Overview of the FairTax: Definition, Benefits & Criticism

January 11, 2012 | By: TaxCure Staff

FairTax OverviewSince 1999, the FairTax has been a proposal regularly brought forth in Congress. The main goal of the FairTax is to replace federal taxes on income and capital gains with a national sales tax. That way, taxes are collected on consumption, rather than on income. The national sales tax would be collected on top of state and local sales taxes.

In addition to replacing the income tax, the law creating the FairTax is also designed to abolish the IRS. Proponents also want the 16th Amendment – which codifies the income tax – repealed. The FairTax would be levied only on new goods and services (not on used goods).

Additionally, the FairTax comes with “prebates.” These payments are designed to help low-income families, who might not be able to afford a national sales tax – especially on the necessities of life – avoid regressive taxation. Prebates would come in the form of monthly payments from the government.

As you might expect, there are proponents of the FairTax, as well as opponents. What nearly everyone can agree on is that the current tax code needs reformation. However, not everyone is in agreement on the mechanism for effecting this change.

Proponents of the FairTax

Proponents of the FairTax naturally think that this method of taxation is more fair than the current tax code. It would eliminate some of the loopholes used by some taxpayers, since everything bought new in the U.S. would be taxed, including services. Additionally, proponents of the FairTax point out that a tax on consumption could benefit savers, who don’t buy as much.

Additionally, FairTax supporters believe that the ability to bring home an entire paycheck would improve productivity, since the tax bite associated with earning more would disappear, since taxes would only be charged when you spend.

Finally, supporters of the FairTax point out that the tax base would broaden. Illegal immigrants would pay the tax (and be ineligible for the prebates), as would criminals and others, since they would have to buy the necessities of life – and be taxed on them.

Opponents or Criticism of the FairTax

On the other hand are the opponents of the FairTax. One of the issues, according to some who don’t support the FairTax, is that it makes evading taxes a little easier for those who make purchases in other countries, or make underground purchases. Additionally, there are those who complain that a FairTax would not generate enough revenue to keep up with the country’s spending – unless some serious cuts to the budget were made.

Some opponents also say that, even with the prebates, the middle class gets hit hardest with the FairTax. This is because those with higher incomes spend a lower percentage of
their incomes on necessary purchases, while those with lower incomes spend more of their income on necessities. And, of course, when the prebate money is spent, it is still taxed at the sales tax rate.

There are also opponents that fear that the FairTax would make it easier to raise taxes in the future. The national sales tax is supposed to be adjusted based on revenues
brought in, and that opens the door for tax increases – without the need for additional debate and legislation. On top of that, opponents argue that repealing the 16th Amendment takes more than just a Fair Tax Act recommending that the income tax be abolished. There are worries that the income tax will make a comeback – on top of the consumption tax.