National Sales Tax: Not *the* solution, but *a* solution

Posted on March 1, 2013

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It’s safe to say that the current United States tax code – all 84,319 pages of it – is almost as popular among the vast majority of Americans as the science teacher who gives a pop quiz, a test and seven hours of homework on a Friday.

America has what is arguably the world’s most complex — the most intentionally and unnecessarily complex — tax code in the world. The federal code is 16,772 pages long. Another 27,293 pages consist of Internal Revenue Service rulings and details of sub-codes, penalty definitions and procedural policy. So what’s in the remaining  40,254 pages?  Why, that’s where all those loopholes you keep hearing about are You know … those loopholes that allow Warren Buffet to pay a smaller percentage of tax than his secretary; that allow bankers to deduct their travel expenses when meeting with members of Congress to pay their bribes; that allow trust fund recipients to deduct their second, third, fourth (etc) homes that they haven’t set foot in for years and claim them all as primary residences. You know,  good old-fashioned “common sense” fiscal legislation.

When John McCain was still a “maverick reformer,” he raged incessantly about how the tax code was the foundation for the corruption of American politics: Special interest groups paying politicians vast amounts of cash for their campaigns and in return they get favorable exemptions, credits or loopholes in the tax code. And yet, throughout his 158 years in Congress, McCain has sponsored, co-sponsored and/or voted in favor of 341 new tax loopholes, amendments and conditional clauses in the U.S. Tax Code.

You have to understand, complexity equals corruption. Why else would politicians talk about how bad the tax code is for decades (like … six of them) but still never manage to find a way to do anything but make it larger and more complex? In other countries this sort of bribery takes place underneath bridges and with cash in brown envelopes. In America it is institutionalized and legal but it is the same thing: Cash to politicians in return for favorable treatment from the government.

The U.S. tax system is not simply corrupt, it’s corrupt because it has degraded the entire system of American government. Congress is able to funnel vast sums of money in perpetuity to its favored campaign donors through the tax code without anyone realizing it, and still claim to be legal and legit.

For those who despair at the role of money in politics, the simplest way to get the corruption out of Washington is to remove the prize that members of Congress give away – preferential tax treatment. A flatter tax code with almost no exemptions does that. The simplest fix to our tax code would be would be to lower the income tax dramatically, lower the corporate tax, and instead raise revenues through a national sales tax, or a value-added tax (VAT).

The U.S. is the only rich country in the world without a national sales tax. Germany has one at 19%, Britain at 20%, South Korea at 10%. And for the geo-politically challenged who might be reading this,  none of those countries are practicing a “Socialist/Communist” form of government. The idea behind a national consumption/sales tax is that everyone pays their fair share based on what they spend, rather than what they earn. Taxing consumption rather than productivity would encourage saving and investment and, in turn, stimulate domestic production and economic growth. A reasonable national sales tax would fall between 17% and 23% and it would replace the income tax. It could also eliminate and replace the 6.2% employee portion of the Social Security tax. You would have a bigger take-home paycheck, and you’d have more personal control over how much you pay in taxes: Spend more equals pay more tax.

So, other than simple Vulcan-like logic, what’s the appeal of a consumption tax?

First of all, it’s incredibly efficient. Most studies, including one by the IRS in 2006, suggest that the federal government loses several hundred billion dollars a year to tax fraud. This would be almost impossible to do if we had a consumption/sales tax that is paid, on the spot, at time-of-purchase. You buy a case of Iron City Wild Mustang, this month’s issue of “Juggs” magazine and a bag of pork rinds? You pay the national sales tax. You buy a ski chalet in Colorado, a second yacht and 300 cases of Beluga caviar? You pay the national sales tax. Everybody pays. Nobody’s exempt. Everybody wins.

Second, it provides the government with a more stable and consistent source of revenue than income taxes. Income taxes fluctuate greatly between peak and dismal years. Less income results in fewer income taxes. That’s “unrealized anticipated tax revenue” for those of you watching C-SPAN.

Third, American’s consume too much, often using credit and leverage to do so. Stores like Sam’s Club, Costco and Gluttons-R-Us wouldn’t exist if that weren’t true. You either have, or have seen someone, buy a pack of gum using a credit card. If people knew that they would have to pay a tax every time they superfluously bought something they don’t need, people would spend smarter.

Ironically, this country’s unrealistic reliance on income taxes makes the American tax system more progressive than those in Europe. The federal government currently gets about 43% of its total tax revenue from taxes on individual incomes and profits (only 15 percent of that comes from investment — i.e., not-worked-for income), compared with only 29% in Germany and 22% in France. The balance for France and Germany comes from their national Value Added Tax, which is highly regressive. And need I remind you that throughout the ongoing fiscal crises in nearly every country in the European Union over the past half-decade, Germany has been writing the checks to bail out the other countries, and France hasn’t asked for a single centime. So call the VAT tax regressive if you want (or are instructed to), but it works.

If the income tax was eliminated, the IRS would be obsolete — as would 84,317 of pages of the tax code (not counting the cover page). With no IRS, there’s no requirement to report your personal financial information to the government. Your privacy is protected and there’s no opportunity for intentional “errors” on anybody’s tax return.

By keeping the income tax system, tax evasion is still be a problem because it allows people to lie about how much they took in. Unreported income in the United States is estimated to be about $2 trillion every year. That’s “trillion,” with a “T” … the denomination Congress seems obsessed with. Moving the tax from an income tax to a sales tax may or may not change this dynamic, but it wouldn’t matter anymore from a federal tax revenue perspective because the government’s share wouldn’t be dependent upon it. Unfortunately, Internet sales and goods purchased from overseas would need to have a sales tax applied. Otherwise, online orders from foreign countries would be another method of dodging your tax obligation.

Taxing income decreases productivity and taxing consumption will similarly decrease spending. But less demand for consumer goods will reduce prices and also seriously diminish consumer debt. Families will be encouraged to have capital to save and invest as the tax burdens are removed. Deferred consumption (a.k.a., money not spent) is the textbook definition of capital. And because a sales tax is a consumption tax, more people will defer consumption and have capital to invest instead. Money invested earns more money. Increased savings and investing help create a healthy country with better economic growth.

Another benefit of eliminating a progressive income tax is that it can accidentally tax people it doesn’t intend to burden. Many economic incidents can artificially inflate your income for a single year, pushing you into the highest tax bracket. For example, if you’ve ever gotten a bonus or other incentive payment from your employer, you noticed that it counted toward your gross income for that pay period and suddenly you were taxed *WAY* more than you usually are. For that one pay period, you’re making huge bucks and Uncle Sam demands his cut. With a sales tax, one year of extraordinary spending would at least be taxed at a flat rather than a progressive rate. Every dollar spent, regardless of who spends it or what they spend it on, would be absolutely equal — and fair — in the eyes of the tax gods.

Critics suggest that a national sales tax is regressive, that it favors the rich. But that’s because that criticism is based on the measurement of dollars-spent-per-dollars-of-income. Obviously the rich spend a smaller percentage of their income than the poor do.  When a loaf of bread, a gallon of milk and a tank of gasoline represent a two-digit percentage of your weekly income, but the purchase of a Bentley is a couple of decimal points to the left, that criticism of the sales tax goes poof.

Is a national sales tax the perfect solution to the entire tax question, philosophical or otherwise?  No, of course not.

But, if you ask me, I am in favor of almost any new tax code that fits on two printed pages.

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