The "Fairtax": Not the easy answer
When I bring up taxes on this blog, inevitably the conversation in the comments turns to the "FairTax." It's simple! Just replace today's complex, costly system with a national retail sales tax. Says Jan in Atlanta:
Easy solution to it all: implement the Fair Tax ( This incredibly well-studied system of taxation would eliminate the AMT, eliminate the IRS and all the costs associated with tax collection, and implement a consumption tax instead of an income tax, so each individual can control his taxation amount by controlling how much he spends. This way people would no longer get punished by excessive taxation for providing value to society.
The FairTax has a surprisingly strong base of activist supporters. They get a lot right: The current tax code really is a mess, and taxing consumption instead of just income could solve a lot of problems. But I seriously doubt the FairTax--or rather, the version of a sales tax that could actually get passed--would work nearly as smoothly as its supporters think. I wrote this in 2005:
Many mainstream economists and tax experts like the idea of some kind of consumption tax -- in fact, the superiority of consumption taxes is almost conventional wisdom these days.

But many of the same people point to serious problems with the FairTax plan. (A sales tax is just one way to levy a consumption tax. Competing plans include the European-style value-added tax, or VAT, as well as variations on the flat tax Steve Forbes made famous.)

Critics claim the FairTax has two major flaws: It wouldn't work in practice and, even if it did, it wouldn't raise enough money. The first problem has to do with the fact that people cheat on their taxes; they do it now, and they'd find ways to do it under a sales tax. With all of the taxes we'd owe being lumped into one big sales tax, lots of people might be tempted to try evading it, with black markets springing up everywhere.

Joel Slemrod of the University of Michigan's Office of Tax Policy Research says that only six countries in the world have tried to collect a sales tax north of 10 percent, and four of them eventually adopted alternatives like a VAT. Consumers might also be unpleasantly surprised by all the things that get taxed: Not just milk at the grocery store, but legal fees, rent on an apartment, even health-care expenses.

[Congressman and FairTax sponsor John] Linder [R-Ga.] says the administrative problems with a sales tax have been over-blown. Really, he asks, is your local big box store going to help you cheat on your taxes? And the FairTax frees millions from filing tax returns and gets the hated IRS out of their lives.

"I want a system that doesn't have an agency that knows more about you than you are willing to tell your own family," says Linder. This is crucial. FairTaxers seem to care as much, if not more, about getting rid of the IRS as they do about the economic and budgetary impact of reform....

A knottier problem is what the rate would have to be.

The FairTax bill pegs it at 23 percent in order to fund the government at current levels without raising the deficit. (If you think of the FairTax like a state or local sales tax, you'd say that this is a markup of 30 percent on prices at the store. See the chart above.) But economist William Gale of the Brookings Institution says that this number is way, way too low. "They're telling kind of a big lie about tax reform," he says.

Gale calculates that a 23 percent rate would blow a $7 trillion hole in the budget over 10 years, and that a more realistic rate is 31 percent, and higher still if you allow for evasion. And if lobbyists convince lawmakers to exempt things like health care or other necessities--a real possibility, given the culture of Washington--the gap looks even bigger.

FairTaxers respond that Gale isn't taking into account the huge economic growth they believe would occur once the tax system started encouraging investment. And besides, they add, whatever rate you'd pay is comparable to what you now pay. Counting Social Security and payroll taxes, your marginal rate may be north of 30 percent. "To talk about [sales tax rates] independent of what we're currently facing is slightly unprofessional," says Boston University economist and FairTax supporter Laurence Kotlikoff, speaking of Gale.

Kotlikoff has recently written a paper claiming that Gale was wrong and 23% really is the right figure. This is based on a complex set of calculations and data crunching, and I'm not going to try and guess who's right. But in a recent AEI debate, Gale argued that even if Kotlikoff's baseline number is right, it's still based on some optimistic assumptions about tax evasion and ignores legislative erosion--that is, the tendency of legislators to create more and more exceptions and loopholes. Kotlikoff and Gale are both good economists, but I think Gale is especially persuasive in his judgement of how Washington works.
Posted by Pat Regnier 12:20 AM 24 Comments comment | Add a Comment

If it were not for the interest payments on all that national debt (interest payments alone - not including principal), I calculate that the national sales tax could have been 19.5%. Those of you who say the national debt isn't important, remember that next time you claim it doesn't matter.

If the military budget were set at 2% of GDP like most other industrialised nations, the sales tax could be reduced to 20%.

If the budget were set at 2% of GDP, and there were no interest payments needed on a national debt, the sales tax could be 17.2%.

A sales tax could be better implemented by establishing a two-tier sales tax: one between the distributor and retailer (say, 12%), and one at the retail sale level of 10%. A 10% sales tax at the point of sale may be far more palatable.

Having said all that, I think a national sales tax is a bad idea. A flat tax with a largish standard deduction that minimizes its effect on lower-income people would be a much better way to go. Just for the sake of argument, we could say a standard $12,000 deduction ($24,000 for married couples) and $3,600 per child. Those are just some numbers out of thin air for argument's sake.
Posted By Brandon, Ann Arbor, MI : 3:09 PM  


a. By your spelling of the word industralised I take it you are a Brit. Nothing wrong with that, but quite honestly I don't need to hear your views on US taxation policy.

b. The reason the rest of the world's military budget is 2% of GDP is precisely because the US's is much higher.

So you go back to your graduate poli-sci classes at U of M. You keep dreaming about a world where we have bake sales for the military and let the real world issues be taken care of by adults.
Posted By Ed from Las Vegas : 12:22 PM  

You're very wrong about cheating under the FairTax. Since this tax only applies to new products, for the most part, cheating would involve first THEFT and then tax evasion. Use your head for heaven sakes. What on earth would any manufacturer or vendor stand to gain by NOT collecting the FairTax? I suppose they could charge a price that included the FairTax, but not turn the taxes over to the government; but, exactly how hard would THIS be to detect? Compared to illegal AND legal evasion going on under the current code, cheating under the FairTax would be absolutely miniscule. Fact is nearly every American filing a long form cheats. If they not cheating by definition, then they're guilty of defeating the "spirit and intent of the law". For instance people write off vacation travel expenses by going on an job interview during their vacation. The IRS simply can't prove they never intended to take the jobs, can they? The list is beyond comprehension.
As for not collecting enough revenue, is, or could there EVER enough revenue for our insatiable government? Honestly, if the revenue is truly short, congress simply raises the FairTax percentage; what could be easier? It's not only fair, it's honest and transparent. Unfortunately, these are qualities not found in ANY program or responsibility EVER undertaken by our government. That's why we'll never have the FairTax. The rest is simply an extraneous and irrelevant smokescreen...paulb
Posted By Paul B Blanch, Florida : 12:33 PM  

Please read the FairTax proposal before making such ridiculous comments. The FairTax proposes a "prebate" so that no one pays any tax until they've spent more than the inflation adjusted "poverty level". It is NOT regressive in any way...paulb
Posted By Paul B. Blanch, Florida : 12:39 PM  

Finally, let us get on with some other news other than the sub-prime real estate deal. Hopefully there is more financial news than sub-prime, enough is enough!
Posted By Yolanda, Ogden, Utah : 12:57 PM  

Your paragraph describing the "whole financial system" probably holds the key. Are we talking about a "chain reaction" that will cause a lot of pain? Or is this an example of a portfolio approach where the risk is spread across a wide base. I think it is the latter. The US financial system has taken some hits such as the Savings & Loan crisis a couple of decades back and survived.
Posted By Steve, Herndon, Va : 1:18 PM  

I am now retired and living on a pension and my savings which are giving me divedends and interesr. I am spending not oly my gains, but the principal which I ALREADY HAVE PAID TAXIS. Under any of these scheems I will be doubly taxed. Any scheem of saving recipts, and other paperwork makes the systen as compex as it is now thus eleminating one of its arguments. If thgere was a VAT or cosumption tax on investements over a certan value could make it attrractive.
In addition people would buy thara yachts, say it is needed for busisness, and get away with everything,
Posted By Bruce Nagel, New York, NY : 1:28 PM  

A Fair Tax of 30%+ is ludricous and insane! Add to that state sales tax, tax of gasoline, SS, and medicare and we all would be paying 50%+ tax. This tax would give the Feds so much money (about $3 trillion) that they would "know what to do with it" (waste it as usual). The IRS is an outdated agency that needs to be eliminated. We need some sort of fair tax system, bur not a system that wouyld cripple the average American family. I think a Federal Straight Line tax rate of about 20% is about right, however, a caveat that "no additional form of tax would be levied on each citizen"...My wife and I currently net about 60% of our gross income; when sales tax, excise taxes, and tips are figure into our net income, it approches 50% of our gross. I have spent over 400 personal hours doing my Federal taxes this year-this country is quickly killing itself via mismanagment and awful planning. I think a streamlining of congress is also in the offing!
Posted By Wayne Betowt, Huntsville, AL : 1:47 PM  

#1 reason why a NST won't work: " it's still based on some optimistic assumptions about tax evasion and ignores legislative erosion--that is, the tendency of legislators to create more and more exceptions and loopholes."

How else will politicians get their donations?
Posted By Brad, Atlanta Ga : 2:28 PM  

Get rid of the current tax system and the IRS. While the fair tax sounds interesting it isn't the answer either. I believe we should have a standardized flat tax so that everyone pays the same percentage of their income. Whether you make 10 or 100K you pay the set rate, period. No loopholes, no tax avoidance, no politicians lying about it, and most of all no mega-bureaucracy trying to decipher it all. Maybe then we could get something done.
Posted By Tom Clark, Williamsburg, MO : 2:55 PM  

"Fair tax".....what a waste of the politicians are going to give up their main source of power.
Posted By Chris, Orlando Florida : 4:04 PM  

Regressive and promotes too much saving which would overly reduce velocity of money.
Posted By Liam, Charlotte NC : 4:20 PM  

Paul B. Blanch:
I didn't make a complaint about the FairTax(tm) being regressive. My problem with it is that no one will pay a 23% sales tax at the register. I did, however, make a suggestion about a two-tier system of sales taxation that might be more palatable. Perhaps you ought to actually read what I say before you make such "ridiculous comments"?
Posted By Brandon, Ann Arbor, MI : 4:27 PM  

Ed from Las Vegas:
I'm not a Brit, and am, in fact, a full American born and raised here. I have every right to make any comment I would like about U.S. taxation policy. Don't make idiotic assumptions. I do, however, have a preference for the Queen's English.

Also, I have no idea what you're trying to say with your comment, "The reason the rest of the world's military budget is 2% of GDP is precisely because the US's is much higher."
The U.S.'s military spending is approaching 5% of our GDP. Around the world, most industrialised nations spend about 2% of their GDP on their military. Britain and France are the "big spenders" outside of the U.S., each at about 2.5% of their respective GDP's.

Now, I am also not a graduate student at U of M (though I do hold a graduate degree). Your arrogant comment about "let the real world issues be taken care of by adults" is completely uncalled for, immature, and - if anything - demonstrates that you're clearly not one of the adults who should be discussing real world issues.
Posted By Brandon, Ann Arbor, MI : 5:06 PM  

Why is the supposition generally made that the fruits of our labor belong to the government at current tax levels regardless of the tax structure. Any system that makes it obvious how grossly overtaxed we are deserves consideration. Is there a moral or ethical foundation for disguising from people what taxes they are actually forced to pay. The biggest problem with FairTax is that it will be implemented without rescinding any of the taxes it is meant to replace.
Posted By Dave Weilacher Jacksonville Fl : 5:18 PM  

Fair Tax my posterior! Think of the person who has saved diligently for an entire career, paid taxes on the earnings that he has saved and on the investments he has made, and is ready to retire. Now he gets to pay taxes all over again as he spends his savings.
Posted By Brandy Brandon, Acton, MA : 5:39 PM  

First of all you have to remember something. For less than 2 billion dollars the IRS collects over 3 trillion dollars in taxes. Not bad huh?
Second, what would a sales tax do to our economy? Maybe not forever, but at least for the first 6 months or so.
Third, if you examine the VAT in most European countries, there are ways around the tax, like buying a six pack of beer instead of a single.
Finally, The people that use money to feel powerful, especially someone else's money, have no problems creating new taxes, giving up old methods appears to be very painful.
Posted By phillip, houson, tx : 6:08 PM  

Anyone who advocates a VAT has obviously never lived in a tax regime where they had to pay a VAT as a business nor do they understand the mechanics of a VAT except at the Walmart checkout. I lived in Jamaica for 18 years and they instituted a VAT as a similar miracle cure. (Sweden instituted a VAT in 1967 of 2% and promised to revoke it when they were solvent. It now stands at about 23%.)Problem is, a business person has to pay VAT on the full price of an item and then petition the government for the refund of that portion they didn't add value to and wait for the government to send the refund. Yes, you read that correctly even if it didn't make sense. THAT is how a VAT works for everyone but the consumer. It spawns this massive bureacracy that puts the IRS to shame and makes over-payers (read everyone) lenders to the government. This is the nastiest, most confusing tax regime imaginable condensed into a few sentences. Being condensed into a few sentences doesn't make it sensible. It only makes it short to explain.
My suggestion (and this is copyrighted, patent-pending and trademarked so I can get my royalties)is based in part on an historical precedent. When the Mongol hordes occupied a country the deal was they wanted 10% of your gross. Period. If you messed up they ate your children, did unspeakable things to your women, left your mother-in-law alive etc. Very powerful incentives for paying up. (With an anecdotal aside to Jamaica again- when I was there during the Communist/Socialist years duties were 174%. When the good guys took office, they harmonized tariffs at 10%. They both collected the same amount of money- on the same goods. That should tell you about the incentives for evasion.) Anyway re the "Ghengis Khan" tax- everyone pays 10%. Period. Or the government eats your children.I don't care if you are an elderly, blind, gay priest with an African father and a native American mother and have nine kids- 10%. Nor do I care if you are GE or Halliburton or based in Abu Dhabi- 10%. You made 10 mil last year. Move the decimal point one place. One mil please. Sold your house? 10%. Bought a house? One of you pays 10%. Stocks? 10%. Bonds? 10%. Inheritance? 10%. Bag of wood screws and some tarpaper? 10%. Every step of the way. Every transaction. Every transfer. Every sale. Period. Or we eat your kids. No deductions. No exemptions. No paperwork or formulas. Move the decimal point. Period.
How does that stack up mathematically? (I'm a mathematician) If the velocity of money in an economy is about 6 to 1, a dollar is going to generate about 60% in revenue through a year although each transaction is only 10%. Sort of an additive effect. Actually it is more complicated. For example: Manufacturer A sells his product (a component) to Manufacturer B for $1.10. "A" gets $1 and Uncle Sam gets 10 cents. Manufacturer B polishes this component and sells it to Manufacurer C for $2.20. "B" gets $2 and Uncle Sam gets 20 cents. Manufacurer C irradiates it with Gamma rays to make it more healthy and sells it to Wholesaler D for $3.30. "C" gets $3 and Uncle Sam gets 30 cents. Wholesaler D sells it to Retailer E for $4.40. (Do you detect a pattern yet?) "D" gets his $4 and Uncle Sam gets 40 cents. The retailer sells this gizmo to Joe Sixpack for $5.50 The retailer gets $5 and Uncle Sam get 50 cents. Thus this $5 retail transaction has generated $1.50 in taxes or about 28%. And the consumer didn't get stiffed for the full amount. And guess who paid the balance? Corporations. The most evasive of them all. Who couldn't like a system like this? A pol could get elected on a platform like this. We could be a real functioning country again with real investment. Of course in the real world it won't be as simple because prices don't end in zeros but we have calculators to do that. But I bet a fair number of people can do 10% far easier in their heads than my current sales tax of 6-7/8%. We could disband the IRS, H&R Block and legions of tax attorneys (or feed them to the Mongols). The rich would pay more than the poor. All men are created equal. All that good stuff. Or we eat your kids. BTW- copyrighted, trademarked, patent-pending and I retained Ghengis Khan as an intellectual property attorney. Utilize this Uncle Sam and pay me my lug for solving big problems- on which I'll GLADLY pay 10%.
Posted By Charles Pruitt, Millstadt, IL : 9:18 AM  

Why wouldn't our government want a flat tax? Politics? It would upset everyone with big deductions?


Actually, I think it's because our government in our glorious "land of the free" has discovered that subsidizing "desirable" behaviors through tax deductions and credits enables them greater influence over people without people screaming about civil rights violations or the burgeoning welfare state.

Imagine you have no mortage (I know, it's hard), but the government wants you to have one. People with mortgages are less likely to quit their jobs or in general be irresponible. So the government decides to fine you thousands of dollars a year for having a mortgage.

Perposterous? Well, who do you think is paying for all the mortgage deductions?

Or imagine if the government wrote a check for several thousand dollars every year to every person with a mortgage. What! This isn't a welfars state! Oh wait, all those people are getting "tax refunds." Same money, different label.

Now you can see why people like Steve Forbes, who believe in freedom, believe in a flat tax.
Posted By Erik, Baltimore, MD : 5:02 PM  

I first would like to say that the Queens english is for Queens. Oh don't get all bent out of shape.

The Fair tax would really benefit the rich. Its a joke and it will never happen. A national sales tax is as mentioned a consumption tax which is obviously a regressive tax. I worked for many years in an international tax department and have worked with tax systems all over the world. A VAT tax is not the answer. The still have income taxes in most of the countries with VAT. Also if you had one tax rate it would be so easy to up the rate and thats exactly what would happen (as many of you mentioned). Our system is complex (being a CPA I love it). I graduated right before Ronald Reagans tax reform and got a job with a big Eight accounting firm. My grandfather, the kind man he was, told me that I won't have a job soon. I asked one of the tax partners what Reagans tax fairness and simplification act would have on our industry and he said any time they have simplified it, it got more complex. And he was right, becareful what you wish
Posted By James, Clermont : 7:52 PM  

If america would get off of it's socialism and go back to republican democracy(translated, change from and entitlement system to an incentive system) the tax rate would be 15 percent without significant changes in any other spending(including military).
The liberal left still wants people they control because they say we are too dumb to handle it. And of course they are the ones smart enough to know best. But for the most part their entitlement mentality is responsible for our current situation. Not spending on the military. There will come a time around 2040 when entitlement spending which reach upwards of 70 percent of the gdp. The fair tax rate will work better than the IRS because it will cost less to operate as well as collect.
Posted By bobby taylor Dallas tx : 9:08 PM  

As Mark Twain wisely observered, there are statistics, damn statistics and lies. Anybody who does not support the abolition of the IRS and a national retail sales tax is a damn fool and should have his/her citizenship revoked.
Posted By JW, Atlanta, GA : 10:44 PM  

What is it with the name 'Brandon?'

Brandon, Ann Arbor -
A. People will be more than happy to pay 23% (actually 30%) because it will be with money that has NOT had income tax deducted.
B. Your two-tier system is a terrible idea. The beauty of the Fair Tax is that it is simple to administer and enforce. What would happen in your idea if there were 4 or 5 layers of distribution as part of the production cycle. (Nice grad degree - DUH)
C. The comment about military spending was pretty clear to me, if the US didn't spend at the levels we do, our "allies" would have to pick up a much larger portion for their own good. (Although really, with France, would it matter?)

Brandy, Mass. -
Maybe the people who are about to retire, as you mentioned, who are going to get socked twice, are be treated completely fairly, as they are part of the generation that rang up this HUGE national debt. Just sayin...

The Fair Tax would be the greatest political move in this country in over a century. Anyone who doesn't like it, shut-up, find your receipts, and go play with your Turbotax.
Posted By John Thomas, Hoboken, NJ : 11:28 PM  

I agree with Brandon that a flat tax is better then than a national sales tax; however, I will take a national sales tax over the IRS. But this is not what we need to focus on.
What we need to do people is reduce government spending at all levels or the American way of life is doomed.
Posted By Bruce, Baton Rouge, Louisiana : 9:43 AM  

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Most stock quote data provided by BATS. Market indices are shown in real time, except for the DJIA, which is delayed by two minutes. All times are ET. Disclaimer. Morningstar: © 2018 Morningstar, Inc. All Rights Reserved. Factset: FactSet Research Systems Inc. 2018. All rights reserved. Chicago Mercantile Association: Certain market data is the property of Chicago Mercantile Exchange Inc. and its licensors. All rights reserved. Dow Jones: The Dow Jones branded indices are proprietary to and are calculated, distributed and marketed by DJI Opco, a subsidiary of S&P Dow Jones Indices LLC and have been licensed for use to S&P Opco, LLC and CNN. Standard & Poor's and S&P are registered trademarks of Standard & Poor's Financial Services LLC and Dow Jones is a registered trademark of Dow Jones Trademark Holdings LLC. All content of the Dow Jones branded indices © S&P Dow Jones Indices LLC 2018 and/or its affiliates.