The FairTax

There have been some great discussions over at Jabley. Anyone who is interested in the taxing system should read through that area.

There have been many good points raised about The FairTax. I am quickly becoming a proponent. However, I am still bothered by two implications of one big idea. The idea is that any given item is taxed once and only once, at the point where a consumer buys it from a business. Not before, not after.

Not before:
Companies are not taxed on their purchases. The stated reason was not the one I gave in the above paragraph. The stated reason is that business profits eventually end up in the hands of an actual person, which must eventually spend it, and thus pay tax on it. And that any money that remains in the business is by definition investment, and therefore worthy of tax-free status. It’s the second rationale that bothers me. Not all purchases a business makes are investments, and plenty of investments that citizens make are.

I got a good comment from Micah Martello. Among other points, he says that “People already do this very same thing under the current system. Instead of paying the income tax, payroll tax, social security tax, medicare tax and compliance costs when you give yourself a salary to but that car you just pay yourself less and have the company buy the car. It’s still tax evasion under either system.”

I disagree. The difference is that under the current system, when the company bought the car, it paid sales taxes. Under The FairTax, it does not. Under the current system, when the company got the money to buy the car, it paid income tax on that. Under The FairTax it does not.

Not after: Under The FairTax, once an item has been taxed, it is never taxed again. Buying a used item is therefore tax free. I have troubles with this too. I see three related issues.
1) As I posted over at Jabley, it creates a perverse incentive if the value of a new item is more than 23% over the value of that same item used. Jabley dubbed this “Taxitrage”.
2) Who is checking? I don’t see any way to enforce this except to actually have an enormous data warehouse checking the status of every item in the USA. It’s absurd. Businesses have a huge incentive to commit fraud. “Sir, we have a special sale on ‘used’ computers, wink wink”
3) As a consumer, I’d be crazy to buy anything new. Why would I buy a new home, and pay an extra 23% on that price? Why would I buy a wireless router new, or a book, or just about anything. If I can get it used, I will. What does this do to the manufacturer? It amounts to a 23% hurdle that must be overcome in order to get the consumer to buy your product. In fact, it is very much like a tarriff that a foreign country must overcome to sell their goods in the USA, and high tarriffs are generally considered bad economics.

(Point 3 also leads to a 23% incentive to recycle consumer goods, and additionally gives the poorer people a way to purchase goods tax-free. Maybe that’s the point, though I don’t recall seeing that anywhere.)

8 thoughts on “The FairTax”

  1. Your statement “Companies aren’t taxed on their purchases” is only partially true. Companies, like consumers, pay taxes that are embedded in goods but are not called taxes. It works this way: when the clothing manufacturer buys cloth from a factory, the price he pays includes not only what the factory paid for raw materials but the employee taxes he paid for the people who wove the fabric, dyed it, cut it, etc. The factory had to pay FICA taxes, etc. so he just passed that cost along with the price of the goods.

    When the manufacturer has his employees sew the fabric into blouses, dresses, etc., he has to pay the same taxes for his employees so he just passes the amount of those taxes along in the price of the goods to the retailer.

    The retailer is no dummy, so he adds his profit and passes along the taxes he has to pay for his sales employees along to the customer.

    Nobody says there are taxes included, they just are. When the FairTax is inacted, those taxes (around 22% of the price) are removed from the price of goods.

    That’s how not only companies but customers as well pay taxes now, without even realizing it.

    Your “business profits” statement confuses me and I’m not sure what you mean. Seems to me that the point is that with the expanded economic base the FairTax gives us, business profits will be up. Business owners will do what they always do: Spend some of the profit on raising salaries (including their own), spend some on expansion and save some. Everybody profits when business profits.

    As for the fear that no one will buy new goods, that is true for some folks but look at the way that works already. Wealthy people buy mansions instead of houses, Cadillacs and Lexuses instead of Kias, Kate Spade purses ($248+) instead of Coach (Penney’s brand for $48) — they always have.

    It’s the new Cadillac every year syndrome: As soon as you drive that car off the lot it is devalued by 20% — but that doesn’t stop people from buying new cars.

    So look what you have with FairTax: You have your entire paycheck/pension check — 100%. You get #178 per person per household prebate every month. You never have to fill out an income tax form again. The things you buy cost about the same as they did before.

    So what’s wrong with that? People cheat on their taxes now — the IRS says there’s $350 BILLION out there they can’t get to that’s owed them. By taxing tax evaders we’ll get that much more into the economy. AND add 40 million tourists a year and an unknown number of drug dealers and illegal immigrants, all of whom will pay into the system.

    It’s a win/win situation. We, the taxpayers win and the government wins with a broader, progressive tax base.

  2. I think you missed his point. Muttrox fully understands that under the current system that the price of corporate taxation is embedded in the goods we buy. Simple concept. We all get that. Read through the commentary (40+ comments) on the other site, I think you’ll see that these concerns Muttrox has raised are, in fact, all legitimate. Then come back here and post some comments about Muttrox’s election analysis and Sports Funnel Theory, both great post.

  3. A ‘consumption tax’ is the only “fair” tax. Those that consume more, pay the piper more. We’ll talk later. I don’t have enough time to get into a discussion now.

  4. Sounds like a fun upcoming vacation — liar’s poker and discussions of consumption taxes.

    Look at all of the comments! Muttroxia is coming into its own!

  5. Corporations do pay taxes under FairTax. The items they purchase that are part of the product they sell or the equipment used in manufacture are exempt. However, for example, the paper towels in the rest room is taxes because they are the final consumer. The key is the question, “Are they the final consumer of the product?” if so then they pay tax.

  6. Duane, do you have a cite for that? Is it your contention that the now infamous Corvette example is invalid? The closest info I can find is, “If, as a business owner or farmer, you buy something for strictly business purposes (not for personal consumption), you pay no consumption tax.” Paper towels are not for personal consumption, they are for business consumption.

    In your scenario, who is deciding for what items the business is the final consumer?

  7. I think you are slightly confused because you continue to believe that the company gets to deduct things. There are NO DEDUCTIONS for items USED. Only items that are sold. Businesses will recieve a small percentage for collecting the taxes (or large number with large inventory), but the company still pays for everything that it uses on a day to day. Consumption Tax, the business consumed the TP.

  8. Chimney, whatchu talking about? Where did I say anything about deductions, except in the context of the current system?

    Restate your point, if you have one.

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