Fair Tax II

Fair Tax II: The Prequel. This is the original Fair Tax proposal from the 1990’s as I recall. This used to be my favorite standalone tax option. Now it’s merely better than the existing Income Tax, but not the best.

Tax all economic transactions between one legal entity and another, including the purchase of raw materials (e.g., a coal-fired electric utility’s purchase of coal) and services. Business gets a ‘rebate’ for all taxes paid on direct raw materials and services when the final product is sold. If raw materials or services in your final product include $100 in taxes already paid, $100 less in taxes is paid on the sale of your final product (i.e., taxes are already partially reflected in product costs). The goal is to collect a 20% tax (illustrative) on the sale of all final products, including business purchases of final products.

Keep taxes fully visible to the taxpayer. Products are priced net of included taxes and the full 20% is charged to the consumer. When the final product is sold, producers get rebated their included taxes (i.e., they sell the product below cost and receive a rebate to cover the difference).

Example. If a Slurpee™ contains $0.10 in included taxes, 7-Eleven sells the Slurpee™ for $0.10 less. The consumer purchases the product paying an additional $0.10 in taxes and this $0.10 is paid to 7-Eleven as a rebate. Consumers see the full tax coming out of their pocket.

This is not a Value Added Tax (VAT). It’s a national sales tax which also taxes sales of consumer goods to businesses, blocking a robust tax avoidance industry that would crop up with a more simplistic Federal sales tax scheme (i.e., as is proposed in the current Fair Tax proposal).

What about employees selling their labor to business? This meets our definition of an economic transaction between separate legal entities and should also be taxed. We’re moving quickly toward a service economy and labor is a key input factor.

What about financial transactions (e.g., buying and selling stock)? What about imports and exports? Yard or garage sales? Donations?

We start making exceptions and with every exception we set up new avenues for tax avoidance, new opportunities for politicians to engage in social engineering, and higher enforcement costs.

Fair Tax II does not per se eliminate many of the abuses found in today’s tax code. The integrity of this tax option relies on enactment of a provision requiring a super-majority vote in Congress to change the code (e.g., a super-majority vote would be required to change the tax rate on named goods and services). This in my opinion is a serious design flaw.

A super-majority is not needed to protect the integrity of the Capitation Tax, my current favorite.

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