The FairTax: Responding to Boortz

Posted: Dec 06, 2007 10:38 AM
The FairTax: Responding to Boortz

In response to my lengthy paper regarding H.R. 25, the “Fairtax”, Mr. Neal Boortz published a response responding to a few of the issues discussed in my paper.

Let’s first go to Mr. Boortz’s refusal to acknowledge and admit that the Fairtax is a 30% sales tax. He says:

The Fairtax is not a traditional sales tax. Consumer prices are quoted with the sales tax included.

The first sentence of this statement is inaccurate. A sales tax is commonly defined as a tax levied on the sale of goods and services. The tax proposed under H.R. 25 is a traditional sales tax, a tax levied on the sale of goods and services. The only difference is that the tax under H.R. 25 is calculated in an untraditional manner and in a manner that arguably attempts to hide the rate of the tax from the public.


Traditional Sales Tax Calculation

Cash going to the seller                                       

Traditional sales tax at 23% rate                         
$  23.00

Total price to customer                                        

Taxes paid by the customer                                  
$  23.00                                              


H.R. 25 Sales Tax Calculation

Cash going to the seller               

H.R. 25 (Fairtax) sales tax at “23%” rate       
$  29.87

Total price to customer          
$ 129.87

Taxes paid by the customer          
$   29.87


No one who is not intimately familiar with the calculation of the sales tax under H.R. 25 would expect that an item where the seller is paid $100 would be subject to a 23% sales tax equaling a few cents under $30.00. Emphasize: No one.

There is no reason to attempt to mislead or confuse the public on this issue. It may well be that people would accept a 30% Federal sales tax rather than the current Federal income tax system. It may well be that people would accept a 45% total Federal, state and local sales tax rather than the current Federal and state income tax systems. The proposal should be made in language that is generally understood by the public.

As to the second sentence in Mr. Boortz’s response, while not discussed in my original paper, the notion of proposing that prices be quoted with the taxes included is very concerning in itself. When Ronald Reagan was Governor of California, he was always troubled by withholding taxes because the wage earner did not fully comprehend the taxes being paid in every paycheck. Including Federal taxes within the sales price would permanently hide the amount of Federal taxes being paid by the taxpayer. Hiding the amount of Federal taxes from the public is, in my opinion, particularly bad policy. At least with an annual income tax return, the taxpayer sees how much tax he is paying the Federal government when he files his tax return.

Let’s next go to Mr. Boortz’s discussion of embedded taxes.

The essence of Mr. Boortz’s position is that if embedded taxes are eliminated, and these taxes amount to 22% of costs, prices will decline 22%. Let’s accept Mr. Boortz’s contention that the correct percentage of embedded taxes is 22% (although I would like to see a bit more data than the views of a single college professor before I risked the economy of the most advanced nation on earth on this calculation). First, let’s see what Mr. Boortz has previously had to say about withholding of embedded taxes and prices over the past few years:

From the “Fair Tax Book”

“Here’s what happens when we pass and implement the FairTax Plan:

·         We start collecting 100 percent of our earnings in every paycheck.

·         We all get virtual raises, since payroll taxes are no longer siphoned from our checks.

·         The prices of consumer goods and services remain essentially the same, with the removal of the embedded taxes compensating for the added consumption tax.”

This was Mr. Boortz’s 100 minus 22 = 100 argument. Mr. Boortz apparently believed that if employers stopped paying the embedded taxes (including Federal withholding) to the government, (1) these embedded taxes would be paid to the employees as compensation, (2) prices, before taxes, would decline by the amount of the embedded taxes (which are being paid to the employees and therefore continue to be an expense of the seller) and (3) the total price to the consumer would remain the same as the new sales tax would bring prices back to their original levels. If right, this would have qualified Mr. Boortz for a Nobel Prize in economics. Sadly, continuing to pay the embedded taxes (now to the employees in lieu of the government) and reducing prices by an identical amount counts those dollars twice. Oops.

In the paperback edition of the “Fair Tax Book”, Mr. Boortz recanted by saying:

·         We start controlling our earnings in every paycheck.

·         The prices of consumer goods and services remain essentially the same, with the removal of the embedded taxes compensating for the added consumption tax.”

I think a more precise first statement in the paperback edition would have been:

·         Your net paycheck is going to be unchanged after the Fairtax; don’t expect your employer to give you a dime of the embedded taxes.

As to the position that if costs are reduced by 22%, prices will decline in an equal amount; I suggest that this position is more than a bit naïve. Cost is far from the only factor impacting pricing. To even speculate on the impact of pricing after removing embedded taxes:

·         It would be essential to create an econometric model that proves or disproves the notion that prices in the United States would decline 22% if costs were reduced by 22%. Within that model, it would be essential to understand the manner in which this “average” price reduction would be distributed among different products and services.

·         It would be essential to develop literally hundreds of individual industry studies regarding elasticity of demand, elasticity of supply and the impact of H.R. 25 on both U.S. and world markets. It is axiomatic that all companies would continue to attempt to maximize profits after the reduction in costs of 22%. It is not axiomatic that these companies would pass along the savings to customers.

·         It would be essential to understand the pricing impacts to products sold in the U.S. that do not have any embedded taxes thereon, imports. This would include products with a portion of imported goods and products solely comprised of imported goods. This is a very important issue with respect to pricing of imported items such as gasoline and many food stuffs. (The banana on this morning’s cereal could not have included any material U.S. embedded taxes as it was grown in Central America and likely shipped to the United States on a foreign owned ship. The price of the banana could be predicted to rise 30% under H.R. 25)

·         It would be essential to have a specific econometric model reviewing the pricing of goods which are currently consumed in the United States but could be exported to foreign buyers. -  The U.S. is not the only consumer of goods in the world. Foreign buyers, as well as U.S. buyers now purchase U.S. goods at prices that include the embedded costs that H.R. 25 would remove. As proposed, under H.R. 25, foreign buyers would not pay the proposed new sales tax. Any amount which foreign buyers would pay in excess of the price the U.S. consumer would be required to pay before the 30% sales tax, represents new profits that the U.S. seller could reap if he sold overseas rather than in U.S. markets. The only method of competing for those goods by a U.S. buyer would be to be willing to pay a higher price (inflation).

·         It would be essential to understand the pricing or service impacts to non-profit entities such as hospitals.

The list of issues requiring deep study could easily be extended to pages.

Another issue not raised in the context of my prior paper is that of existing contracts. Before anyone charged down the path of eliminating embedded taxes and implementing a new sales tax, there would have to be an understanding of its impact on existing contracts and legal methodologies of abandoning agreements based upon old law, contracts regarding employment and purchases. This might run afoul of both state law (requiring constitutional action) and international law.

There are some other comments in Mr. Boortz’s response. The short form is that he is uninterested in using the tax code to provide incentives to make charitable gifts, buy a home or protect or help individuals who have experienced casualties and misfortune (Hurricane Katrina or serious illnesses such as cancer). While the rhetoric is a bit disappointing and I think that in this narrow area, the Internal Revenue Code does a pretty good job, if constructed properly, these comments are intellectually arguable.

There were more than a few other issues in my paper. While the following is not the entire list, it contains a few highlights:

  • The very notion of initially and annually registering 300,000,000 lawful citizens, providing a monthly check to each and believing this can be accomplished confidentially, efficiently and without fraud has at least a touch of unreality to it.
  • The administration required to implement and thereafter continuously administer H.R. 25 might be beyond the capability of Federal and state government. It may also be far more expensive than administration of the current Internal Revenue Code.
  • H.R. 25 anticipates that virtually every state will willingly agree to become a sales tax administrating authority.  Given the proposed fee for this administrative task and the political risk that would accompany this decision, it is possible that not a single state would decide to become a sales tax administrating authority.
  • With exports untaxed, U.S. goods could be 30% more expensive for Americans than the remainder of the world.
  • H.R. 25 would result in a very significant competitive purchase price advantage given to an investor purchasing a new residence (30%) over a couple wishing to purchase the same property as a home.
  • Taxing state and local governments on their purchases and providing no interest rate advantage to state borrowings must result in significant tax increases at the state level.
  • Basic tax planning that would occur in the final year of the Internal Revenue Code and the first year of H.R. 25 would reduce Federal revenues by a very significant amount.
  • H.R. 25 is fraught with legal uncertainty. There are constitutional arguments that H.R. 25 would be unconstitutional with respect to constitutional limits of Federal taxing power. There would be state and local challenges with respect to the exclusion of unlawful residents from the receipt of the prebate.