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Texas Agriculture Archive

June 6, 2003

The FairTax
What you should know!

The Texas Farm Bureau Board of Directors is currently studying implications and impacts of a Fair Tax system, and is seeking members' inputs. The following is an informational piece on the Fair Tax concept.

By Mike Barnett
Editor

Tax your imagination. Now you can keep 100 percent of your pay or pension. You never have to file a tax return again. No more worries about the Internal Revenue Service. No longer are you penalized for getting married or staying married. Everyone pays their fair share here...and don't look for any loopholes. Best of all, this tax system is so simple your kids even understand it. Tax fantasy land? Not if a group called Americans for Fair Taxation (AFFT) have their way.

AFFT got its start in 1994 when three Houston businessmen began cussing and discussing the Federal tax code over lunch. At this particular lunch, however, the three decided to do something about it and each pledged $1.5 million in seed money to hire the best tax experts in the country to identify the faults of the current system, to determine what American citizens wanted to see in tax reform and then to design the best tax system possible.

The three went on to raise an additional $17 million, which funded focus groups with citizens around the country and studies with nationally prominent experts in tax policy.

The final result became a bipartisan bill sponsored by Rep. John Linder (R-GA) and Collin Peterson (D-MN). Originally submitted to the House of Representatives as HR 2525, "The Fair Tax of 1999," it was resubmitted in the 107th Congress and again in the 108th Congress as the "Fair Tax Act of 2003."

AFFT says the FairTax is a consumption tax designed to replace the entire federal income tax system, including personal, payroll, corporate, self-employment, capital gains, gift and inheritance taxes. The group says the tax should dramatically reduce pre-tax prices and fully fund the Federal government, including Social Security and Medicare.

AFFT also maintains that hidden income taxes currently make up 20 to 30 percent of all retail prices. Dr. Dale Jorgenson of Harvard University says hidden income taxes are passed on to the consumer in the form of higher prices. He maintains that when the FairTax replaces the federal income tax system, prices will drop 20 to 30 percent.

The proposed FairTax rate is 23 percent (see inclusive versus exclusive side-bar, page 17). Instead of paying 15.3 percent of their paycheck in payroll taxes, plus an average of 28 percent of their paycheck in federal income tax (for a total of 43.3 percent), individuals would pay a 23 percent consumption tax each time they purchased a new good or service for their own personal use. FairTax will not be levied on used goods, used cars, used homes, etc. If, as a business owner (including farmers and ranchers), something is bought for strictly business purposes (not for personal consumption), no consumption tax is paid.

Also, AFFT says the FairTax provides a prepaid, monthly rebate for every registered household to cover the 23 percent consumption tax paid on necessities up to the federal poverty level. "This is how the FairTax completely untaxes the poor, and lowers the tax burden on everyone else," the group says.

According to Texans for the FairTax, the state branch of the national AFFT organization, the FairTax meets the objectives of what citizens say they want in a tax system: Simplicity, fairness and visibility.

As for simplicity, the FairTax features one rate for everyone, with no tax filings. The group maintains it is fair because it is progressive, protecting the poor through a tax rebate on the necessities of life. The FairTax also offers no loopholes; therefor everyone would pay the same rate on every purchase. Finally, as for visibility, the group maintains any change in the tax rate would show up on every cash register receipt.

In addition, Texans for the FairTax maintain, the new tax system would produce the following:

• It lets every worker keep their entire pay check—no payroll or income taxes.

• It allows those at/below the poverty level to have zero or negative taxes.

• It lets retirees keep their full pension or Social Security checks—untaxed.

• It lets everyone keep their capital gains and investment income—untaxed.

•It encourages savings and investment, creating greater national growth and productivity.

•It encourages repatriation of wealth from tax havens.

•It stimulates exports, leading to greater U.S. employment.

•It stimulates economic growth and job formation.

•It eliminates gift and inheritance taxes.

•It makes the federal tax rate very visible, and therefore, politically risky to increase.

•It ends personal and corporate tax filings.

•It eliminates the IRS.

Opposing views

Not everyone's rolling on the FairTax train.

Critics point out the possibility that government, always seeking revenue, will come in with an additional income tax on top of the consumption tax sometime in the future. They say a consumption-based sales tax would likely lead to less consumer spending, worsening an already weak economy.

They also point out that a national sales tax would have to be "astronomical" for the government to collect the current level of revenues. Additionally, critics say states would still have the option of levying a state or local sales tax on top of the 23 percent national sales tax. Some say this could bring the total amount of sales tax up to 33 percent, which again they point out as leading to less consumer spending.

Critics also say charitable giving would suffer because individuals would no longer be rewarded through tax breaks as an incentive to give.

Agriculture impact

American Farm Bureau Federation policy supports the FairTax. AFBF Public Policy Specialist Pat Wolff says the FairTax would be advantageous to the agribusiness community because it would be exempt on business-to-business transactions, such as farmers buying fertilizer or major capital purchases used in the operation of a farm producing raw agricultural products.

And since the tax would only be collected on new consumer purchases at the final point of sale, field crops sold to a local elevator or livestock sold to a slaughter plant, for instance, would be considered raw products at those points and would not be taxed.

"Farmers would finally be able to base their business decisions on profitability—not on tax implications," Wolff said recently at a Michigan Farm Bureau Washington Legislative Seminar, referring to capital gains and estate taxes that are in addition to income taxes.

She also said the tax would make U.S. exports more competitive in world markets by imposing the 23 percent consumption tax on imports of finished products, and at the same time, lowering the costs of goods purchased in the United States by "25 percent."

Inclusive versus Exclusive
What are "Tax Inclusive" and "Tax Exclusive" Rates?

When discussing tax rates, it's important to understand whether the "tax inclusive" or "tax exclusive" rate is being quoted in order to fairly compare "apples with apples." One describes the rate with the tax included in the total, and the other, with the tax excluded from it.

The tax rate contained in HR 25 is 23 percent. It is called the "Tax Inclusive" rate and is comparable to the income tax, which is always stated on a tax inclusive basis—that is, with the tax "included" in the wages. For example, if a person earns $40,000 and $9,200 in income tax and payroll withholding is taken from his paycheck, the $9,200, which is "included" in the wages, represents 23 percent of his income ($40,000 x .23 = $9,200). This leaves that person with $30,800 after taxes. Divide the $9,200 of taxes by the $30,800 in after tax wages to get the exclusive rate of 29.9 percent.

Now compare this to the FairTax. If a person who makes a $100 purchase and $23 dollars of the purchase is tax, the tax inclusive rate is 23 percent. However, the $23 represents 29.9 percent of the $77 value of the goods purchased ($100 - $23 = $77). The 29.9 percent rate is called the "Tax Exclusive" rate. The two numbers are equivalent.

Under the current federal tax system, anyone with up to $80,000 of income pays the 7.65 percent employee half of payroll taxes. The minimum marginal income tax rate is 15 percent of taxable income and increases to 39 percent at higher income levels. This means that the lowest inclusive payroll-withholding rate is 22.65 percent (rounded to 23 percent) and that most people have federal tax withholdings of well in excess of 23 percent.

When comparing income tax rates with FairTax rates, it's important to compare tax inclusive with tax inclusive rates (or exclusive with exclusive) to make a fair comparison.