At my request a skeptic of the FairTax laid out the following complaints:

It is a 30% sales tax not 23%.

Retirees will see a drop in their purchasing power due to double taxation on savings. Paid income tax on wages then 30% sales tax.

The IRS will not go away, who will register the the citizens for the prebate, and administer and collect the sales tax.

High Rates and no withholding will encourage tax fraud.

There will be a negative affect on homeownership due to new sales tax and no interest deduction.

The underground economy will flourish and their [sic] will be no need for criminals to launder money because there is no reporting requirement for income.

Instead of just leaving a comment for only the other individual to read I thought I would post my lengthy response here as well.  Chime in.  I enjoy the dialog.

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Wow, you just named off most of my favorite standard complaints.  My absolute favorite is the 23/30% one.  I’m on record as stating that I would have preferred if the FairTax creators used the 30% rate, but I understand their rationale for using the 23% rate (it makes for an apples-to-apples comparison with income tax rates, which are also calculated on an inclusive basis).  The bigger point that should be considered is that since the FairTax is designed to be revenue neutral the tax rate “is what it is.”  If it seems high that is merely a reflection of how high federal taxation is on us, but it is obfuscated by splitting it into multiple taxes.

The second one is the most valid criticism, but is only partially true.  Retirees, and all consumers for that matter, pay taxes every time they make a purchase.  Businesses view taxes (income, payroll matching, etc.) as costs and pass those costs on to consumers.  So, money in the bank will be subject to taxation again, but even with the income tax system some of that money used to purchase items is making its way into federal coffers through an intermediary.

FairTax supporters have never implied that there would be no government administration agency to replace the IRS.  The difference between the FairTax administration and the IRS are dramatic though.  The IRS is viewed as little more than a witch hunt organization because the overwhelming complexity of the income tax code (over 50,000 pages) makes it nearly impossible to honestly and accurately determine your tax obligation.  It also encourages “creative” accounting in order to bend the rules in the hopes that the complexity will mask your actions.  The prebate registration is simple: provide the names and social security numbers of each member of the household.  I think there is also a check box certifying that you are not an inmate.

Another key difference is the number of tax collection points.  With the income tax the IRS must collect from (and occasionally audit) every business and individual/family.  And remember, many tax remitters have complicated returns that are difficult to audit.  With the FairTax only businesses are tax remitters (i.e. fewer entities to audit).  Plus these audits will be much simpler than poring over reams of income tax forms (GE recently filed a 24,000 page return).

Simplifying the tax system not only aids in auditing, but it also discourages fraud.  Yes, the propensity to cheat is proportional to the tax rate.  But, the propensity to cheat (or inadvertently make errors) is also proportional to complexity.  The current tax gap, the amount that should be paid in income taxes, but is not, is estimated to be as high as $345 billion.  Keep in mind that total tax receipts in 2005 were just under $2.3 trillion.  That means that people are underpaying by 15%.  Quite a bit of fraud and avoidance.  Note that this does not even include the untaxed underground economy, which is estimated to be somewhere in the neighborhood of $2 trillion.  Most of the underpayment has been attributed to individuals, not businesses.  This is an important finding because under the FairTax only businesses are required to collect and remit the tax.  The vast majority of the revenue will be collected by large companies like Wal-Mart that will not be willing to take the risk of cheating on taxes (remember, they don’t now plus the simplified code combined with greater auditing resources per tax remitter will tamp out a considerable amount of cheating).

States will administer the FairTax and they will get a portion of the proceeds for their efforts.

I’m not sure how no withholding encourages fraud.  While on the topic, withholding is the absolute worst part of the current system.  Just the notion of giving the government an interest free loan is unsettling, but seeing so many uneducated people get excited about giving the government an overly large interest free loan (refund!) is worse.  But the worst aspect of withholding is how it takes the money from you before it reaches your wallet, leaving many to feel that the money they earned was never theirs to begin with.  This enables higher tax rates and politicians know it.

The FairTax will not harm housing at all.  Existing houses have the built a tax component equivalent to the FairTax rate due to embedded costs associated with existing taxes.  As for the mortgage interest deduction, research does not support your claim.  Even California’s Legislative Analyst’s Office suggested that they get rid of their MID because it “did not have a substantial impact on home ownership rates per se.”  I personally believe that the MID contributed to the current subprime crisis by encouraging people on the margins of home ownership, people who often have little experience with complicated financial instruments, to take the plunge and get a big mortgage with little or nothing down.  Hey, interest is tax deductible!

I’ve discussed the black market argument before (I’m auburn305 BTW).

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This entry was posted by Brian on Wednesday, December 5th, 2007 at 8:40 pm and is filed under FairTax. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site. Please note the copyright policy.