Taxing Sales under the FairTax – What Rate Works?

Boston University ^ | September 2006 | Laurence J. Kotlikoff et al

[pigdog]

As specified in Congressional bill H.R. 25/S. 25, the FairTax is a proposal to replace the federal personal income tax, corporate income tax, payroll (FICA) tax, capital gains, alternative minimum, self-employment, and estate and gifts taxes with a single-rate federal retail sales tax. The FairTax also provides a prebate to each household based on its demographic composition. The prebate is set to ensure that households pay no taxes net on spending up to the poverty level.

Bill Gale (2005) and the President’s Advisory Panel on Federal Tax Reform (2005) suggest that the effective (tax inclusive) tax rate needed to implement H.R. 25 is far higher than the proposed 23% rate. This study, which builds on Gale’s (2005) analysis, shows that a 23% rate is eminently feasible and suggests why Gale and the Tax Panel reached the opposite conclusion.

This paper begins by projecting the FairTax’s 2007 tax base net of its rebate. Next it calculates the tax rate needed to maintain the real levels of federal and state spending under the FairTax. It then determines if an effective rate of 23% would be sufficient to fund 2007 estimated spending or if not, the amount by which non-Social Security federal expenditures would need to be reduced. Finally, it shows that the FairTax imposes no additional real fiscal burdens on state and local government, notwithstanding the requirement that such governments pay the FairTax when they purchase goods and services.

[Principled]

http://www.fairtaxcalculator.org/

see what it says. if your only criterion is net position, it will be quite easy to determine.

[GregoryFul]

Your calculator says nothing about current assets.

[Principled]

If you choose to earn zero, a better way to determine effective rate would be to enter the amount of your savings you choose to spend instead of using earnings.

If you choose to earn zero and you choose to spend lots of money, you will have a higher rate.

The calculator does not include mitigating factors like pretax savings or capital investments (like houses), which offset the tax on spending.

[GregoryFul]

Under the current system, when I spend savings, I do not get taxed at the 25-30% fair tax rate. You are avoiding the issue. Those who have after tax savings in certain forms (perhaps not housing, as used housing will probably see an increase in value as alternatives for taxed new housing), will be taken out and shot by this change.

[Principled]

It isn't my calculator. I know it doesn't say anything about current assets.

If you have any pretax earnings, they will experience a big gain because no income tax will be due. If you sell any capital assets, you will pay no cap gains tax (stocks, homes, etc). You can also pass on your savings free of any gift tax.

There are mitigating factors, obviously, that do not appear on the calculator page. If it really is only your net position that you're interested in, these things would have to come into the analysis. If you don't include these factors, your analysis would be incomplete.

My decision is based on more than just my net position, so I don't share the view that an increase or decrease in purchasing power is a deciding factor.

[groanup]

I have considerable after tax savings that would suffer an immediate haircut in value due to the change in tax on income vs. tax on spending.

IN what form? Stock? Long term capital gains will not be taxed. Bonds? No more tax on interest. Savings account at banks? No more tax on interest. Mutual funds? Long term gains no longer taxed. Capital gains distributions, dividends, interest no longer taxed. REal estate? No capital gains taxes even on rental property.

In most scenarios of "considerable after tax savings" there is probably a long term capital gain. Immediate gain of 15% on the increase. WHat form of investment do you have?

[Principled]

Um, I said "savings will be taxed when spent". Is that avoiding the issue?

I also said that there are mitigating factors. For example, if you have any pretax savings (401k, 403B, etc), they will get a big gain. Why are you avoiding this issue?

Also, any cap gains you'd have to pay on sale of homes, stock, or other cap assets will be gone. Why do you avoid this issue? Also, you will be able to pass on your fortunes to your heirs without an estate tax. Why do you avoid this issue?

[xcamel]

We've been calling it the "billcrapulator" for a while now. Works great for those with a room temperature IQ.

[pigdog]

"... nearing retirement, I have considerable after tax savings that would suffer an immediate haircut in value due to the change in tax on income vs. tax on spending ..."

Let's take a look at that and get some idea of what might happen:

Let's assume your and your wife have an $800,000 savings account and that when you go on S/S and retire you'll receive about $21,600 per year. If you invest your savings and earn 6.25% annually this would give you an annual income of $50,000 plus the S/S or $71,600 - none of which income is taxed. With a reasonable assumption of things not taxed under the FairTax of $17,900 - which may even be low - let's say you spend the rest on taxable consumption giving an effective FairTax rate of 14.61%.

The untaxed things are expenditures such as such as:

1) Mortgage payments (p&i both).
2) Other loans and credit cards (p&i also).
3) State and local taxes including property taxes.
4) Educational tuition payments.
5) The entire amount of savings/investments.
6) Money contributed to church/charity/political organizations.
7) Money given as gifts to others.
8) Used items such as real estate, cars, furniture, etc. on which tax had already been paid.

Most likely if you remained under the income tax only the $50,000 in investment earnings would be taxable (depending upon the type of account and intervening changes in tax laws) and that would put you into a fairly low income tax effective rate also - something like 15.88% (higher than the FairTax effective rate) so that the "haircut" would not be as great as you might fear - and you have the advantage of lowered prices under the FairTax and no government mischief to alter what might be taxable income - perhaps a larger chunk of S/S to be taxed by that time ... who knows. In fact with some different information you might do even better.

Also keep in mind that under the income tax you will be paying an additional tax amount in the form of higher prices - an amount that FairTax opponents have stipulated as 9% - on everything that you buy (even the S/S funds) - whicvh would make your income tax effective rate 24.88%.

And keep in mind that the effective FairTax rate is not paid except when you decide to consume taxable items. Your annual prebate would be $4,508 so it would obviously be to your benefit to try to even increase your savings under the FairTax were that possible.

[Principled]

He he he the gain would be 17.64%. A $100k pretax asset is actually worth $85k. Increasing it's value from $85k to $100k is a 17.64% increase lol.

[Principled]

We'd all be interested in knowing what the error(s) are in the calculator. You and lewis have asserted that there are problems with it. I don't believe you. I don't think you know enough to determine such.

However, if you do - please show us. Otherwise, were left to see that you're posting things that aren't true. Why would you post something that isn't true?

Again, if you have an error in the calculator, please share it.

[pigdog]

For one analysis making several assumptions (you actually give little information to make any detailed assessment), see post #309.

Perhaps some other FairTaxers can add some insight ... but don't be sidetracked by the scare tactics of FairTax opponents that "everything will be taxed by 30%" (or even more with some of the detractors.

It is the effective rate rather than the marginal rate that is important in determining purchasing power.

[xcamel]

Starting or ending with the simple fact that the FT doesn't even exist as law?

[Principled]

That the nrst is proposed law is not related to whether the calculator has errors.

Why don't you just admit you don't know enough about it? You can also apologize to the forum for putting out posts you know to be untrue.

[unixfox]

Why hasn't anybody thought of this before?

This has been floating around for at least 10 years. It'll never happen though because the politicians (i.e. SCUMBAGS) will not let go of the power they have to control everything via the tax system.

[pigdog]

Your post said:

"Because you quote polling without indicating what the content of the poll was, nor do you cite any source."

And now you claim I didn't "quote polling" at all but post #38 (which BTW has no polling information in it).

... so you obviously made a "slip of the tongue", eh? You may retract the statement since you now say yourself it is was incorrect.

[GregoryFul]

I brought up the issue - you bring up many more issues - blowing smoke I presume. My issue is the immediate reduction in value of after tax savings to the holders of that class of savings. Sure, I have other classes of savings, accumulations of before tax savings are quite limited by government rules though. Cashing in some classes of savings will see a possible reduction of tax liability, depending on my income tax bracket, but it seems more likely that these classes will have a greater tax liability under the Fair Tax. For instance, long term capital gains will be taxed at a much higher rate (when spent of course).

It is nonsense to say that before tax savings will get a big gain, instead of paying the income tax on it as it is withdrawn, one would be paying the NRST, probably a greater tax liability - particularly in retirement years.

Personally, I see this scheme as a way for the "going broke fast" government to exploit the retirement savings of the baby boomers, who will be spending their lifetime of savings, and get marginal benefit from the elimination of income tax.

Should something like the NRST be at risk of becoming law, I'll cashier my savings and invest in housing, or other protected classes of "savings". So will many other investors - what havoc would that create? Eh? (That is a new issue)

[pigdog]

"All of this is in addition to any of the other difficulties such a system would face as has already been previously mentioned; such as avoidance of taxation through a black market (case in point look at the mob and their traffic of tobacco products into New York), non removal of excise taxes, incentives for home ownership (why buy a house when you can rent and pay the same taxes?) and a new bureaucracy to manage the new taxation system. "

You seem to have only a superficial grasp of what the FairTax is and how it functions. You give the good old "black market" shibboleth with no definition of what you mean nor any definitive backup information and you cite apocryphal data relating to sales tax arbitrage between states with is completely eliminated under the FairTax.

You also cite "incentives for home ownership" as a negative when if fact it is one of the very positive parts of the FairTax which is clearly shown by the information on the FairTax website.

You seem to actually have done little in investigating the matter and make what amounts to a claim of having decreasing prices with taxpayers having more and that this combination will be "the biggest economy-destroying event" in the history of the Universe (or perhaps it was Intergalactic Space. IAE, it seemed a bit much - especially since just the opposite is the thing that will occur.

Also your claim that prices will decline with the elimination of the income tax is an "assertion" clearly means that you believe there is no income tax costs embedded in prices today. You certainly on a very sharply-pointed platform with that claim as most people certainly realize that is not the case.

But I'd be glad to read your detailed economic analysis of how the FairTax will drive our country "to hell in a handbasket" for perusal. Just be sure it is adequately presented as to methodology and data sources as is the lead-in paper in this thread. Since you're so positive of your claim, I'll just wait here on line as it shouldn't take you long ...

[groanup]

Personally, I see this scheme as a way for the "going broke fast" government to exploit the retirement savings of the baby boomers, who will be spending their lifetime of savings, and get marginal benefit from the elimination of income tax.

Then you are sadly mistaken. Most invested retirement assets are sitting in IRA's and 401(k)'s, 403(b)'s, TSA's (why in the hell do we have to have so many %$^%$%plans anyway?). So your theory is kaput from the start. All of these plans would lose their future tax liability. The greatest windfall of the FairTax plan.

[pigdog]

"... every roll of toilet paper states buy will cost 23% more ..."

Obviously you've bought into the Chicken Little nonsense of the FairTax opponents and have not read the paper in the lead-in post ... which clearly shows this to not be to the case as it says in the Abstract and later in the paper:

"Finally, it shows that the FairTax imposes no additional real fiscal burdens on state and local government, notwithstanding the requirement that such governments pay the FairTax when they purchase goods and services."