A look at FairTax

And this article written by Joshua Caucutt, a financial contributor for Money Crashers Personal Finance, published under the title below on the Forbes website on 5/02/2012 makes interesting debate. Imagine if there was no more Income tax, tax on second hand items (emivumba), our much loved tax deductions, tax was only on retail et cetera and the replacement was FairTax. Joshua Caucutt’s article is enlightening especially as the Uganda Pay As You Earn tax threshold was recently increased from 120,000Ushs to 235,000Ushs per month as per the Uganda budget speech read on 14th June 2012 by Honourable Maria Kiwanuka, the Minister of Finance, Planning and Economic development.

Is the fairTax the Best Solution to Tax reform?

piggy bank us hatAre you overwhelmed by the political discourse surrounding taxes, the debt ceiling, spending, revenue, and the Internal Revenue Service? Does the maze of income taxes, payroll taxes, deductions, and refunds make you want to tear your hair out every April? If you successfully navigate the maze of federal taxes, you still have to deal with state and local tax intricacies in order to avoid committing a tax error.

Even the most optimistic citizens recognize that our government’s revenue and spending system would benefit from major reform. Yes, the current United States tax codeis a great way to keep lawyers and tax accountants employed, and effectively supplies major corporations with enough loopholes to avoid a great deal of tax liability. However, for the rest of us, our current IRS tax code is incredibly complex, and perhaps unfair.

What is the best way to pay taxes while also simplifying them for the average citizen? There are many different proposals floating around: closing all loopholes, banning tax shelters, hunting down off-shore accounts, instituting progressive taxes, instituting regressive taxes, pay-go legislation, flat taxes, low taxes, no taxes, and a host of other ideas.

Obviously, every solution has positives and negatives, but there is one idea that is worthy of consideration by the population at large: the FairTax.

Explaining the FairTax

The FairTax is a tax on consumption. It abolishes income taxes and replaces that revenue with taxes collected every time an item or service is purchased.

The FairTax is not the “flat tax.” Many of us recall the 1996 presidential campaign mounted by Steve Forbes whose signature idea was the flat tax, meaning that all citizens with income would pay the same percentage. However, because the FairTax is dependent on consumption, an individual’s purchases, and not their income, would determine how much tax they pay.

If enacted, the FairTax proposal would completely change the federal income tax code from top to bottom. It is important to note that the FairTax comes with many dependent components where if one is taken away, the whole system might not work. Here are some of the most notable provisions:

  • The FairTax replaces all federal income taxes with a universal tax on items at the point-of-sale.
  • Federal income tax is no longer withheld from your paycheck (i.e. Social Security and Medicare).
  • The more you spend, the more you pay. The less you spend, the less you pay.
  • The tax only applies to the final stage of production (or retail). Furthermore, used or second-hand items are not subject to this tax.
  • The FairTax comes with no exemptions, exclusions, or commonly overlooked tax deductions.
  • All citizens receive a monthly “prebate” in order to defray their tax cost.
  • The FairTax abolishes the IRS.

FairTax advocates believe research shows that the FairTax would not result in greater deficits for the federal government. Instead, they suggest that federal revenues could increase under this system due to greater spending power, increased economic activity, and reduced ability to avoid taxation on the part of some of the wealthiest entities in our country.

Another strength of this system is the reduction of hidden taxes in the items we buy. Many economists estimate that nearly 20% of the final cost of a product comes from the various taxes generated at every stage of production. For example, under our current system, an appliance manufacturer has to pay taxes on all the raw materials and pre-assembled components before the finished product is sold to the consumer. Those costs are hidden in the price of the item. Under the FairTax, taxes would be paid only at the point of sale, thereby reducing the up-front cost of goods and services.

Final Thoughts

Are there weaknesses in this proposal? Certainly there are. One concern is whether or not revenues will keep up with current levels of federal spending. This is a valid concern, but one that is more likely due to federal spending levels and not federal revenue collection. Besides, the current federal system of revenue collection cannot keep up with federal spending as it is.

The FairTax might not be perfect, but, in my opinion, it is far more attractive to the average tax payer than our current system. What’s your take?

Joshua Caucutt is a financial contributor for Money Crashers Personal Finance. In addition to commentary about economic policy, Joshua frequently writes about strategies for saving money and investing for long-term wealth.



One thought on “A look at FairTax”

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