Fair Tax, Foul Politics [NRO on FairTax]

Advocates of a national sales tax to replace the income tax have built an impressive grassroots army. They have given their idea an appealing, if somewhat gimmicky, name: the Fair Tax. And they have managed to get five Republican presidential candidates to suggest that they would sign a sales-tax bill if it reached their desk. Some observers credit the enthusiasm of the Fair Taxers for Gov. Mike Huckabee’s surprisingly strong showing in the Iowa straw poll. Huckabee is the candidate most committed to the Fair Tax.

Former senator Fred Thompson is, however, backing away from the idea. Fair Tax advocates have released a video in which Thompson, asked about the proposal, appears to say he would “absolutely” sign it if elected. On August 10, however, Thompson wrote those advocates a letter that said merely that the Fair Tax was a good starting point in thinking about tax reform. Mitt Romney’s campaign says that the Fair Tax has some attractive elements, but that the candidate would need to see details before making any pledges. Rudolph Giuliani has said that he does not think he would sign any such legislation.

The leading candidates are right to be wary. The tax code needs major reform to become fairer, simpler, and more efficient. The Fair Tax is one instantiation of those goals, but its political impracticality makes it fatally flawed. If conservatives force a choice between a Fair Tax and no tax reform at all, the latter is what they are likely to get.

There is widespread confusion about what the Fair Tax would entail. If you bought $100 of clothing and paid a $30 tax on it, you would probably think you had paid a 30 percent tax. The Fair Taxers say that you paid a 23 percent tax: $30 is 23 percent of the $130 you paid in total. When they say they want a 23 percent tax, that’s what they mean.

Since there would be no more income tax in this system, there would also be no more standard exemption to make sure that the basic necessities of life went untaxed. The Fair Taxers would solve this problem by sending out monthly “prebate” checks to all Americans.

The great, undeniably attractive selling point of the Fair Tax is that it would allow the country to dispense with the IRS. But the sad truth is that if the federal government is going to collect as much money as it currently does—which the Fair Taxers say their system would—its methods of tax collection will inevitably be intrusive. The real difference between the current system and this proposal is that the primary brunt of tax collection will be borne by a smaller group of people: business owners.

Over time, then, enforcement measures could become more draconian than they are today: especially since a massive retail sales tax would create a massive incentive to evade it. That’s why every country that has ever tried to impose retail sales taxes this high has quickly moved to a Value Added Tax levied at every stage of production. Consumers rarely see or keep track of these taxes, and they seem to be fairly easy for governments to raise.

These pitfalls are beside the point, however, since a national sales tax is not going to become law. No presidential candidate could be elected on a sales-tax platform, and no Congress would enact one if he were.

A candidate who ran on the national sales tax would be able to run on nothing else. He would have to spend all of his time defending the idea. Off the top of our heads, we can think of three devastating lines of attack an opponent could use in television ads. One ad could argue that getting rid of the mortgage deduction would send home prices into free fall (something that voters are going to find especially worrisome now). Another could ask why senior citizens, having paid taxes all their lives as they made income, should have to spend their retirements paying taxes on everything they use that money to buy. A third could simply ask voters if they look forward to paying a brand new tax.

There are answers to each attack. But no Republican candidate, especially in the daunting environment of 2008, is going to want to have to make them. Republicans cannot win a national election without the tax issue. If they ran on the national sales tax, Republicans would be taking one of their natural strengths and making it into a liability. Which is why we expect them to say nice things about the Fair Taxers’ passion, and move on.

1. Abolish the IRS and ELIMINATE that portion of spending from the Federal Budget. Do not reallocate the dollars, just cut them. That alone puts a good sized dent in the deficit (about 15% of the current estimated deficit).
The IRS is no where near 15% of current deficit. And you will need a strong enforcement arm to enforce the FairTax collection. Probably zero savings here, and no less intrusive.

The current deficit will end up around $140 billion. The IRS' annual budget is around $20 billion. So that's about 15% of the deficit.

For retail sales, mechanisms already exist and are used daily for sales tax collections. For B2B, the way the Chinese do it is quite ingenious, simple, and straightforward. Invoices are "purchased" from the government for the tax value required for the invoice amount. The payee is only obligated to pay the invoiced amount, and only when presented an official invoice.

For example, I buy a $10,000 CNC lathe from you. I will pay when you give me an official invoice. You "buy" an invoice from the government for $2700 - 27% of $10,000. The government gets the money as soon as you get your invoice, and I will only pay when you give me an invoice; until that point I have no legal obligation to pay you.

And yes, it does work and it works VERY well. I do it all the time when I'm in China. No delinquent taxes, because if you can't pay the taxes immediately on a transaction, you don't get to do the transaction. It forces you to "pay cash" rather than "run on credit" when it comes to taxes.

2. Eliminate the Prebate. Completely. It's a dumb idea, and would take a lot of work to process.
Good idea, but you just lost all the freeloaders. And they represent a sizeable chunk of the population.

The prebate is to provide an equivalent to the standardized deduction. Basically tax-free on the basic income needed to survive, so someone can pay for the minimum costs for food and shelter.

3. Anything regulated by the FDA - food, drugs, etc - are exempt from the FairTax. Your basic needs - food and medicine - are not taxed.
The reduction in the taxable base frome exempting these items caused the calculated rate on everything else to go up substantially.

No, the vast majority of your standardized deduction covers your typical consumption of such items. The average person spends around $600/month on FDA-regulated items. That's around $7200/year, less than the standard deduction.

4. Mortgage payments are exempt from the FairTax. Your mortgage company will not charge the tax.
Do you mean exempt housing purchases from the FairTax? If a new home is $200,000, then the price will not go up to at least $260,000, is that what you are saying? Ditto answer to #4. Tax rate on everything else goes higher.

No, right now mortgage interest is deductible, and for the majority of the lifetime of your mortgage that is MORE than 27% of the principal payment. Meaning that it's probably a push in terms of tax income.

In fact, assuming a 30 year mortgage, you're not going to reach the point where interest is 27% or less of the total monthly payment until you're 25 years out. And the time-value of money saved for those first 25 years will easily offset the extra payments you'd "make" on the last 5 years of the current system.

5. Cut the FairTax rate down to 27%, which would result in a 10% reduction in revenue to the Government. Give them less!
Why do we need the FairTax to do this? If we can cut the size of government in a politically tenable fashion, lets do it. In my view that IS THE ENTIRE PROBLEM.

I agree. However, if we're completely rewriting the taxation scheme, start with it already set lower. Don't shoot for revenue neutral, shoot for a reduction in revenue. I bet even 27% - given the above requests - would still result in a surplus. Probably could shoot for 25%. And that is a LOT lower than we're all paying now - 15.3% for FICA, and more than 10% for income taxes...

1) have a very small govt with no entitlements

Amen. But irrelevant. We're talking taxes, not spending.

2) eliminate taxes. Completely. If the govt wants money it will have to earn it just like any other company by asking for ‘donations’ and delivering a real return for the money.

I would love it, but we have a historical example in the Articles of Confederation showing that voluntary taxation by the feds doesn't work. I'm inclined to think we'd see the same result today.

But in the meantime, a flat tax. No it will not eliminate the IRS.

Then it's out. Ignoring the fact that our current system today was created as a flat tax just two decades ago, there is already a proposal on the table that does eliminate the IRS. If you want to propose an alternative, it needs to be at least as good as the proposal already out there. Even an idealized flat tax is not, and we know from experience exactly where a flat tax ends up after a few years.

I'm more than willing to listen to a candidate (or just a regular Joe) who proposes an alternative to the FairTax that eliminates the IRS and income-based taxes. I have yet to hear one, so until I do I will continue to not vote for, donate to, or support any candidates who don't come out in favor of the FairTax. Period.

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