zero elasticity), other taxes can be shifted off the nominal payer to varying degrees according to the relevant elasticities of supply and demand. This is basic economics and is not disputed by any competent economist.