Abolishing income tax--would this work?

Great Debates
61

Wow… The credit card industry has waaaay more information on you than the government does. And now you want to give them more information without requiring how that data is kept or used.

As has been argued in this thread that’s a misnomer. In order to make the fair-tax ‘fair’ (ie exempting necessities) a whole new layer of bureaucracy needs to be created. You’re just replacing one bureaucracy with another.

Handled by the previous poster

How’s that? This ‘fair tax’ doesn’t magically remove lobbying or special interests. The ‘fair tax’ doesn’t remove congressmans desire to look out for home-state industries. It has the same potential for exemptions and special circumstances as an income or wealth-based tax does.

Cite for the competitive disadvantage? if anything I’d think this puts the US at an advantage because it has cheaper goods.

While consumption might drive standard of living, wealth is what drives consumption. So why not just tax the source instead of the by-product? You’ll end up creating loop-holes by skipping a step.

62

What information would they have that they don’t have now?

Regards,
Shodan

63

Here’s the link to Taranto’s opinion.

I doubt if he’s an economist.

His key argument is that a 30% increase in the price of goods and services will cause people to stop spending money. "When Congress slapped a “luxury tax” on yachts, people stopped buying yachts. The yacht-building industry was devastated; people working in it lost their jobs; and Congress ultimately repealed the tax. The Fair Tax would impose a 30% levy on all consumption, a powerful disincentive to spend money. "

First of all, his conclusion is not that far off. But his reasoning is pretty terrible. There’s a huge difference between increasing the price of yachts and increasing the price of all goods and services (including wages). The first is obviously going to reduce the demand for yachts. But the latter is called “price inflation”, and it’s not exactly a new and exotic phenomenon. From 1957 to 2007 prices in the US went up by 629%. (Inflation calculator.) Somehow people never stopped spending money in favor of starving to death in caves. Go figure.

He does have a valid point though, since a 30% price inflation will make people with money saved poorer, and thus less likely to spend. But he’s shot down his own premise. Why? Prices will not go up by 30%. It would not be natural. Lower demand -> lower prices -> new equilibrium. You can’t successfully increase prices by 30% by (basically) government decree any more than you can lower them by the same amount.

There’s just no good reason for price inflation due to the FairTax (without monetary inflation). Once you accept that, Taranto main objection disappears.

(I can see some price inflation due to the protectionist aspects of FairTax, but that’s different.)

(I can also see slightly reduced demand at first as people invest in the growing economy instead of spending like drunken sailors. But that’s a feature, not a bug.)

I agree that studies and predictions and models can’t be trusted completely. But you have to make a decision. “Change nothing” is also a decision. If I have to make a decision regarding the weather I’ll trust the weatherman. He won’t always be right, but he’s more likely to be right than me.

64

I guess you’re right - they don’t need anymore information to collect taxes than they already have since it’s a straight percentage - but the point still stands. Private companies currently posses way more data about you and have to abide by way fewer regulations than the government does, and yet it’s the government that’s the big privacy boogeyman.

65

That sounds like a ‘the market will sort it out’ answer - which ignores some major factors. The main one being most businesses don’t survive on +30% profit margins and can’t just absorb the hit they’d take on the prices. When you have more of something, the demand might go down, and put pressure on the price but that doesn’t make it any cheaper to produce. You can’t just toss things into the magic market cloud and expect ideal results. We live in a system that’s driven and governed by humans.

66

Now you have me confused. Can you explain that more clearly?

As I understand it, The fair tax is supposed to be revenue-neutral. Presumably, it’s not supposed to change real incomes on the whole–people should have (more or less) the same buying power before and afterwards.

But under an income tax (at 30%), people earn 100, and have 70 after-tax dollars. Let’s define their purchasing power in terms of buying $1 widgets. So they can buy 70.

Under the ‘fair tax’, the 30% isn’t taken out of income. So now, our hero is earning 100.

If he can still buy 70 widgets (based on our assumption that the fair tax is revenue-neutral and purchasing-power neutral), they have to be $1.42 each.

Further, economists generally admit that the downward elasticity of salaries is poor-that they are slow to fall as the economy falls. So again, we’re likely to see price rises, which is inflation.

Further, unless you want to change the tax base, the simple fact is that we still need to get tax out of consumers. Sellers collect it, but it’s still supposed to be passed on to consumers-the fair tax, as I understand it, changes how we collect tax, not who we think ought to pay taxes. So if a company is selling widgets for $1 before, they’ll have to sell them for $1.30 afterwards. Manufacturers only pay tax on profits now, so their costs shouldn’t rise.

67

As someone else said, it is hard to trust estimates that claim t be accurate to the tenth of percent on something like this. More over, how can you predict a consumption tax will increase consumption? A consumption tax by its very nature will encourage savings and investment, which is great in some ways, but we have a consumer economy. If the goal is to change that, then a consumption tax is one way to start, but it will not be a painless transition, as your sources indicate. So, then how long and how painful? Economies are full of feedback effects that are poorly understood. Look what the housing bubble did. How far down would we have to fall before we started seeing the magical benefits? Five years of hardship? Twenty years of of shaking out? Thirty years to get back where we are now?

The economy does depend on spare capitol, but it also depends on consumers willing to buy. Explain this to me: The proposal is revenue neutral (government income stays constant). The highest income earners will see their tax burden fall, the poor are protected by the prebate, so where does the money come from? In the long run, if everyone makes more money an buys more stuff things might be better, but someone has to pick up the initial tab. Who is it going to be?

How does that work? Unless everyone takes a pay cut and all prices are lowered, of course the price a consumer pays will go up. If this happened tomorrow, my take home pay would go up by about 20%, plus I would get the prebate. Depending on how the tax is payed (end user only vs. when materials change hands), the costs to the retailers is the same or higher. We have more money chasing the same number of goods. Either demand goes down, or prices go up.

And how is the prebate set? The poverty level has issues because of differences in cost of living based on locality (not to mention it does not take fuel and housing into consideration). This type of set up may work in a small country with a fairly even cost of living, but it would cause issues in the U.S. where the real poverty level varies considerably from one place to another.

One more time, in the short term, to be revenue neutral, the only way the rich can pay less (so they can invest more) and the poor do better than they are now (when they pay almost no taxes) is if the middle takes the hit. Selective consumption taxes make sense to shape public behavior or to pay for externalities (I support a gas tax to pay for roads, air pollution, and government spending to protect our sources of fuel). But to switch the whole source of income is, in my opinion, unwise. One of the many problem you run into is the fact that if consumption of whatever you tax goes down, you will need to raise the rate to maintain revenue. That is a problem that states that have become dependent on tobacco taxes are facing. The point being that it would be very difficult to use consumption taxes for both behavior modification and a steady income.
Bottom line for me, is that I can definitely see how there will be short to intermediate term down sides to a switch, with only a potential at a long term up side. So far, no one has convinced me it will be worth the cost.

Jonathan

68

No they don’t.

(Not that it’s relevant to my point.)

I think twinkle’s a nice word. So’s viridian. I met a lady once who had an imaginary fish.

We’re doing weird non-sequiturs, right? How am I doing? It was hard to top yours.

In case you’re wondering: “Please clarify the above statement.”

Allow me to quote the part of my post you snipped away in your reply.

I also need to emphasize the FairTax prebate (pre-rebate). A number of posts have lamented the complications arising from exempting “necessary” goods and services from a sales tax. The FairTax elegantly avoids the problem by defining spending at the poverty level as “necessary”, and giving everyone a prebate once a month to cover the taxes on that spending. No special exemptions, no lobbying, no complications.

Really, even if you did implement some system for exempting certain goods and services you’d still be a long, long way from the current nightmare of a system.

What? How does a lack of a consumption tax give the US cheaper goods? Note that exports are not taxed under the FairTax (or a VAT).
Let me try to explain it with a thought experiment. Hopefully I can get it right. (Comments welcome.)

Imagine that a parallel universe US is discovered. The only difference is, parallel US uses the FairTax. It is otherwise identical to this version of the US. It is easy to transport goods from “FairTaxUS” to the US and vice versa.

If you’re running a widget factory in the FairTaxUS you pay no taxes. You can give your employees lower wages and since they pay no taxes either (on income) they’ll still end up with the same amount of money in the bank as the workers in the US. Your suppliers also pay no taxes and pay their workers less, and so they give you lower prices for raw materials. Clearly, your production costs are lower than those of an otherwise identical factory in the US. You can sell your goods for less, and still end up with the same profit as a US company. (In fact you have to, or your FairTaxUS competitors will underbid you.) FairTaxUS consumers pay the same as those in the US due to the FairTax price increase at the retail level.

Now you want to export your widgets to the US. You won’t have to pay the FairTax, so you can undercut your US clone company by a good margin and still make a killing.

If the US company wants to compete with you in the FairTaxUS it gets even worse - not only are their production costs higher, their FairTaxUS customers will have to pay the FairTax on top of the base price.

Can you see how this puts a US company at a competitive disadvantage? The only way to survive is to move the factory to the FairTaxUS.

And you don’t need to replace all taxes with a VAT/consumption tax for this to work. If a government gets, say, 20% of its revenue from a VAT the same principles apply, even if the effect is not as pronounced.

(Since I’m generally in favor of free trade this aspect of the FairTax bothers me. I tell myself it’s ok because other countries can compensate by implementing their own versions of the FairTax.)

69

The Wikipedia pagedoes a pretty good job of summarizing the main arguments. I haven’t looked at this issue in much detail but I think it’s fair to say that most economists don’t support the fair tax even though they tend to be sympathetic to the idea of a consumption tax. Some of the concerns include tax-evasion, the revenue-neutrality of the fair tax, concerns about the distributive impact and the transitions costs of moving to the fair tax. All of these IMO are valid concerns. Needless to say fair tax website presents only the most friendly numbers and studies.

70

As opposed to current tax evaders? I wonder which system would be more efficient at collecting the correct amount of taxes, a sales tax or an income tax.

71

(Hopefully this post will help explain matters to whorfin as well.)

I’ll let Neal Boortz, the FairTax high priest, explain it:

*"As explained in The FairTax Book, there are taxes embedded in everything we buy. Every entity which provides a product or service in the design, production, marketing, distribution and sale of every consumer good or service will incur some tax liability as they perform their particular function. This tax liability will be incorporated into whatever these individuals or business entitles charge for their services, and will all passed through to become a part of the final cost of the product or service.

Now here’s what we didn’t explain well in the book. Every employee of any company involved in American commerce is also a provider of a service, and, as such, the employee incurs a tax liability as a result of his or her work. This tax liability is incorporated into what the employee charges the employer for their services, and is eventually incorporated into the final retail cost of the employer’s product or service. Each employee is essentially a separate business entity providing a product, be it physical or mental labor, to the employer.

The extensive research behind HR 25, The FairTax Bill, shows that the average embedded taxes in every consumer product or service is about 22%. In some industries, such as leather goods, the embedded tax is smaller. In other industries, such as homebuilding and construction, the embedded tax is higher, but it averages out to somewhere between 22 and 23%. With the passage of The FairTax Bill, those embedded taxes disappear. These embedded taxes include the combined tax burdens of all entities involved in bringing those goods or services to market, and that includes you, the employee, and the taxes you incur as a result of your employment. "*
It’s true, most businesses can’t survive lowering their prices by 23% to keep prices the same under the FairTax. At least not for an extended period of time. Unless, that is, they can cut costs to compensate. With the removal of those embedded taxes they have that option. So whorfin’s example with a +42% increase in after-tax pay is not going to happen. People will have to accept pay cuts compared to their current pre-tax wages. If a lot of people don’t, it will get ugly for a while as the businesses employing them struggle to survive.

But like you said, it’s a system driven and governed by humans. As long as the effects of the FairTax are understood by the market actors you don’t have to resort to a brutal solution where everyone (unions…) acts like idiots and have to be hammered into shape by the might of the market.

Still, like I said earlier the transition period could be rough. Some (temporary!) government price controls could be a good idea to hasten it. But ultimately you have to accept some temporary pain for long-term benefits.

72

Ok, let’s say everything in this post is true, and further that the government can throw a magic switch and lower all prices and salaries simultaneously so there is no sticker shock. What is the end result in tax burden? If it is exactly the same, all we have done is eliminated some of the cost of collecting. How does that translate into more of everything?

If the same total taxes are collected, but just not on exports, who picks up that slack? The U.S. is the third larges exporter in the world. The embeded taxes for those products are paid from foreign sources. Somebody needs to pick up the slack, who is it?

Jonathan

ETA: You know something will be a true free market success when you need government prices controls to make it work.

73

You gave privacy as a concern. The government possesses your on-the-books employment history with salaries, taxes paid etc. The credit card companies warehouse all of your purchase data. They track your spending behaviors by product location and amount. They use this information to tailor advertising and sell their products to you. The credit card companies know your salary too. They only thing they don’t know that the government does is your tax history. The credit card companies possess way more information about us than the IRS does and it’s the government that’s the privacy concern - not private entities. On top of that the IRS has bureaucratic regulations set up to limit the exposure of your personal data, private companies sell their data as part of their business model. My point is the data is out there already in possession by other people than the government who are governed by fewer regulations than the government. Why is the government the privacy concern? Privacy isn’t a valid argument for the ‘fair tax’.

No you wouldn’t because the legislation for the ‘fair tax’ still needs to be authored and approved by… you know… actual legislators. The fair tax, as it runs it’s course through the house and congress will still be exposed to lobbying, special interests and the whims of lawmakers. In the real world, a straight pre-bate would never survive for multiple reasons that have been discussed in this thread already.

“How does the lack of a consumption tax give the US cheaper goods?” Well maybe because we’re not adding an addition 20% onto the price with the tax? I thought that was obvious. When you tax cigarettes, they get more expensive. That’s the whole idea.

Now allow me to continue with your thought experiment: FairTaxMafia buys widgets from FairTaxUS Widget Maker for a 5% non-taxed marginal markup off the books. Since FTUSWM is totally vertical and obtains all their own raw materials this is simple to hide. FairTaxMafia resells FTUSWM goods for a 10% markup on the internet internationally and makes a killing undercutting the FairTaxUS market. You just turned FTUS into the home of the global black market. Congratulations. You need to start thinking past your thought experiments. Start thinking of ways you - yourself could evade this system. The fair tax is ripe for abuse if you think about ways to defraud it for a second. What happens to people who sit on wealth but live modestly? Who own a ton of property but nothing else? Who make a living in the US but take up residency elsewhere? And one of the more important ones - How do you enforce it? You think we have accounting nightmares with businesses now? Wait till every penny of our taxes are siphoned through them.

74

My take:

Ultimately a nation’s wealth depends on the total value of goods and services produced. In order to consume you must create. To create you need investment. By not discouraging investments a consumption tax accelerates growth. As more goods and services can be produced, consumption increases.

It’s not like a consumption tax is a new and exotic invention. It’s already been implemented and thoroughly studied in countries all over the world. VATs are very popular. If consumption taxes led to years of hardship I think someone would have noticed by now.

True, but people are always willing to buy more stuff if they can afford it. Greed is limitless. Spare capital is not.

What I said was: “Some rich people who put a lot more wealth into society than they currently consume may appear to do much better under the FairTax based on income.”

But it’s not like all rich people work tirelessly adding wealth to society without ever spending any money. Eventually it’s spent, and taxed.

From http://www.fairtax.org/site/News2?page=NewsArticle&id=9321&news_iv_ctrl=1521 :
*
"The reduction in average net tax rates is quite striking, prompting the question, “Is there a free lunch?” How can the FairTax generate lower net tax rates for everyone and still pay for the same real government expenditures? The answer is that not everyone’s average net tax rate falls. The table focuses on workers, including some very high-earning workers. It doesn’t consider households whose major economic resource is their wealth. For such households the FairTax will deliver a net tax hike compared to the current system.

Consider, for example, your typical billionaire, of which America now has more than 400. (8) These folks are invested, no doubt, primarily in equities on which they pay taxes at a 15 percent rate, whether their income comes in the form of capital gains or dividends. In addition to having the income from their wealth taxed at a low rate, the principal of their wealth is completely untaxed either directly or indirectly. Assuming they and their heirs spend only the income earned on the wealth each year, the tax rate (the ratio of the present value of income taxes to the current value of resources, which in this case is just their wealth) is 15 percent. In contrast, under the FairTax, the effective tax rate is 23 percent. Hence, the wealthy will see their average tax rate almost double when the FairTax is introduced. "
*

You answered your own question. :slight_smile: I’ve already talked about this above. Reply to that post if I’m still not clear.

I don’t buy the “differences in cost of living” argument. You are not a serf. You are allowed to move. If you chose to live in a place where (for example) rents are high, it’s because you value living there. You don’t deserve extra government subsidies for choosing to enjoy a luxury (desirable living conditions).

Actually, consumption is a more stable source of revenue than income.

Cite: http://www.fairtax.org/site/PageServer?pagename=about_faq_answers#9 .

75

I think you unintentionally make my point–you forget that there is an alternative equilibrium state that doesn’t require a awfully complex and painful readjustment that requires all market actors to work together-based on understanding how things work, rather than individual interest. The alternative, as many people note, is a price rise (i.e. inflation).

In short, I think that prices rising is a much more realistic prediction of what a market will do after imposition of the fair tax, without intervention/collaboration. The contention that it won’t raise prices requires so many assumptions, and presents such a threat of a “transition period [that] could be rough,” that I kinda wonder how it can be put forward with a straight face.

Firstly, Boortz’ ‘theory’ goes against one of the fundamental tenets of economic theory (that individuals are, in general, rational profit-maximizers–it requires people to collaborate in the readjustment without showing any reason why they will.

Secondly, if company X suddenly has its costs fall, why will it pass it on to its employees rather than taking the profit? (especially when it can defend price rises by saying “the government made me.”

Thirdly, so you’re a company. If you drop prices, you’ll have to (1) struggle to survive, and (2) piss off all your workers by lowering their salaries a bunch. Explain to me again why they won’t just raise prices, raise salaries a little (they can pass the tax on to consumers in toto, but don’t have to pass on all the savings), and let things go on? That gives a bunch of inflation.

Sure, price controls could fix all of this, but it goes against any kind of argument that the fair tax is (1) a market-based theory, or (2) not too traumatic economically.

Either way, I find it hard to believe that the “fair tax” can provide benefits commensurate to the cost of one of (1) a traumatic readjustment, (2) government intervention to prevent (1), or (3) heavy-duty inflation.

76

In general, tax deferred gives you a big benefit. That’s why people really want to invest pre-tax dollars, earn lots of interest, and pay later. They get to use the money to invest now and pay tax on it later.

Further, let’s try a hypothetical. Under a fair tax, where capital gains aren’t taxed, a wealthy individual (say bill gates) could invest pre-tax, take out what they need to consume, and not touch the principal. He’d never need to work again. But, then he goes from adding value not just through investments, but through whatever skill he has that made him rich in the first place, to a passive economic actor.

77

Suddenly this sounds a lot like ‘trickle-down’ economics.

78

No, you can’t give your employees lower wages, as the “Fair tax” (which is anything but) is in theory “revenue Neutral”, which means it still collects the same amount of taxes, just in a different way. If the same amount of taxes are collected, the same amounts of taxes must be paid.

If you are a member of the Middle Class, there simply is no, repeat NO Revenue Neutral Tax scheme where you can pay significantly less taxes. Unless we have confiscatory taxes on 'the rich" or tax the poor, us Middle Class dudes still will have the same tax burden. Every single Revenue Neutral Tax scheme I have seen alwasy has the poor and rich paying less- thus the Middle class MUST pay more.

Now, true, some such schemes are not revenue Neutral- they base their pie-in-the-sky scheme on a cut in spending of up to 50%.:rolleyes::dubious: Needless to say, these are bogus- we could keep the current tax program and just cut taxes 50% acorss the board if we could cut spending by 50%. To such morons, I say- let us cut spending by your %, 1st, then re-vamp the taxes.

79

Can you name one large country that has switched from an income tax to a consumption tax? I am not arguing that consumption taxes are impossible to do, I am saying it would be a disaster for the U.S. to switch.

You seem to assume that they will consume all they make, which is almost certainly untrue. First, dividends are taxed as income, not capitol gains, second I doubt if most billionaires consume more than 50% of their income. So that would mean that instead of paying between 15-35% of their income as taxes, they would pay 11.5%. So who makes is now going to carry that load?

Who enforces this? How is it calculated for each product and good?

The problem is that despite what some conservatives say, income taxes in rarely discourage people from earning an income and it is harder to relocate your source of income to another country(or smuggle income either for that matter). A consumption tax of the size needed to make this revenue neutral would have downward pressure on consumption (that is even listed as one of its benefits). It would also encourage border jumping and smuggling.

Jonathan

80

No, that has complicated math like a percentage. The simplest tax would be everyone pays $10,000. Sucks if you only make $250 a week but we all have to learn to make sacrifices.