Monday, May 09, 2011

The Fair Tax Act versus A Personal Accounts Plan (for Laymen)

by Dick McDonald
Ownership Society Institute
www.RiseUpAmerica.us

Rather than get into too many complicated inter-related issues, I am writing this to make crystal clear the main (but not all) of the differences between the highly touted Fair Tax plan and the less understood personal account plan I am supporting and writing about in my book “Make the Poor Rich.”

The Fair Tax Plan

The Fair Tax Plan is very attractive. It scraps all Federal taxes and replaces them with a 23% consumption tax. It eliminates the IRS. It eliminates the need to file income, estate, gift, excise and payroll tax returns. The Fair Tax abolishes them all. Your yearly trek to your tax accountant is eliminated and H&R Block evaporates. No need for copious tax receipts and support; all that is eliminated. Tax cheats who failed to pay their taxes in order to buy more stuff get caught in buying that stuff because the Fair Tax is a consumption tax.

The Fair Tax is based on the assumption that it is fairer to tax consumption than net taxable income which is based on ability to pay. The richer you are the more you pay in our 93-year old system. The Fair Tax doesn’t care how rich or poor you are it just imposes the tax on the new products you buy. It rebates (called a pre-bate) the 23% tax on the necessities the poor buy and exempts them completely from tax as the payroll tax will have been abolished. This is a good thing for the poor, but hardly a bonanza as they are prone to consume every dollar they get.

Under the Fair Tax the rich guy pays nothing except the 23% tax on that which he personally consumes. As he has most everything already, the portion of his income and wealth spent on taxable consumables will only be a fraction of the percentage the poor and middle class spend on taxable consumables. Granted the rich man will invest in the market and create jobs and economic activity which will up overall consumption. That is a good thing but I’m afraid the ordinary taxpayer will complain that the rich get richer under such a plan and the poor and middle class stand still and pay the freight.

The Personal Account Plan

This tax reform ”personal account” plan eliminates all payroll taxes going to the government and diverts them (the 15% which is already withheld) into a taxpayer’s own personal investment account to grow over his 40-year working life by compounding into a sizeable nest egg. As compared to the Fair Tax, the account cannot be reached until retirement as the plan calls for the transfer of the funding of retirement from the government to the individual and the government doesn’t want to have people be irresponsible and spend all their savings and come back as a ward of the state. The nest egg is sufficient in size that just the income off the nest egg will provide the retiree with an affluent retirement. At death, his sizeable estate can be passed on to his children. No other taxes are repealed. However with the repeal of the payroll tax, half of the national budget is eliminated and the need for half the taxes. As those taxes are invested in the economy a substantial increase in economic activity is anticipated.

Comparison of Some of the Features:
  • Simplicity

    Nothing beats the Fair Tax for simplicity. It eliminates and abolishes all Federal taxes and replaces them with one simple consumption tax. It eliminates the need for a sizeable IRS. It reduces the need for complicated accounting and supporting documents. It eliminates the need for tax returns and the complicated determination of taxable income. Nothing could be simpler than the Fair Tax.

    By comparison there would be more complications with a personal account as all taxes stay the same and payroll taxes still have to be determined and paid into an individual’s personal account. In the present Social Security system the government takes care of funding retirement and old-age medical needs. Under personal accounts this responsibility falls on an individual’s shoulders.
    Advantage: Fair Tax
  • Limiting the Size of Government

    The Fair Tax would substantially reduce the Government’s need to administer so many taxes but HR 25, its empowering legislation, makes this “consumption tax” revenue neutral. In laymen’s terms that means that if the government collected $2.8 Trillion in Federal taxes in 2006, the Fair Tax would be designed to tax the “consumables” subject to this Fair Tax so as to collect $2.8 Trillion in 2006. Therefore it doesn’t limit the size of government to any significant extent. Politicians would still retain the right to allocate that $2.8 trillion of tax receipts at their whim.

    The personal account plan would cut the Federal government in half. The Federal budget would fall from $2.8 Trillion to $1.4 Trillion overnight. As the government would no longer be charged with the responsibility of funding retirement and old-age medical needs, it no longer would be in the entitlement business. It would no longer be playing nanny to its citizens.
    Advantage: Personal Accounts
  • Tax Cuts

    As the Fair Tax is revenue neutral, its imposition would not cut the nation’s tax burden. It would merely shift that burden among the various classes of taxpayers. The poor would be exempt from all taxes and the wealthy exempt from income, dividend and capital gains from which most of their wealth presently flows. Those whose income is spent on consumption over the poverty line would be hardest hit. However, as the Fair Tax is not designed to cut taxes, it is not a vehicle for tax cuts.

    As far as tax cuts are concerned, the imposition of full-blown personal account legislation would result in the biggest tax cut in the history of the planet. Eliminating the need for government to fund retirement and old-age medical costs would result in a $1.4 Trillion tax cut.. Unfortunately for those who want to spend their tax cuts now, that money will be put away for them to grow into millions over the years and will not be immediately available. They will be able to direct their investment into pre-designed indexed funds but that is all. Still it is a massive tax cut.
    Advantage: Personal Accounts
  • Cost and Logistics of Transition and Implementation

    The cost and logistics of transitioning to the Fair Tax would be daunting logistically but not too costly. As the plan is revenue neutral, the federal government would still be raking in the same dough; they would just be in a scramble as to whose ox is gored changing job descriptions and desks.

    The transition to a full-blown personal account modality would be painful to those who look at the problem linearly. Today the payroll tax receipts are used to pay retirees. Upon implementation of personal accounts that source of funding disappears as those funds will be placed in personal accounts. The question then becomes how do we fund the benefits of those in the system now and those whose accounts won’t have sufficient time to mature into sufficiently large nest eggs.

    In my book, “Make the Poor Rich,” I have at least eight methods to easily accomplish this. None may be needed, however, if history repeats itself. In the 1980s when Reagan cut the tax rate from 70% to 28% the result was that government “income” tax revenues doubled because of increased economic activity. If that happens again and there is good reason to believe it will as the stimulus of personal accounts will pale to insignificance the tax cut of the 1980s then such increase in revenues will be more than enough to pay for the smooth transition to personal accounts.
    Advantage: Fair Tax
  • Unfunded Debt Reduction

    The Fair Tax hopes to generate sufficient activity to make a big dent in the $13.2 Trillion unfunded Social Security debt. It makes no provision for the looming $30 to $50 Trillion of Medicare liabilities. I personally am unconvinced that it adequately addresses the Social Security problem as the Fair Tax is revenue neutral and present revenues are not adequate to pay the ever-increasing unfunded liability much less reduce the existing liability. It would be necessary to run enormous surpluses under the Fair Tax to even begin to address these unfunded entitlements. Under Fair tax these liabilities remain a severe problem.

    The personal account plan abolishes both the Social Security and Medicare unfunded liabilities on the date of the plan’s passage. They are written off the books with the stroke of a pen. Congress is not obligated to fulfill those promises and they have proven that in the Supreme Court. They have no contractual obligation to retirees. They can repeal any laws without consequence.
    Advantage: Personal Accounts
  • Retirement Funding

    The Fair Tax makes no provision for retirement funding. Taxes presently collected to pay retirees will remain the same and substantial benefit cuts or an increase in the 23% consumption tax will be needed to keep those programs afloat. I don’t see any significant change in the dynamics of a revenue neutral consumption tax that would in any way ameliorate the problem.

    The personal account plan has been devised to make the poor rich and able to afford upon retirement an affluent lifestyle and the best medical coverage money can buy just off the income from their nest egg. Your $60,000 a year truck driver retires with a $4.8 Million nest egg and a $40,000 a month retirement check (2006 dollars) without invading his nest egg. He can afford a magnificent lifestyle and buy the best medical care money can buy.
    Advantage: Personal Accounts
  • Crime, Discontent and the Pursuit of Happiness

    The Fair Tax and its abolition of all the taxes and the bother they create will do wonders for the people. It is a step up in the pursuit of happiness. I question, however, its effect on crime and discontentment. I think it will only marginally improve either of the latter. Its revenue neutrality bespeaks of its failure to lift all boats.

    Personal accounts have been designed to make the poor rich; even those who by circumstance or environment can’t compete for the big bucks. It carries them into a paradigm in which they can achieve the American Dream by merely working to survive. As most crime is driven by the lack of money, personal accounts will do wonders in reducing crime. As a disincentive for bad behavior for those who commit crimes for money we will subtract their incarceration costs from their personal accounts when jailed. As the poor get wealthier, both the tenor of life and its crisis will tone down and hopefully mute. Personal accounts and the security they provide should be the ultimate reward in the pursuit of happiness.
    Advantage: Personal Accounts
  • Private Sector Retirement Funding

    The Fair Tax abolishes the payroll tax and provides Social Security and Medicare coverage assumedly at the same level presently paid. As those amounts are insufficient to provide just enough to avoid starvation and homelessness, I don’t see the Fair Tax helping the private sector fund retirement. As it presently stands business is abandoning fixed retirement benefit plans for 401(k)s which have no mortality pool (not payable until death). The Fair Tax should provide a cushion for corporations to provide retirement plans but I doubt they will do so considering the cost that must be added to their products and services.

    Personal accounts are designed to provide in one place all the retirement funding an American needs. He won’t need funding from his employer or employers. He can scrap his 401(k), his IRA. There will be no need with the nest egg he will accumulate under the personal account plan.
    Advantage: Personal Accounts
  • Wealth Creation

    The Fair Tax is not designed to create wealth. It is revenue neutral and neither cuts overall taxes nor provides for an increase in the capital pool (here we assume the rich will be freer to invest but it should be offset by a reduction from other classes who pick up the shortfall in tax collections).

    Personal accounts have been devised to create enormous personal wealth for American citizens; even the poor and uncompetitive will become wealthy. . Under this plan the overall wealth of America will geometrically rise to supply the world with the capital it needs to improve the overall standard of living of the oppressed and unfortunate of underdeveloped nations. Advantage: Personal Accounts FairnessIf by fairness one wants to rid themselves of bothersome details, the Fair Tax is your number. However, as between classes of taxpayers I have concluded the Fair Tax is anything but “fair”. Were it not revenue neutral and created huge surpluses with which to liquidate our unfunded debt. I would feel differently. As it is, it loses my vote. This is of course predictable as it is my passion to implement personal accounts at 15% of income and wages and I am exceedingly biased. I leave it to the Fair Tax crowd to challenge my findings and my conclusions. I doubt they will be sitting on their hands.
    Advantage: Personal Accounts
  • Legislative Potential

    Neither Fair Tax nor Personal Accounts legislation will go down without a massive battle with the establishment as both are designed to free the individual from the yolk of government. The forces of government are massive and impressive. Fortunately they already have personal accounts which I will use like a rapier to impugn their character and honesty with the American people. I predict they won’t get away so easily this time;. George W. Bush won’t be running interference.
    Advantage: Personal Accounts.

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