**Submission of Americans For Fair Taxation**

**on the FairTax Comprehensive Tax Reform Proposal**

**to**

**The President\'s Advisory Panel on Federal Tax Reform**

**April 29, 2005**

**Submitter's name:** Leo Linbeck, Jr., Chairman

**Organization name:** Americans For Fair Taxation

**Date of submission:** April 29, 2005

**Contact information:** web site address:
[www.fairtax.org](http://www.fairtax.org/)

E-mail address: leo_jr@fairtax.org

Telephone Numbers: 1-800-FAIRTAX

**Category of submitter:** Association

**[Issue]{.underline} [Answer]{.underline} [Page]{.underline}**

1.  The tax base Retail consumption 3\
    a. Revenue neutrality Yes. 23 percent of new goods &\
    services 4,5

2.  Exemptions, deductions, credits, exclusions Held inventory credit,
    expires with\
    first turnover 4,13,14

3.  Tax rates: 23% tax-inclusive\
    a. Progressive Yes 8

4.  Distribution of the tax burden Taxes consumption of new goods &\
    services above the poverty level 8

5.  Treatment of charitable giving Giving with "pretax" dollars 7

6.  Treatment of home ownership Entire house payment made with\
    "pretax" dollars 6

7.  Collection methods Via state sales tax organizations 4

8.  Treatment of business\
    (long run economic growth and job creation) Business fully untaxed,
    significant GDP\
    growth; growth in capital stock and real\
    wages, significant job creation 11, 13

9.  Simplicity\
    (including transparency and stability) Simple and entirely
    transparent with\
    a more stable tax base than income 13

10. Fairness Yes, according to thorough polling 13

11. Economic growth and competitiveness Significant GDP growth;
    tax-haven status\
    with maximum border adjustability 5,11

12. Compliance and administrative costs Significantly lower costs with
    higher compliance 10,12

**Table of contents**

Introduction 3

A. Brief description of the FairTax plan 3

*A1. The FairTax plan taxes all personal consumption at the point of
final, retail consumption*. 3

*A2. The FairTax rate is revenue neutral at 23 cents from every dollar
spent.* 4

*A3. The collection mechanism of the FairTax builds on existing state
structures.* 4

B. Advantages of the FairTax over any other tax system 5

*B1. The FairTax imposes the lowest possible marginal rate of any
revenue-neutral system.* 5

*B2. The FairTax stimulates economic growth.* 5

*B3. The FairTax untaxes and simplifies saving.* 6

*B4. The FairTax benefits homeownership more than the current tax
system.* 7

*B5. The FairTax results in greater charitable giving than the current
tax system.* 9

*B6. The FairTax untaxes education.* 9

*B7. The FairTax reverses the built-in regressivity of the current tax
system.* 10

*B8. The FairTax reduces compliance (and administrative) costs more than
the current tax system.* 12

*B9. The FairTax ensures greater compliance with less intrusiveness.* 12

*B10. The FairTax eradicates the current tariff against American
producers.* 13

*B11. The FairTax provides a template for solving many state and local
tax revenue problems.* 14

*B12. The FairTax cannot morph into an income tax.* 14

*B13. The FairTax makes the cost of government transparent.* 15

*B14. The FairTax enhances civil liberties more than the current tax
system.* 15

*B15. The FairTax is supported by small enterprises* 15

C. Transition rules and special considerations 15

Conclusion 17

**Introduction**

Americans For Fair Taxation (FairTax.org) is the nation's largest,
single-issue grassroots organization dedicated to fundamental tax
replacement. FairTax.org is the collective voice of more than 500,000
Americans of all ages, ethnic backgrounds, political affiliations and
walks of life who share two views on tax reform:

-   That Americans can rise above the failed income and payroll tax
    regimes to develop a more visible, more globally competitive,
    administrable, fairer, understandable and less costly and intrusive
    system of collection; and

-   That when educated about alternatives in an unbiased way, regardless
    of ideology and political affiliation, Americans consider the
    FairTax as the best plan for our national and individual prosperity
    and freedom.

As a nonpartisan organization, FairTax.org is unique in tax policy
history. Fairtax.org did not cobble a tax system to meet assumed needs.
Instead, we conducted extensive opinion research to determine what
Americans desired in a tax system. FairTax.org analyzed the failures of
the current tax system -- its unfairness, its propensity to reward
special interests, its bias against U.S. producers, its
unenforceability, its intrusiveness, its invisibility, its complexity,
its cost, its anti-growth design. We engaged legal and economic scholars
to systematically determine the best means of correcting these failures.
In short, FairTax.org developed a plan worthy of America in the 21^st^
Century.

**A. Brief description of the FairTax plan**

***A1. The FairTax taxes all personal consumption at the point of final,
retail consumption***. The FairTax is embodied currently in S. 25 and
H.R. 25. The FairTax is an integrated replacement system that repeals
all current taxes imposed by the Internal Revenue Code on income and
wages, including personal, gift, estate, capital gains, alternative
minimum, Social Security/Medicare, self-employment, earned-income tax
credit and corporate taxes. In place of these taxes, the FairTax imposes
a single-rate tax on the final retail sale of new goods and services
used or consumed in the U.S. at the revenue-neutral rate of about 23
cents from every dollar spent. The FairTax plan also amends the U.S.
Constitution so that the income tax chapter of American taxation is
closed.

To ensure the FairTax does not cascade, business-to-business
transactions are not taxed. Intermediate goods and services are properly
treated as inputs into goods and services sold at retail. Unlike the
current system that taxes income multiple times and on an inconsistent
basis, the FairTax taxes income only once, upon consumption.
Furthermore, the FairTax does not tax used goods under the principle
that the hidden taxes on production were paid when initially purchased.
There are no exemptions for goods or services in order to ensure the
broadest conceivable base without building in special interest
exemptions or drawing distinctions that generate compliance problems and
regressivity. While permitting no exemptions, the FairTax benefits
low-income Americans through a monthly, universal **prebate** equal to
23 percent times the HHS poverty level by family size, plus an
additional amount in the case of married couples to avoid a marriage
penalty. The **prebate** ensures each family unit can consume tax free
at or beyond the poverty limit, with the overall effect of making the
FairTax progressive in application. Under the FairTax, all Americans
consume what they see as their necessities of life free of tax. In
essence, the FairTax allows every American to keep his or her income and
elect when and if they are to be taxed.

***A2. The FairTax rate is revenue neutral at a rate of 23 percent on
new goods and services.*** Several independent researchers confirm the
FairTax plan is revenue neutral at 23 percent (tax inclusive)[^1] or 30
percent (tax exclusive). As the starting point for this rate
calculation, consider that in fiscal year 2003, the total taxes the
FairTax repeals accounted for about \$1.67 trillion. The economy in 2003
produced goods and services valued at \$11 trillion. Of this, 7/8ths or
\$9.6 trillion was consumed. Once various technical adjustments are
made, the FairTax base is \$8.7 trillion. To raise the taxes it repealed
in that year (\$1.67 trillion), the rate on this base without any
exemptions would be 19.2 percent, derived by dividing the taxes replaced
by the total consumption in the U.S. The basic rate must be increased to
23-percent to accommodate the FairTax's **prebate**. FairTax.org would
be pleased to provide the Panel our detailed base calculations and work
with the Office of Tax Analysis to review the rate.

***A3. The collection mechanism of the FairTax builds on existing state
structures. ‑*** Under the FairTax, retailers collect and forward taxes
to state governments. In the states with an existing sales tax system,
the FairTax simply adds a line to the current sales tax reporting form.
For their trouble, retailers receive a fee of ¼ of one percent of the
taxes collected to offset their greatly diminished administrative costs.
State governments, which are allowed to collect and remit the revenues
to the federal government, also receive a payment equal to ¼ of one
percent of the tax collected. State governments are not be required to
adopt the same tax base for state and local sales taxes as the FairTax,
but gain efficiencies and broaden their base if they do.

**B. Advantages of the FairTax**

The FairTax is an extensively researched tax plan and research continues
on many aspects of the plan. For example, further research is being
conducted on issues such as the economic effects of the FairTax on
wages, the effects of border-adjustability, and transition. Therefore,
we encourage the Panel or interested parties to visit our web site to be
apprised of these further studies. Many of the advantages are summarized
below.

***B1. The FairTax imposes the lowest possible marginal rate of any
revenue-neutral system.*\
**It follows logically that broadening the base and imposing a single
rate of tax reduces average marginal rates. Because the FairTax plan
uses a consumption base significantly larger than the income tax base
and any other alternative, it imposes the lowest tax rate of any
revenue-neutral alternative without doubly taxing the same income. In
2001 (the latest year data available), total adjusted gross income was
\$6.17 trillion. Thus, the basic building block of the FairTax base --
total consumption -- is 38 percent larger than the current tax system's
starting point -- adjusted gross income. Taxable income under the
current system was only \$4.22 trillion in 2001, only 49 percent of
total consumption. Because it is a single-rate, it removes the penalty
that progressive marginal rates impose on income fluctuation. And using
all measures of variance, consumption is less variable than the taxable
income as a base, which is why it is a more stable source of revenue.

***B2. The FairTax stimulates economic growth.*** Economists estimate
that the FairTax plan improves wages and the economic well being of all
Americans. For example, Boston University economist Laurence Kotlikoff
estimates the shift to consumption taxation raises the stock of U.S.
capital by at least 29 percent (potentially by as much as 49 percent)
and U.S. living standards by at least seven percent and potentially by
as much as 14 percent. Work by Gary Robbins, Ph.D of Fiscal Associates
shows that replacing the current tax system with a single-rate system
that treats capital and labor income equally -- such as the FairTax
--increases the GDP 36.3 percent and private output by 48.4 percent over
the long run. Higher investment levels increase the productivity of
employees, demand for workers and real wages.

The FairTax does not encourage savings at the expense of retailers.
While Federal Reserve Chairman Alan Greenspan correctly states that
consumption taxes encourage saving and capital formation, which in turn
drive economic expansion, this takes time. Strong rates of economic
growth and higher employment lead to higher investment and higher
consumption. Because, however, the FairTax reduces the tax bias against
savings and investment, savings and investment initially grow more
rapidly than consumption. This increased capital stock results in higher
output, higher productivity and higher consumption. Retailers also enjoy
lower costs with the abolishment of corporate income taxes (eventually
winding down concomitant compliance costs) and termination of employer
payroll taxes. Their domestic suppliers also enjoy similar, lower costs,
though products currently sourced overseas may not have the price
advantage they do today (since they bear the same tax burden as
domestically produced goods). The FairTax also provides a net reduction
in paperwork and overhead by eliminating the need for corporate tax
planning, tax record keeping, compliance and litigation, though such
burdens for their on-going collection of sales taxes may increase
slightly. Only five states do not currently require sales tax
collection. Under the FairTax, retailers, and all businesses for that
matter, make decisions based solely on the benefits to shareholders,
customers and suppliers. Finally, retailers can broaden competitive
domestic sources of supply as significant amounts of manufacturing
return to the USA.

***B3. The FairTax untaxes and simplifies saving.*** Americans today
save at Depression-era levels because our current income tax regime
punishes saving and investment. When savings are made with what remains
after payroll and income taxes, returns on those investments are taxed
multiple times: The income-producing asset is taxed, corporate income
(including capital gains) is taxed and dividends are taxed. Although
assets in qualified pension accounts approach being taxed in a manner
consistent with a consumption tax, the thousands of pages of pension
regulations impose further costs that discourage pension plans and a
myriad of restrictions on who can save. The ability to save should never
be considered a privilege to be bestowed by the Internal Revenue Code.
We advocate adoption of the simplest pension plan in the world; one in
which everyone can participate -- if you do not spend your earnings on
yourself after meeting life's necessities, you do not pay taxes on those
earnings. The FairTax offers the equivalent of a universal, unlimited
merger of front and back-loaded IRAs with no restrictions on how much to
save or on who can save. Savings are encouraged because they are not
taxed. Economic studies prove savings rates are responsive to after-tax
returns on savings.[^2]

***B4. The FairTax benefits homeownership more than the current tax
system.*** The FairTax lowers the true costs of buying a home. As the
table below shows, the purchase of new property is taxed as a
consumption item under the FairTax, in a manner not unlike today. The
current Code requires homebuyers to pay for their new home with after
payroll and income tax dollars. No deduction is allowed for the purchase
of a home, and the price of that home already reflects the taxes and
compliance costs imposed upstream. Unlike the current regime, the
FairTax imposes a lower marginal rate of tax, untaxes fully capital
gains from the sales of used or new property and terminates cost-raising
tax and compliance expenses imposed on upstream labor and materials.
More importantly still, the FairTax imposes no tax on purchasers of
existing homes (the most common properties bought by first-time
homebuyers). The seasonally adjusted statistics for 2005 show that about
three-quarters of all home sales are projected to be existing homes and
existing homes most often provide the resources for the sale of new
homes.

+-------------+----------------------+---------------------------------+
|             | **FairTax**          | **Current System**              |
+-------------+----------------------+---------------------------------+
| **Purchase  | Taxed at 23%         | Taxed at Higher Rate (Combined  |
| (New        | (inclusive)          | Payroll and Income of more than |
| Home)**     |                      | 30%)                            |
+-------------+----------------------+---------------------------------+
| **Purchase  | Not Taxed            | Taxed (Combined Payroll and     |
| (Existing   |                      | Income Rate of                  |
| Home)**     |                      |                                 |
|             |                      | more than 30%)                  |
+-------------+----------------------+---------------------------------+
| **Home      | Paid with Pre-Income | At Least After Payroll Tax of   |
| Mortgage    | and Pre-Payroll Tax  | 7.65% (15.3% if employer share  |
| Interest**  | Dollars              | considered)                     |
+-------------+----------------------+---------------------------------+
| **Gains     | Not Taxed            | Possibly Taxed                  |
| (Existing   |                      |                                 |
| Home)**     |                      |                                 |
+-------------+----------------------+---------------------------------+
| **Gains     | Not Taxed            | Possibly Taxed                  |
| (New        |                      |                                 |
| Home)**     |                      |                                 |
+-------------+----------------------+---------------------------------+

When compared to the FairTax, the mortgage interest deduction (MID) --
only permitted for servicing the interest on mortgage debt by itemizing
homeowners -- is often touted as a substantial benefit to homebuyers
(along with the limited exclusion on capital gains (\$22.9 billion) and
the write off for local property taxes (\$19.6 billion)). The staff of
the Joint Committee on Taxation estimates of Federal Tax Expenditures
for 2005 are that \$38.8 million taxpayers will take the MID worth about
\$72.6 billion[^3]. The intended result of the MID is the *non-income
taxation* of mortgage interest (or more precisely, the funds used to pay
mortgage interest). However, the MID pales in comparison to the full
non-taxation of interest to the buyer and the lender under the FairTax.
Through its repeal of income and payroll taxes coupled with the
non-taxation of interest, the FairTax ensures mortgage interest payments
are made with totally untaxed earnings. The MID cannot be taken against
payroll taxes, which represent about 43 percent of income taxes by
receipt. More than three-quarters of all Americans pay more payroll than
income taxes and they are the first time homebuyers. By not taxing
lenders on interest they receive, the FairTax is estimated to result in
a lowering of interest rates by about 250 basis points, which further
reduces the carrying costs of purchasing a home. Finally, the FairTax
further benefits homeownership by enabling homebuyers to save the down
payment without swimming against the tide of taxation.

To put these advantages in real terms, consider the wages a family must
earn to purchase a new \$153,800 home *today*. Assuming a 27-year term
and mortgage rate of 6.0 percent, FairTax.org calculates that the
average homebuyer pays an additional \$157,139 in interest and must earn
\$377,790 before taxes to pay off that home. Under the FairTax, he or
she would need to earn at least \$65,691 (or -17.4 percent) less. A
buyer of a previously owned home, of course, would need to earn
\$265,959 (\$153,800 + \$112,159 interest) or 70% of what he or she
would need to earn today.

In order to match the power of the FairTax for encouraging home
ownership, the current tax system would have to at the very least (1)
allow all taxpayers to fully deduct against income and payroll taxes the
purchase of used property, (2) expand the MID so that it permits a
deduction against payroll taxes, (3) fully untax the sale of homes; and
(4) fully untax returns on savings used to buy homes.

***B5. The FairTax results in greater charitable giving than the current
tax system.*** The FairTax enhances resources available to charities by:
(1) improving the primary determinant of charitable giving -- economic
growth and national income; and (2) giving every taxpayer the equivalent
of a supercharged charitable contribution by enabling contributions free
of income, payroll and sales taxes.

Empirical data confirm the major correlation governing the degree of
charitable giving is not the tax deduction, but the level of national
income and wealth.[^4] Total philanthropy has held steady as a nearly
constant proportion of personal income and GDP over four decades even
while the top marginal rate has fluctuated between 90 and 28 percent. To
the degree there is a "price effect" from the contribution deduction, it
is because deductibility lowers the net-of-tax cost of making
contributions. The FairTax lowers that cost for all taxpayers in ways
unattainable by an income tax.

The appropriate question to ask about charitable contributions is not
'how much of a deduction is provided?' but rather 'what must a taxpayer
earn in order to make that contribution?' A taxpayer needs to earn only
\$100 in order to contribute \$100 under the FairTax, but even an
itemizing taxpayer today must earn at least \$108 to contribute \$100. A
non-itemizing taxpayer (two-thirds of all taxpayers) in the 28 percent
bracket must earn \$155 to make a \$100 contribution to charity today.

To match the power of the charitable "incentive" under the FairTax, the
income tax would not only have to permit charitable contribution
deductions against payroll taxes, but would also have to get rid of the
distinction between itemizers and non-itemizers and the many other
restrictions on the deduction.

***B6. The FairTax untaxes education.*** The FairTax does not tax
tuition because we draw no distinction between investment in human
capital and investment in plant or equipment. Rather, the FairTax treats
education as a personal investment in our nation's intellectual capital.
By way of example, since our current tax system requires tuition to be
paid for with after-tax dollars, a 28-percent taxpayer today must earn
at least \$15,540 in order to afford \$10,000 in tuition costs. Under
the FairTax, paying a \$10,000 tuition bill requires earnings of
\$10,000.

***B7. The FairTax reverses the built-in regressivity of the current tax
system.*** The FairTax plan accomplishes what no other plan can: It
**untaxes** the poor while ensuring that only those with the ability to
pay actually pay. It eliminates both the payroll tax and hidden tax
costs passed along to consumers in the price of goods and services
today. Moreover, the **prebate** mechanism ensures that each American
can consume tax free up to the poverty level. Under HHS poverty level
guidelines for 2005, for example, a family of four could consume
\$25,660 tax-free; spending judiciously on used products expands this
window. After the poverty threshold is exceeded, taxes escalate
according to the best measure of one's ability to pay: What he or she
consumes for their own personal well-being. The **prebate** dramatically
reduces the effective rate of tax for middle class Americans. A family
of four spending \$51,320 annually would have an effective tax rate of
only 11.5 percent. Progressivity in the FairTax is achieved by taxing
consumed wealth, by repealing regressive payroll taxes and by giving
working individuals maximum choice to pay the tax or to save or invest.

The Earned Income Tax Credit (EITC) may be fairly credited with
encouraging people to work via a reduced tax rate. The FairTax
**prebate** preserves the spirit of the EITC for the working poor but in
a simple, straightforward manner: By simply terminating federal paycheck
deductions altogether, and by repealing the perverse effect of the
highest marginal rates imposed by the Code as one escapes the EITC
threshold. Gone is the complicated form with 55 pages of instructions
that force over 70 percent of EITC filers to hire paid tax preparers,
scares 25 percent of eligible recipients from even applying, results in
an overpayment rate of 27 percent, and causes many IRS audits of our
poorest workers. Gone are the high marginal tax rates caused by the
refund phase-out, and its accompanying disincentive to work more and
earn more. The working poor get to keep their whole paycheck (the
greatest, if simplest, incentive to work), no tax returns to file and
get a monthly check prepaying the sales tax on their selection of
necessities, up to poverty-level spending.

But the FairTax also is progressive in ways not measured by
distributional tables, for example, by encouraging upward mobility. By
removing the regressive yoke of payroll taxes, hidden taxes, high
marginal rates and taxes on savings from those who must rely on their
own labor and savings to improve their lot in life, the FairTax does not
penalize those who invest in their future in favor of those who consume
for today. By removing the economic drag imposed by the income tax, it
disproportionately benefits the poor. By removing the more than \$200
billion in compliance costs, it eliminates fixed costs that fall
disproportionately on small firms and the middle class. And by taxing
consumption, it ensures that tax compliance itself is more equitably
distributed.

Seniors benefit even though they are spending from accumulated savings.
That is because much accumulated savings today resulted from
contributions that were tax-deductible as a retirement vehicle, and are
not taxed upon withdrawal under the FairTax. There is approximately \$12
trillion in retirement savings assets, and of this amount almost all
were contributions from tax-deductible plans. Less than one percent are
assets held in Roth IRA's.[^5] Furthermore, under the FairTax, the
income tax on Social Security benefits is repealed and benefits remain
the same. Although prices are not likely to increase because of the
repeal of imbedded taxes, Social Security benefits are nevertheless
indexed on a sales-tax-inclusive basis to ensure that seniors are
protected. According to recent work by Stanford University economist
Joseph Kahn, only wealthy seniors with a net worth over \$700,000
experience a reduction in purchasing power of 3.5 percent; all others
remain relatively the same, and many are advantaged when the FairTax
**prebate** is taken into account. Moreover, the FairTax also repeals
the estate tax, so that seniors can pass along their savings, business,
or farm free of complexity and transfer taxes.

FairTax.org strongly urges the Panel to adopt the recommendations in
past economic reports of this President to not blindly measure
distribution on the basis of taxes paid over annual income, because such
analyses are biased against flat-rate consumption taxes. As a
consumption tax is a viable alternative, we recommend the Panel examine
distribution in other ways; such as by measuring distribution by taxes
paid over consumption, lifetime income or by evaluating distribution on
a dynamic basis by measuring what earnings people have left after
taxation. These distribution tables should also include compliance costs
and compliance rates that are both regressive under the current tax
system, and they should be clear in describing the incidence of
corporate taxes and multiple taxes on returns on capital.

# ***B8. The FairTax reduces compliance (and administrative) costs more than the current tax system.*** The current system literally throws away precious economic resources on wasted compliance costs that add no value to the economy. U.S. taxpayers collectively filed 227 million tax returns in FY 2004 and more than 1.4 billion information returns. In 2002, a Tax Foundation study found that individuals, businesses and non-profits spent an estimated 5.8 billion hours complying with the federal income tax code at a cost of over \$194 billion or a 20.4 cent tax compliance surcharge for every dollar the income tax system collected (2.0 to 3.5 percent of the GDP). Less easily quantified are the high intangible costs of enforcement; for example, more than 28.6 million civil penalties were assessed in 2004 to enforce our complex tax system. The Tax Foundation has estimated that compliance costs drop more than 90 percent -- equivalent to one good year of economic growth. Individuals who are not in retail businesses never have to file a tax return again. Instead of the complex morass that is the current tax system, the FairTax asks just one question. How much did you sell to retail consumers?

***B9. The FairTax ensures greater compliance*** ***with less
intrusiveness***. The FairTax reduces the current \$312 to 353 billion
"tax gap"[^6] for several reasons. First, compliance is inversely
proportional to the marginal rate or the reward for being non-compliant.
Because marginal tax rates are the lowest they can be under any sound
tax system; cheaters profit less from cheating. Second, because the
FairTax reduces the number of tax filers by as much as 80 percent as
individuals are removed entirely from the tax system, enforcement
authorities can catch cheats by monitoring far fewer taxpayers. More
than 85 percent of the sales tax is collected by less than 15 percent of
the retailers. Third, simplicity and visibility add to enforcement.
Today taxpayers can cheat in the privacy of their breakfast table and
bury their cheating on 227 million tax returns in the unnavigable 7,000
code sections with plausible deniability that the taxpayer even
understood the law. The FairTax increases the likelihood that tax
evasion will be uncovered and leaves little room to hide between honesty
and outright fraud (to say nothing of the well-established efficiency of
current state sales tax authorities, well experienced in detecting such
infractions). In short, tax collectors focus enforcement resources on
far fewer taxpayers, using consistent and vastly simpler forms, with far
fewer opportunities to cheat, diminished incentives to do so and a far
greater chance of getting caught if they do. Much of the tax gap today
is attributable to confusion and mistakes that are eliminated under the
FairTax.

Currently, an estimated 18-million, wage-earning Americans have dropped
out of the income tax system entirely as "non-filers". This aspect of
the underground economy is successfully taxed at the retail level under
the FairTax.

Finally, no tax is perfect. Although one can cheat under the FairTax,
this cannot be viewed in a vacuum. With many fewer returns, all
consistently simple returns, a major concentration of points of
collection and the fundamental requirement that it takes two to cheat,
compliance under the FairTax is vastly improved when compared to the
current income tax system.

***B10. The FairTax eradicates the current tariff against American
producers.*** American producers that hire American workers face
unprecedented foreign competition. With a negative trade balance in
goods with every principal nation and region, the U.S. trade deficit is
approaching \$700 billion per year, more than five percent of GDP.
Despite this, the U.S. has failed to address the central problem: The
increasing reliance of our trading partners on border-adjusted taxes. Of
the 30 OECD nations, 29 (with the sole exception of the U.S.) employ
border-adjusted consumption taxes that are rebated on exports and levied
on imports at an average rate of 17.8 percent *ad valorem*.
Border-adjusted taxes enhance, through WTO-compliant means, the
competitiveness of domestically produced goods when those goods are
exported to countries without border-adjustable taxes (the United
States). Since nations that impose border-adjustable taxes in turn levy
consumption taxes on imports, they effectively impose double taxation on
U.S.-produced goods. Against the prevailing background of
border-adjustable taxes, the income tax, therefore, punishes U.S.
producers in both domestic and foreign markets.

As the purest version of a destination-principle consumption tax, the
FairTax removes the entirety of the tariff impose on U.S.-produced
exports from border-adjustable taxes by not taxing goods or services
used or consumed outside the U.S. Conversely, it taxes imports the same
as U.S.-produced goods when sold at retail in the U.S. For this reason,
the FairTax is the only plan that revitalizes the American manufacturing
base lost to foreign competition and returns to America the high-wage
manufacturing jobs we have driven overseas.

Under the FairTax, the United States stands alone as the only advanced
nation in the world with a zero rate of federal tax on productive
income, whether from returns on capital or personal earnings. The U.S.
becomes the most attractive, tax-haven venue in the world for
investment, manufacturing and exports. Investment lost to foreign
outsourcing repatriates to our shores as the U.S. becomes the global
seat of production, management, research and export activity. Capital
trapped offshore by our tax morass repatriates as well. Eventually,
other nations will be forced to follow suit and reduce marginal tax
rates or lose their investment to the U.S.; this global reform
stimulates worldwide economic growth to the benefit the global
community, thus providing U.S. producers with larger markets.

***B11. The FairTax provides a template for solving many state and local
tax revenue problems.***

At a minimum, states benefit from the higher rate of economic growth of
the national economy brought about by the replacement of the current
income and payroll tax systems with the FairTax. As noted, all states
are provided the opportunity to collect the FairTax and receive ¼ of one
percent of total collections, taking advantage of the efficiencies of
sales tax systems now present in 45 states and the District of Columbia.

The 36 states that currently levy a state income tax based on the
federal system will no longer be able to rely on the Internal Revenue
Service for enforcement support. If such states move to the much broader
FairTax base with a universal prebate to protect low- and fixed-income
citizens, these states could reduce their current sales tax rates,
generally by more than half and still collect the same revenue. If they
choose not to reduce their current sales tax rates as dramatically, they
can replace their income tax systems and their revenues.

While the FairTax legislation does not require states to conform state
sales taxes to the FairTax base, there are additional advantages for
doing so: (1) a marked reduction in compliance costs as the FairTax base
is much easier to administer than most state sales taxes that are
replete with exemptions, special rates, etc.; (2) enhanced ability of
state sales tax revenues to keep pace with economic growth as the
FairTax base includes the services sector that is an ever growing
segment of our economy generally untouched by most state sales tax
systems; and (3) the ability to tax the retail sale of goods and
services to state residents via the Internet and mail-order sales. The
FairTax offers states an opportunity for uniformity in adopting a common
tax base that enables states to reach sales by out-of-state retailers to
their residents.

***B12. The FairTax cannot morph into an income tax.*** The FairTax is
the sole reform plan that requires elimination of the federal income tax
and its infrastructure. In Canada and throughout Europe, VATs were
*added* to the existing income tax system, providing a "money machine"
in the words of economist William Gale of Brookings Institution. Both
systems have grown. The FairTax offers the only alternative that assures
no return of the income tax because its levy does not depend on the
16^th^ Amendment. The FairTax is the sole reform proposal that requires
(and can require) the repeal of the 16^th^ Amendment that authorizes the
income tax.

***B13. The FairTax makes the cost of government transparent.*** Today,
small changes to the Code shift tens of millions of dollars to
particular taxpayers in ways not as visible as direct appropriations,
but just as effective. With each special exemption, credit, deferral,
deduction or definition that results, marginal tax rates are increased
on everyone else. Complexity adds to the hidden nature of the taxes
today. The FairTax is the simplest possible system, and that reinstates
the principle that Americans have a right to understand the law to which
they are subjected. When taxes are simple and transparent, they more
readily reflect the cost of government to taxpayers, are less subject to
lobbying, and harder to raise. The same cannot be said for the flat tax
or for business transfer taxes (BTTs), which while also based on
consumption, perpetuate the myth that business entities do not pass the
taxes forward.

***B14. The FairTax enhances civil liberties more than the current tax
system.*** The FairTax eliminates the need for individuals to file tax
returns; it makes our tax system consistent with our historically
hallowed notions of civil liberty. It is hard to imagine a more
intrusive tax system for prying into our homes, our papers, our effects
and our lifestyles than the current system. Additionally, because of its
many temptations to a large number of filers, its perceived unfairness
and its complexity, the current system requires such intrusiveness as a
prerequisite to its enforceability. By its own unalterable nature, from
the cradle to the grave, the income tax eventually extracts, collates,
and chronicles almost every detail of our financial and personal lives
as a necessary condition of its enforceability.

***B15. The FairTax is supported by small enterprises.*** The FairTax
concept is the only plan specifically endorsed or in the policy of small
business groups, including the National Small Business Association, the
Small Business Association of Michigan, the Council on Smaller
Enterprises, the Associated Builders and Contractors, and the American
Farm Bureau Federation. These groups, who consist of retailers as well
as manufacturers and service providers, support the FairTax because it
eliminates tax on productive income, reduces compliance costs and
creates economic growth.

**C. Transition rules and special considerations**

The FairTax favors no industry or individual. Because the FairTax
provides horizontal and vertical equity, all market segments are treated
the same. While this is the ideal neutral state for economic growth, any
change, especially sweeping change to get there, involves transitional
issues.

FairTax.org is in the process of studying transition issues, virtually
ignored by other replacement plans. In our first round of academic
research, these questions were not directly addressed because it has
taken a few years for American public and business interests to move
from the question of "will the FairTax happen?" to "how we are going to
make the transition to it?" FairTax.org has just issued a request for
proposals from top economists nationwide for an independent and
comprehensive study of transition and other issues, and will share these
results with the Panel upon completion.

Transition issues that do exist under the FairTax are less pronounced
and more easily handled than under flat, business transfer or
value-added tax regimes. However, an analysis of which transition rules
are required must begin with a framework that lays out the goals of the
transition. There are several possible standards. For instance, is a
taxpayer's tax liability comparable to what it would have been under the
previous law? Is a taxpayer's after-tax rate-of-return comparable? Is an
individual's standard of living benefited?

FairTax.org approaches transition with a view towards fairness and
minimization of market disruption. To prevent the double taxation of
inventory held on the effective date, the FairTax provides a credit
equal to the FairTax rate when the inventory is sold at retail.[^7] With
respect to unused income tax credits and deductions (so-called "tax
assets"), the FairTax assumes at the outset that corporations or
investors are not worse off because they have been relieved from *all*
taxes and costs of the prior tax system. A flat or reformed income tax
may demand some form of transition relief, since firms and investors are
going to continue paying tax.

No transition relief is likely necessary for savings distributed from
pension plans, IRAs and other qualified plans because neither the
contributions nor the earnings on such plans would have been subjected
to income tax. Proceeds are subject to the FairTax (if spent at retail)
as they would have been subject to the income tax. With respect to
post-tax savings, interest on such savings is currently subject to
income tax; the FairTax ends that. Holders of income-earning assets that
are currently subject to income tax do not pay FairTax on those returns,
causing the market value of these assets to climb considerably to
reflect the repeal of the income tax. The FairTax requires that the cost
of living adjustment (COLA) for Social Security benefits be computed on
a tax-inclusive basis, fully insulating fixed-income retirees from
retail price fluctuations.

Finally, the FairTax legislation pushes forward the effective date in
order to allow time for the various sectors of the economy to adjust.
This also allows for retailers' point-of-purchase software upgrades in
states with existing sales tax authorities, adding retail service
businesses to states' tax rolls and the establishment of sales tax
authorities in states with none.

**Conclusion**

The American people overwhelmingly want change. But tax reform is a
meaningless objective unless a system is designed that benefits the
American people. The general principles articulated by the President --
simplicity, fairness and pro-growth -- are laudable objectives. Similar
objectives articulated by the Democratic leadership are equally
laudable. A close examination of the FairTax leads to the inevitable
conclusion that it is the one system that benefits all the American
people, the American economy and fully achieves these objectives.

[^1]: All taxes the FairTax replaces are measured on the "tax-inclusive"
    basis. Dale Jorgenson Ph.D. of Harvard University found it revenue
    neutral at a tax-inclusive rate of 22.9%; Laurence Kotlikoff, Boston
    University found it revenue neutral at a tax-inclusive rate of 24%;
    James Poterba of Massachusetts Institute of Technology found it
    revenue neutral at a tax-inclusive rate of 23.1%.

[^2]: Source: See Gary Robbins and Aldona Robbins, \"Eating Out Our
    Substance: How Taxation Affects Savings,\" Institute for Policy
    Innovation, Policy Report No. 131, September, 1995. Mr. Robbins is
    the former Chief of the Applied Econometrics Staff at the U.S.
    Treasury Department. This paper updates the work of Stanford
    University economist and former Council of Economic Advisors
    Chairman Michael J. Boskin, \"Taxation, Saving and the Rate of
    Interest,\" *Journal of Political Economy*, Vol. 86, No. 2, Part 2,
    April 1978, pp. S3--S28.

[^3]: Joint Committee on Taxation, *Correction of Error in Table 3 of
    JCS-1-05, Estimates of Federal Tax Expenditures for Fiscal Years
    2005-2009*, (JCX-13-05) \[March 17, 2005\],

[^4]: Source: Giving USA 1996, p. 56; Economic Report of the President,
    February 1996, p.284, 308. The Economics of Giving by Charles T.
    Clotfelter, Duke University, July 2002. Clotfelter finds charitable
    giving relatively constant as a function of GDP, 2. The FairTax
    eliminates tax costs. See also, August 21, 2002. Heritage
    Foundation, *How a Flat Tax Would Affect Charitable Contributions*,
    by John S. Barry, Backgrounder #1093.

[^5]: Peter Sailer, "Use of Individual Retirement Arrangements to Save
    for Retirement\--Results From a Returns and Information Documents
    for Tax Year 2001," Internal Revenue Service, SOI Division
    (*Presented at the 2004 American Statistical Association Meetings).*

[^6]: The difference between what taxpayers should pay and what they
    actually pay on a timely basis.

[^7]: There is a transition credit for goods in inventory upon
    implementation, which essentially expires with the first inventory
    turnover.