1: The Fair Tax is not fair
FactCheck.com and FairTax.org admit that the Fair Tax would increase
the taxes on the middle class and decrease the taxes on the rich. Very
few people actually believe that making the middle class pay a higher
tax rate than the rich would be fair. We must remember the term Fair Tax
is a title created for marketing purposes; it is not a description of
The problem can be demonstrated with a simple contrast. Picture two families,
one with an income of $20,000 and another with an income of $2 million.
The first family will spend about 100% of its income on consumption and
still feel economic stress. Thus, 100% of their income will be taxed.
The second family can live a luxurious life by spending $200,000, just
10% of their income, on consumption, while investing the rest. Thus, the
lower classes would have about 100% of their income taxed and the rich
would have only about 10% of their income taxed.
There's an obvious consequence to this. After the tax on the rich drops
from its current rate (nearly 30%) down to its "Fair" tax rate
of about 5%, somebody will have to make up the difference. That would
be those of us in the middle. If your income is below $100,000 you should
be concerned. The Fair tax would increase your taxes.
2: The Fair Tax would be larger than 30%
FairTax.org claimed the Fair tax would be about 23%, FactCheck.com says
about 30%, and BusinessWeek
reports about 60%. With a little reasoning we can see that the Business
week estimate would be the closest to correct.
Right now, you pay about 25% to 30% of your income, minus a few deductions,
in taxes. You spend about 90% if you are middle class, about 70% if you
are wealthy, and less than 40% if you are rich and invest the rest. Not
all of your spending is consumption. Since, your consumption spending
is less than your income, and the consumption spending of the rich is
small compared to their income, the tax on consumption would have to be
larger than the tax on income. Recognize also that not all spending is
consumption, thus the tax on consumption would have to be much larger
than the tax on income. The rate of the Fair Tax would also have to cover
the cost of the prebate. On top of all that, the Fair Tax website bases
its claim of 23% on the assumption that consumption will remain at an
unsustainable 120% of income. All these pieces together, and it is clear
that the Fair Tax rate would have to be larger than 30%, significantly
3: The Fair Tax will not be simple nor eliminate audits
The Fair Tax may actually lead to more paperwork and more audits. The
initial proposal for the Fair Tax appears simple, but it contains all
the inherent flaws that make our current tax system complicated. Most
significantly, consumption is very hard to define. It is the gray definition
of consumption that leads to most loopholes, and consequently audits.
We will consider a few examples to demonstrate how this occurs. (1)
(a) Business sales: Imagine a hobby shop. It must charge the consumption
tax to all of its customers, right? No; what happens if one of its customers
buys beads to create jewelry for sale? The bead purchases are no longer
consumption, they are now a value-added. The hobby shop does not tax the
jewelry maker. The jewelry maker must tax her customers. How do we know
what is value-added (not taxed) and what is consumption (taxed) and what
is cheating? We must fill out the forms and we must audit. The problems
demonstrated by this example will apply to many types of businesses and
all work from home.
(b) Construction: Some contractors fix up old houses and resell them.
A resold house does not get taxed because it is not "re-consumed."
But the materials and labor required to fix up the house are consumption.
They do get taxed. So how do we determine what part of the selling price
of the house is non-consumption, and what part is consumption? This will
require complicated paperwork that will get audited. This difficulty defining
what is getting consumed, and what is getting resold, and what is getting
reused will apply to all businesses. It will require audits.
(c) Home gardens: If you grow vegetables in your garden you do consume
them. But should they be taxed? What if you give these vegetables to your
neighbor? What if you sell them in a corner stand? With the Fair tax on
food being between 30% and 60% your motivation to grow your own food will
increase as a form of tax relief. Again, this specific example can be
generalized to all behaviors where people will try to avoid a large tax
cost by doing the work themselves.
Take time to think about all the transactions in your life that are more
complex than buying a piece of candy at the market, which is most of them.
You will see that all of these transactions involve situations where the
distinction between consumption, value-added, spoilage, and reuse is unclear.
Consequently, complicated paperwork with frequent audits would be required
to ensure the correct tax is being paid.
4: The Prebate will fluctuate politically. It will probably be reduced
The prebate is the strongest marketing tool the Fair Tax movement has
for getting poor and middle class citizens to identify with the movement.
But the prebate is the least politically reliable of ideas behind the
The prebate would cost over $400 billion annually. Being one of the 3
largest expenditures of the federal government, it would be the easiest
target for the deficit hawks to attack. The prebate would also be attacked
by the anti-socialism movement who complain about poor people living off
handouts and illegal immigrants getting money they don't deserve. If these
political movements stay strong in our national dialogue, then the prebate
would be reduced significantly, or even eliminated. This would result
in the tax rate on the lowest classes being much higher than the tax rate
on the wealthiest classes.
We can put parts 1, 2, and 4 together to estimate the effective tax rates
under the Fair Tax. When we do this, we graph a very disconcerting unfairness
to the Fair Tax. Even with the prebate, the poor will pay the highest
rate, and the rich will pay the lowest rate. The Fair Tax would prove
to be totally regressive.
The Fair Tax rate for the poor could be as high
as 100%! But for the rich it won't go above 20%, or about 1/4 the
rate to poor would pay.
Why doesn't the graph at FairTax.org show this? First, they base their
graph on a known false assumption, shown on the bottom of their graph
"Annual income = annual spending." We know this assumption
to be false. The rich invest most of their income, not spend. The poor
must spend more than the total prebate just to survive. Second, their
graph does not even show the incomes and tax rates for the superrich.
This ignores a critical part of the data. Third, they ignore the probability
that the actual Fair Tax rate would be higher than advertised, and that
the prebate will probably be lowered to reduce the deficit.
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