I’m at Hillsdale College in Michigan for a conference on taxation. The event is called “The Federal Income Tax: A Centenary Consideration,” though I would have called it something like “100 Years of Misery from the IRS.”
I’m glad to be here, both because Hillsdale proudly refuses to take government money (which would mean being ensnared by government rules) and also because I’ve heard superb speeches by scholars such as Amity Shlaes (author of The Forgotten Man, as well as a new book on Calvin Coolidge that is now on my must-read list) and George Gilder (author of Wealth and Poverty, as well as the forthcoming Knowledge and Power).
My modest contribution was to present “The Case for the Flat Tax,” and I was matched up – at least indirectly, since there were several hours between our presentations – against former Congressman John Linder, who gave “The Case for the Fair Tax.”
I was very ecumenical in my remarks. I pointed out the flat tax and sales tax (and even, at least in theory, the value-added tax) all share very attractive features.
- A single (and presumably low) tax rate, thus treating taxpayers equally and minimizing the penalty on productive behavior.
- No double taxation of saving and investment since every economic theory agrees that capital formation is key to long-run growth.
- Elimination of all loopholes (other than mechanisms to protect the poor from tax) to promote efficiency and reduce corruption.
- Dramatically downsize and neuter the IRS by replacing 72,000 pages of complexity with simple post-card sized tax forms.
For all intents and purposes the flat tax and sales tax are different sides of the same coin. The only real difference is the collection point. The flat tax takes a bite of your income as it is earned and the sales tax takes a bite of your income as it is spent.
That being said, I do have a couple of qualms about the Fair Tax and other national sales tax plans.
First, I don’t trust politicians. I can envision the crowd in Washington adopting a national sales tax (or VAT) while promising to phase out the income tax over a couple of years. But I’m afraid they’ll discover some “temporary” emergency reason to keep the income tax, followed by another “short-term” excuse. And when the dust settles, we’ll be stuck with both an income tax and a sales tax.
As we know from the European VAT evidence, this is a recipe for even bigger government. That’s a big downside risk.
I explore my concerns in this video.
To be sure, there are downside risks to the flat tax. It’s quite possible, after all, that we could get a flat tax and then degenerate back to something resembling the current system (though that’s still better than being France!).
My second qualm is political. The Fair Tax seems to attract very passionate supporters, which is admirable, but candidates in competitive states and districts are very vulnerable to attacks when they embrace the national sales tax.
On dozens of occasions over the past 15-plus years, I’ve had to explain to reporters that why anti-sales tax demagoguery is wrong.
So I hope it’s clear that I’m not opposed to the concept. Heck, I’ve testified before Congress about the benefits of a national sales tax and I’ve debated on C-Span about how the national sales tax is far better than the current system.
I would be delighted to have a national sales tax, but what I really want is a low-rate, non-discriminatory system that isn’t biased against saving and investment.
Actually, what I want is a very small federal government, which presumably could be financed without any broad-based tax, but that’s an issue for another day.
Returning to the issue of tax reform, there’s no significant economic difference between the flat tax and the sales tax. What we’re really debating is how to replace the squalid internal revenue code with something worthy of a great nation.
And if there are two paths to the same destination and one involves crossing an alligator-infested swamp and the other requires a stroll through a meadow filled with kittens and butterflies, I know which one I’m going to choose. Okay, a slight exaggeration, but I think you get my point.
If you’re going to have a sales/consumption tax, why not take the next logical step and target it to things that create negative externalities? Since energy is an input to almost everything, a carbon tax would have all the benefits of switching to consumption tax, plus helping solve the climate issue. Same for special taxes on meat, things that generate air pollution, etc.
The FAIRtax Act is about financial freedom, liberty and civil rights. Defund the IRS, end the punishment of the income/payroll tax and repeal the 16th Amendment (direct taxation). Remember the FAIRtax Prebate. The Prebate helps most the impoverished and low spenders with a monthly tax refund to all legal residents on the subsistence level spending per the family size. Critics of a sales tax are disarmed by the Prebate. Learn more at fairtax.org
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Either option is preferable to our current tax code. However, for liberals to be convinced of the merits of both, they need to be educated properly.
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One often ignored downside of the Fair Tax is that it must include a “prebate” to protect the lowest income segment of the population. This puts the government in the position of sending checks to poor people. I think we’ve already demonstrated rather clearly where that leads: perdition.
The Flat Tax as commonly proposed (e.g. Heritage.org) also has a downside; namely continued government social engineering in the form of deductions for low income folks. However, there’s a very simple fix:
Rather than a pure Flat Tax, I propose we institute a *modified* Flat Tax, i.e., a very simple two-bracket progressive income tax – basically what we have now, but grossly simplified. Let the tax rate for the lowest bracket be *0%*, and apply it to all income up to some small multiplier of the poverty rate, say $20K. This first bracket amounts to a “tax holiday” for the first $20K of income for *everybody*.
For the sake of argument, let the tax rate for the second bracket be 20%. (It would actually have to be higher to produce tax revenues amounting to 18% of GDP, if that’s the target.) This two-bracket system produces very progressive overall *effective* tax rates. Effective tax at $20K/yr is 0%; at $40K/yr it’s 10%; at $80K/yr it’s 15%; at $200K/yr it’s 18%, etc.
As with both the Fair Tax and the traditional Flat Tax, we’d eliminate payroll taxes, the corporate income tax, and all tax subsidies. The chief advantage of this modified Flat Tax is that it truly conforms to the ideal of the Rule of Law – everybody is treated *exactly* the same. There is *no* social engineering, no prebates, no monkeying around at all.
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I used to be a flat tax supporter until I studied the Fair Tax completely. Your post is a good post and it seems you have written it with an open mind which is always a positive in my book. I would like to point out some issues I have with your blog post though.
The fair tax does not penalize productivity at all, whereas a flat tax does according to tax rates.
The flat tax does penalize savings and investments in two ways the income is taxed when earned and any gains from the savings and investments would be taxed as well. The fair tax would not tax any savings, investments or gains from such until they were spent on new goods or services.
your third point is worded poorly and depending on which flat tax you are speaking of could be completely wrong. The Fair Tax (H.R.25\ S.13) un-taxes every one, regardless of income, up the their household poverty level. A true flat tax taxes every penny of income, while most flat tax bills have had some level of standard deduction that would apply equally to everyone.
you raise the issue that we could end up with both a sales tax and an income tax, which is possible under the fair tax; it is also very possible now. the only thing keeping us from having both now is that the people would go nuts and politicians would be tar and feathered, the case would be the same under the fair tax. as currently written the fair tax deletes the income tax and requires the 16th amendment to be abolished.
the flat tax just deals with the actual income tax it does not change payroll tax as well as the gift and inheritance tax. the fair tax abolishes all of those taxes and wraps them up unto one tax rate.
history tells us that a flat tax would soon revert back to the same tax mess we have now.
I don’t like the fair tax since it hurts old people who already paid income on their savings and now they have to pay a tax again when the spend their already taxed savings.
In order for the fair tax to work, you would have to create two types of money.
Old money exempt from the Fair Tax, and new money subject to the Fair Tax.
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I agree with Bill. The politicians will find a way to corrupt anything and everything. But to address your comment about the concern of ending up with the current system and the VAT, I believe the only way to be sure that wouldn’t happen would be to abolish the 16th amendment before allowing the implementation of the Fair or Flat Tax. Personally I prefer the Fair Tax but I wouldn’t be upset if the Flat tax was implemented and we could rid ourselves of the IRC and the IRS.
Your concerns about what politicians could do as a followup to the fair tax apply equally to the flat tax. Missing from your argument is the fact that with the fair tax, or sales tax, foreign tourists would contribute to our sales tax collections. This is a substantial benefit.
Having started my professional career as a Tax accountant, yes a 72,000 page tax code is out of control. Pick one up rip the spine into pieces and throw away half, would any body notice? Have you spent any time in Europe with tax people, the VAT tax is so complicated that it is worse than our current tax code. And if we don’t get rid of the current code at the same time then we would have a 150,000 page tax code. And who says that Europe has taxes figured out and has created a financial pattern we should follow. Yes, on paper a VAT sounds good but Europe has proven is does not work.
I really like the Idea of a flat tax. But people on Social Security would have less money to live on, creating the need to increase Social Security, don’t we have enough problems with SS, lets not make it worse. Lets not forget all the others pensions, disability, and the list goes on. No more post card size form.
Bottom line is that on one system will work for every one. So maybe we should let each state decide on the best way to tax their own citizens. Maybe our founding fathers should have that about that, but they did. And of all places Hillsdale hasn’t figured that one out yet?
I’ve lived Under Pennsylvania sales tax most of my life(73 years old) and it has been very fair and stable. No tax on food, clothing, or housing, but if you are pimp or drug dealer buying a big car, you pay. People worried about politicians raising it, look towards Penna.
I am truly concerned about a flat tax which could start out at 10 or 15 percent….and then when the out of control spending Washington continues to get out of hand in no time at all it will be back up to 39 percent
Being who you are, an institution espousing adherence to the Constitution, your flat tax or fair tax both of which do not fall under the criteria for taxation within the limits of the Constitution. Either we have an apportioned tax among the sates or a direct tax tax, like customs taxes or liquor taxes Both an income tax and or a VAT do not meet the criteria as explained in the Constitution.For Hillsdale College readers, you need to correctly adjust your semantics regarding constitutional taxation.
A benefit the sales tax has over the flat tax is the fact that it would be a lot harder to dodge taxes. People that operate off the books could duck the flat income tax like they do today. Ducking the Fair Tax would be a lot tougher.