The "Fair-Tax" Fraud

The “I-heart-Huckabee” folks have indeed taken heart in recent weeks, with their hero’s recent rise in the polls. It seems as if Huckabee now has a realistic chance of becoming the nominee of the party. Part of this is due to the failure of the “major” candidates to catch on with the Republican base. Another part must be due to revelations about Rudy’s love affairs and doubts about Romney’s religion. But a big part has to do with Huckabee’s support of the so-called “Fair Tax.” FairTax.org has organized in Iowa in behalf of Huckabee, and their message has great appeal: repealing the “unfair” income tax and replacing it with a “fair” tax. Now, who can object to replacing the unfair with the fair? It certainly is a winning message. The problem is, it wins only as long as people do not understand the tax. The fair tax propaganda is a network of lies, and lies that are easily exposed. The fair tax people have had a free run up until now, because little public attention has been paid to their proposal. But once this becomes a major issue, a spotlight will be turned on this, one that will send the roaches scurrying for cover. And there are lots of bugs in this proposal. I outline just a few of the major problems.

The Name

The fair tax is not a tax on fairs, or even a tax on affairs (which would at least be interesting, especially for Rudy Guilliani), but a national sales tax. When people give you a “marketing name” for something, rather than a simple descriptive name, you know they are trying to put a sales job on you.

The Tax Rate

The fair tax folk advertise this as a 23% tax; the actual tax is 30%. They get the 23% rate by stating the “tax-inclusive” price. For example, under this proposal, an item that costs $100 would have a $30 tax on it, for a total price of $130. Since 30/130=0.23, they state the rate at 23%. But most people would regard it as a 30% rate, because that’s what it is. Why this rather obvious fraud in stating the rate? Because their own polling data shows that support for the proposal drops dramatically as the rate goes over 23%. As people understand the true tax rate, support for the tax will evaporate.

Everything is Taxed

People are familiar with sales taxes already, but not with a sales tax that covers every single purchase: food, medicine, doctor’s, home sales, car sales, interest on credit card payments—everything. Just think about buying a house, say a $200,000 home, and paying a $60,000 sales tax on it. Do you think that might impact the market somewhat? Or think about needing a medical procedure that costs $10,000 only to get a bill for $13,000. Who is going to pay the extra $3,000? If the patient, he may not be able to afford the operation; if the insurance company, rates will skyrocket. You can apply this to each and every market affected by this tax.

Revenue Neutral?

The 30% rate is supposed to be revenue-neutral. However, The President’s Tax Advisory Council—and every other neutral observer—disagrees. They calculate the revenue neutral rate at 34%, while the Brookings Institute calculates it at 39%. Part of the problem is that the fair tax people do not allow for the possibility of cheating. But a more likely result is that fraud will be massive. With such a high rate—whether 30% or 39%—the incentives to cheat will be irresistible. From people selling from the back of their cars, to off-shore web sites, the average citizen will be given a lot of help in avoiding the tax.

Further, to include the revenue neutral calculation, they include government purchases. Therefore, a tank costing $1 million will now cost $1.3 million. But this means that government budgets must rise by an equivalent amount. So either we increase, for example, the military purchases budget by 30% (in which case, the proposal is no longer “neutral”) or we purchase 30% fewer items (in which case, the proposal is no longer “neutral.”)

Regressive

For people who must convert all of their income into consumption, there is no difference between an income tax and and a universal sales tax—100% of the income is taxed either way. In other words, for people who must spend all of their income to get by, this is equivalent to a 30% income tax—with no deductions—far in excess of what most people now pay. People with excess income avoid the tax by saving rather than purchasing. But people with high incomes already save; those at the top simply cannot convert all of their income to purchasing. That saved portion of their incomes will simply be tax free. Sales taxes are inherently regressive, falling more heavily on those who must spend all of their incomes.

The fair tax people address this problem by proposing to give a “pre-bate” to everybody. The prebate is a monthly check given to each citizen to cover the cost of the tax up to the poverty level. The cost of this prebate will be somewhere between $485 billion and $600 billion, not counting fraud, which will be massive. Can you imagine the market in phony birth certificates? But even this ploy will not make the tax progressive. The false assumption is made that all income is converted to purchase, but it is not. The very rich spend a much lower percentage of their incomes. The real effect is a tax cut for the rich, and a tax increase for everybody else. Indeed, the fair tax people promise the mathematically impossible: they promise lower taxes for everybody and revenue neutrality. At best, they can deliver one or the other, but not both, and possible neither. If you lower the taxes for one, you must raise them for another, or abandon the claim of neutrality. That's simple math.

Dubious Assumptions

Throughout their proposals, the fair tax people advance rosy scenarios about the effects of the tax on wages, interest rates, productivity, etc. However, all of these scenarios are based on dubious assumptions that have weak theoretical foundations and no empirical base at all. Yet, without these assumptions, the whole thing is a dangerous experiment that could bankrupt the country (even more so than it already is). Such radical plans ought to have a better base. This plan has nothing behind it but wishful thinking.

Comparing the Plans

I have merely scratched the surface of the problems with a national sales tax. To look at it in more detail, you can examine their plan at fairtax.org. To see an excellent critique of the plan, check out the Fact Check site. Also, Bruce Bartlett has an excellent analysis at the Wall Street Journal site.

The Democrats Rejoice

The Democrats are holding their fire, hoping against hope that the Republicans will be dumb enough to propose a 30% tax on home purchases, new cars, medicine, and everything else. Those of them who pray are praying, “Please God, let the Republicans nominate a National Sales Tax candidate.” Even the Democratic Party—famous for blowing easy elections—couldn't possible lose under such conditions. The party looks forward to a summer and fall where each time a citizen purchases something, anything, he gets to contemplate the effect of a 30% (39%?) sales tax on that item. The present system, with all of its obvious faults and flaws, will seem to him to be a bargain. Every time a mother buys milk and bread for her family, every time someone checks in with their doctor for a checkup, and every time a family thinks about buying a home, they will have occassion to think about the National Sales Tax. Every checkout counter will be an advertisement for the Democratic candidate, no matter who (or how bad) that candidate happens to be.

As for Huckabee, he is certainly a sincere and genial man, one that people could easily take to heart. I do not think that he is capable of consciously participating in a fraud. But his performance to date leads me to believe that he is simply incapable of evaluating policy proposals on a practical basis. He is, if I may put it this way, a kind of Republican Jimmy Carter—and I mean that as a compliment. Jimmy made such a poor president, but an excellent ex-president. Like Jimmy, he means well, but, also like Jimmy, he has difficulty weighing the pros and cons of things.

My suggestion to the Republican Party is that they simply designate Huckabee as “Honorary ex-President” and get on with the business of finding someone a little bit better at evaluating policy proposals.