Monday, November 1, 2010

Fair Tax

Surely, you’ve heard of the fair tax.  It’s big in libertarian circles and in many conservative ones as well.  It is an initiative to replace federal income tax with a federal sales tax.  Proponents say that it taxes wealth, that it is progressive on consumption.  A “prebate” would be paid up to the poverty level to compensate the poor.

I have a few problems with it however.

On the surface, it sounds like a great idea.  Think about it, you get a check to pay for the tax up to the poverty level, and if you spend more, you pay more tax.  Buy a Kia, and you pay Kia tax, buy a Bugatti and you pay Bugatti tax.  But it’s not really progressive on consumption is it?   A progressive tax is one that is greater on greater amounts of money.  A properly instituted progressive tax is the only truly “fair” tax.  The “Fair Tax” is a constant 33% tax, and no matter how much you spend, a regressive tax (one that is more advantageous to the wealthy because they have a much greater amount of money to pay it) still is inequitably applied to those less able to afford it.

Let’s take a few minutes to understand the differences between progressive and regressive taxes.  Let’s make up a few people, some hypothetical circumstances, and use them to understand this issue.  They will all live in Oregon so there aren’t additional sales taxes to bother with calculating.

Person A, we’ll call him Abe, is a low wage earner.  He graduated high school but was unable to attend college and now works delivering Xerox copy machine supplies for 25,000 a year.  Scrimping and saving and being a good steward of his money, he is able to fully fund his Roth IRA with $5000 every year.  The current federal poverty level is $11,000 and under the “Fair Tax” plan, he would receive a prebate for the tax he spent on buying stuff with that money.  He spends $5000 per year on rent and various non-taxed payments and spends the remaining money on what he needs to survive.  The money he has to pay taxes in is thus $4000.  With the “Fair Tax” he will spend $23 out of every $100 spent on sales tax and will be paying $920 in taxes.  That figures to be 3.7% of his income.

Person B we will call Bill.  He is an engineer and makes $100,000 a year.  He fully funds his Roth IRA, spends $25,000 on his house which he is buying and will own and on other non-taxed stuff.  He is also able to invest $10,000 which yields a return of 10%.  Like Abe, he doesn’t have to pay taxes on that $11,000 and so he has to pay taxes on $49,000.  Thus he pays a total of $11,270 in tax, 11.3% of his income.

Person C, Cal does pretty well.  He is a CEO of a company and makes 1,000,000.  He lives reasonably and invests 500,000 at a rate of 10% return.  He spends another $200,000 on things that aren’t taxed leaving $300,000 in taxed expenditures.  He will pay $69000 in tax, 6.9% of his income.

Person D, Don does really well.  He is one of those Wall Street CEO’s you hear about and he makes 50,000,000 a year.  He is able to live on about 10% of that a year and the rest is reinvested at a rate of 10%.  He pays tax on that 10% of his income that is spent and will pay $1,150,000 in tax, 2.3% of his income.  As you can see, if Don chose to, he could stop working altogether and live on the returns from his investments at his current level of comfort.

Finally I will tell you about Person E, Ed.  He founded a software company that went huge and he now makes a sh!t ton of money.  He makes 10,000,000,000 but he only lives on $100,000,000 of it in lavish opulent wealth.  He pays 23,000,000 in tax, 0.23% of his income.  Because he is able to invest so much, he gets $900,000,000 from the investments he made last year, increasing his income to 10,900,000,000, and his actual tax rate is 0.21%.

Do you see where this is going?  The more you make, the less of it you need to live on.  I could make a billion dollars a year and still live in my same house and drive my same motorcycle.  I could not do that when I was working for Xerox.  Yes, the poor get a better deal under the “Fair Tax” because they make less, but the poor currently pay virtually no tax, and in truth often get Earned Income Tax Credits.  The “Fair Tax” wants to tax them.  It places a burden upon them they already can’t carry.  I know I didn’t include it, but the rich guys still get the prebates like everyone else!

Regressive taxes work that way.  As you may have picked up in this analysis, high earners can also afford to invest a large amount of their money and through that earn even more.  I can’t do that, I have to spend a quite large fraction of my family income on a house and cars to get to work and school and food, and speaking of school, I have tens of thousands of dollars in student loans still out there.  By the time I graduate, I’m basically going to be a house and a half in debt.
With a single sales tax rate, you can’t make this tax progressive in the long run.  Even if you jacked the “poverty level” up to $100,000, it would still be a boon for the ultra-rich.  Consider this also:  the “Fair Tax” is supposed to increase the rate of investment.  Who benefits the most from increased rates of investment?  A related question: Who would benefit the most from the privatization of Social Security?  The Wall Street people benefit, the ones who already have vast amounts of money and like to play with it in ways detrimental to all of us.  Either way, they win, commoners lose, the middle class pays more money and bears the burden.  Just like today, the tax rate for capital gains is only 15%.  Who makes the most in capital gains but the ones who have capital, the wealthy.  It’s another system, a gift of the Bush Tax Cuts, which empowers the rich to concentrate wealth and allow them to get out the door without paying their tab.  It truly is “redistribution of wealth”.  But the wealth is going upward.

A properly instituted progressive income tax is the only logical solution.  Consider the great age of our country.  The greatest time for the advancement of civil rights, the greatest time for the advancement of workers rights, the creation of social security, Medicare, the EPA and all of that good stuff.  During that time, the top marginal tax rate was between 70-90%!

Libertarian ideas work in a window.  I’ve said that before.  And you must realize, this is a libertarian idea, and it does work, but only in a small window.  That window reaches up to a million dollars or so and down to a few tens of thousand.  But like other libertarian ideas, if you’re on the low end of the hill, the system works against you, and if you are on the top of the hill, the system works in favor of you.  A properly balanced system will work FOR you.

Be concerned about who pushes ideas.  This is not a bi-partisan idea.  This is a conservative libertarian republican idea.  It benefits the insanely wealthy the most, and the commoner the least.  Most right wing ideas do.

Finally, I’m not gonna tear down an idea without offering one in its place.  It’s a modern version of what we had in the 50’s, 60’s, and 70’s. 
The amount of tax on the amount of money made below the state poverty level is tax free. 
The money made between that and 40,000 is taxed at 10%.  The amount made between 40k and 60k is taxed at 15%. 
The amount made between 60k and 80k is taxed at 20%. 
The amount between $80k and 100k is taxed at 25%. 
The amount between $100,000 and $250,000 is taxed at 30%. 
Between 250k and $1M is taxed at 50 %. 
Between $1million and $2 million is taxed at 60 %.  Between $2 million and 100 million is taxed at 75%. 
Finally, the amount above $1 billion is taxed at 90%. 
Additionally, there is no distinction made between earned income and capital gains.  It counts for total income, anything that you get during the year that you didn’t have at the beginning of the year.

This plan represents a pretty decent tax break for anyone making less than $250,000 which is in line with Obama’s current plans, and sets a truly progressive tax system which will make our system work again like the libertarians want it to work now.  It’s not that I think they are lying and want to destroy our economy, I really think they have the best interests of the country at heart, they are simply fundamentally mistaken about the results of their plans.

Now don’t take this as gospel truth, I definitely plan on revising this in the future and making and spreadsheet and all that, but this is just something to show you in which direction we should be going, and how to get to a place where you really can rise above if you put your mind to it.  

Remember, it is far better to make a billion dollars at 90% tax than it is to make 100,000 at 10%.  Higher taxes on the rich is not punishing them for making more money, it’s requiring them to pay for their footprint in the world. 

Equal is regressive.  Equitable is progressive.  The “Fair Tax” is not fair.


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