August 25, 2004
Even before the President was asked about a National Sales Tax, articles began appearing which indicated that the tax would be so onerous that no one would consider it. After the President appeared to show some inclination to consider the tax, the Kerry website began arguing how such a tax would hurt the poor.
Certainly, a national sales tax that replaced all other taxes but exempted many transactions from taxation could become onerous. Indeed, if a rebate to offset the tax burdens of the poor were large enough, the tax rate on all transactions might be very high.
The reality is that the Federal government extracts about 20 percent from the private economy to spend or distribute to qualified individuals. The vast majority of that distributed money is from current wage earners and income earners to retirees in the form of social security or medical service payments.
A sales tax that eliminated all income taxes (both corporate and individual) but preserved all tariffs, fees, and the payroll taxes used to fund the social security and retirement programs could be far less than the 23 percent claimed for the tax proposed by Congressman Linder. Indeed, if you decided not to provide a rebate to all taxpayers that was equal to the sales taxes paid by the poor (so the poor would pay no taxes on balance), the actual sales tax could be well below 20 percent.
I certainly would not be opposed to a tax that supplanted all federal income taxes on individuals and corporations. The degree of simplification would be substantial (billions of hours of tax compliance work and tens of billions of dollars spent to providers for compliance would disappear). Sales under the table still could occur, and they would be more likely as the size of the sales tax increased.
Nevertheless, we could get remarkable simplification without touching payroll taxes.
I certainly would endorse the above sales tax simplification (although I would prefer, for compliance purposes, a value added tax.)
Of course, the poor would pay considerably more taxes in such a simplification. That is why Congressman Linder proposed that a sales tax should supplant not only all income taxes but also all payroll taxes. Furthermore, all taxpayers would receive check each year that would be equivalent to the sales taxes paid by the poverty level of income.
While my tax simplification deserves the vilification of Senator Kerry’s web site, the Linder tax does not. Payroll taxes are regressive, as the wealthy pay a lower percentage of their income than the middle class. By eliminating a regressive tax and replacing it by a proportional tax and a rebate check, the new tax burdens actually would increase for those wealthy who are consuming more than they are earning. Those poor who can save will actually pay fewer taxes than under current programs.
Remember, unless we change what government does, we must get 20 percent of resources from the private sector through taxations (and borrowing, but we hope that does not persist indefinitely.) When income and payroll taxes are eliminated, the tax embedded in the cost of each good and service is reduced. I will not dispute the Congressional Budget Office’s assumption that the sales tax would need to be more than 36 percent to raise appropriate revenues. But this 36 percent is from a lower cost basis than currently exists.
In fact, the effective taxes on goods and services will exceed 20 percent only to the extent that taxable transactions are less than the size of the economy, the rebate checks are significant, and tax burdens are shifted from future goods (which is savings) to current goods. Those reports suggesting that the tax rate could be greater than 100% either assume a large shortfall in taxable transactions, a large rebate check, or substantial shifts from taxing future goods at the current time.
There are several other elements that need to be mentioned. First, except for under-the-counter transactions, taxes will be paid even from illegal activity and current tax avoidance as that purchasing power is spent. About a trillion dollars of untaxed income would become taxed spending.
Second, all goods consumed in the U.S. would be taxed even if they are produced abroad. Goods and services flowing abroad would not be taxed. Thus, U.S. producers would immediately become more competitive in the world markets. (This type of taxation is allowed under the international agreements. Indeed, most industrialized countries exploit this exception but levying a value added tax, sometimes in excess of 17 percent as many travelers are aware.)
Third, to the extent that we wish to encourage wealth accumulation and discourage resource exhaustion, a sales tax could be avoided by not spending. By increasing the returns to savings, the pool of savings may rise. This, in turn, would lower interest rates.
Of course, transactions that now avoid taxation but would be covered in the national sales tax would suffer an economic cost. Housing transactions may be a casualty (but note the expected impact upon savings and interest rates). Certainly, those who spent their lives understanding the income tax codes and those lobbyists justifying their pay by protecting special tax privileges will be hurt.
But the degree of simplification would be so substantial, and the reduction in avoidance so significant, that we could enjoy discovering what those tax advisors and lobbyists can accomplish in their next best occupation.