The Fair Tax Problems and PossibilitiesCurrent System - Personal IncomeCurrent System - Business IncomeCurrent System - PayrollCurrent System - InheritanceCurrent System - Capital GainFair Tax - Sales Tax RateFair Tax - Effective Tax RateAnalysis of Fair Tax burdenWhat the president’s panel saysEasing the Burden – A prebatePrebate and ProgressivityPhilosophical Questions:Transition ProblemsSlide 15Revenue NeutralityBlack Market GrowthBlack MarketEffects of FairTax on EconomyModel DetailsSlide 21Circular Flow in a CGE modelElasticitiesResultsSlide 25Slide 26Slide 27Slide 28Slide 29Slide 30Slide 31Slide 32Personal ConclusionsPublic Finance – ECON 344, Iowa State University Public Finance – ECON 344, Iowa State UniversityThe Fair Tax Problems and Possibilities“It is fairer to tax people on what they extract from the economy, as roughly measured by their consumption, than to tax them on what they produce for the economy, as roughly measured by their income”-- Thomas Hobbes in LeviathanPublic Finance – ECON 344, Iowa State University Public Finance – ECON 344, Iowa State UniversityCurrent System - Personal Income•Personal Income tax depends on the total yearly income less possible deductibles.•Collected on a “pay as you earn” basis.•Corrections are made at the end of the tax year.•After corrections are made, taxpayer may owe in taxes or may qualify for a refund.Public Finance – ECON 344, Iowa State University Public Finance – ECON 344, Iowa State UniversityCurrent System - Business Income•Corporate tax generally refers to a direct tax on the profits made by a company.•Earnings are considered gross revenue less expenses.•Corporate expenses that relate to capital expenditures are usually deducted in full.•These expenses are deducted over the useful life of the asset purchased.Public Finance – ECON 344, Iowa State University Public Finance – ECON 344, Iowa State UniversityCurrent System - Payroll•Payroll tax usually refers to two different tax systems.•First is where employers are required to withhold earnings from employees check.•Known as “Pay As You Earn” system.•Other payroll taxes are paid from employer’s own funds.•Gets paid into government programs such as social security, disability, health care, and unemployment.•Either a fixed charge per employee or a percentage of each employees pay is what determined this tax.Public Finance – ECON 344, Iowa State University Public Finance – ECON 344, Iowa State UniversityCurrent System - Inheritance•The inheritance tax, estate tax, and death duty are names given to various taxes which arise on the death of an individual.Public Finance – ECON 344, Iowa State University Public Finance – ECON 344, Iowa State UniversityCurrent System - Capital Gain•A capital gains tax is levied on the profit released upon the sale of a capital asset.•Capital gain is treated as income and is subject to the marginal rate of income tax.•In an inflationary environment, capital gains may be to some extent illusory: if prices in general have doubled in five years, then selling an asset for twice the price it was purchased for five years earlier represents no gain at all.Public Finance – ECON 344, Iowa State University Public Finance – ECON 344, Iowa State UniversityFair Tax - Sales Tax Rate•Fair Tax legislation would apply a 23% federal retail sales tax.•Tax would be levied on all U.S. retail sales for personal consumption.•Savings, Investments, and Educational tuition would be considered investments and will not be taxed.•Personal services such as health care, legal services, auto repair, haircuts, etc. would be taxed.Public Finance – ECON 344, Iowa State University Public Finance – ECON 344, Iowa State UniversityFair Tax - Effective Tax Rate•Effective tax rate for a family household would be variable due to fixed monthly tax rebate.•The rebates would have the greatest effect at low spending levels, where they could lower a household’s effective rate to zero or a negative rate.•At higher spending levels, the rebate has less effect, and a household’s effective tax rte would approach 23% of total spending.Public Finance – ECON 344, Iowa State University Public Finance – ECON 344, Iowa State UniversityAnalysis of Fair Tax burden•There is a large concern about keeping taxation progressive•A straight up sales tax is regressive:•If everyone paid a high percentage tax on what they purchased, the tax burden would shift to the poor•Examples:•1. College students.•Low tax burden now•High tax burden under straight up sales tax•2. The wealthy.•Higher tax burden now•Lower under straight up sales taxPublic Finance – ECON 344, Iowa State University Public Finance – ECON 344, Iowa State UniversityWhat the president’s panel says•The President’s Advisory Panel on Tax Reform:•Created by executive order #13369 by President Bush in 2005 to study different tax proposals•Basic goals of American Tax reform:•1. Simplify tax code•2. Keep tax code “appropriately progressive”•3. Long term job growth•“Replacing the income tax with a retail sales tax, absent a way to ease the burden of the retail sales tax on lower and middle-income Americans, would not meet the requirement in the Executive Order that the Panel’s options be appropriately progressive.”Public Finance – ECON 344, Iowa State University Public Finance – ECON 344, Iowa State UniversityEasing the Burden – A prebate•How to ease the burden on low and middle income Americans?•Fair tax proposal removes tax burden for income earned under the poverty level (determined by family size):•There is an additional problem with smoothed out consumption:•The checks would be issued once a month•Examples:•A college student with an income at the poverty level ($10,400)•$2,392 a year•$199 a month•A family of four with an income at the poverty level ($28,000)•$6440 a year•$537 a monthPublic Finance – ECON 344, Iowa State University Public Finance – ECON 344, Iowa State UniversityPrebate and Progressivity•The prebate makes the Fair Tax more progressive:•If everyone spent all of their income, the more that people make and spend, the higher the effective tax ratePublic Finance – ECON 344, Iowa State University Public Finance – ECON 344, Iowa State UniversityPhilosophical Questions:•American political thought