“Fair Tax” Plan Would Abolish the IRS and Shift Federal Taxes from the Wealthy to the Rest of Us

A recent press report indicates that to win over enough support from his own party to become Speaker of the House of Representatives, Kevin McCarthy agreed to hold a vote during this Congress on the “Fair Tax,” a plan devised years ago by the Church of Scientology to abolish the IRS and the entire federal tax system and replace it with a national sales tax that would be administered by the states. The bill would impose a 30 percent federal sales tax on everything we buy – groceries, cars, homes, health care – and lead to a giant tax shift from the well-off to everyone else.

Here’s what you need to know about the Fair Tax.

Origins of the Fair Tax

Bruce Bartlett, a tax expert who worked in Ronald Reagan’s White House and worked for other Republicans, explained years ago how the proposal marketed today as the “Fair Tax” was initially pitched by an organization created by the Church of Scientology during its dispute with the IRS over whether it constituted a church and was thus tax-exempt. (The tax exemption for churches created by Congress puts the IRS, an agency focused on revenue collection, in the unenviable position of determining what is a church and what is, well, a cult.)

The Church of Scientology’s only goal in the matter was to eliminate the agency causing it trouble, and lost interest once the IRS threw in the towel and allowed it to present itself as a church.

But by then several politicians had bought into the idea and introduced it as legislation, which has been reintroduced in each Congress since as the Fair Tax.

The Strange Strategy of Federal Revenue Collection by States

The idea behind the proposal seems to be that it would facilitate abolition of the IRS because states already collect sales taxes and would be suited to collect additional sales tax for the federal government and remit the money to the U.S. Treasury.

But this strategy has problems. Five states do not impose a sales tax and every state exempts a range of purchases that would apparently be subject to the national sales tax. The bill allows the Treasury to administer the national sales tax in states that do not agree to administer it. This would suggest some sort of federal apparatus for tax collection is required, which, if you think too hard about it, sounds like it would involve something like the IRS.

Perhaps a bigger problem is that states would have little incentive to take over collecting nearly all revenue for the federal government. The bill provides states with a small fee equal to one quarter of one percent of the revenue they remit to the federal government, which does not sound particularly enticing.

The bill also allows states to impose a sales tax that conforms with the federal one, but states may refuse to impose additional sales taxes after they learn how much their residents will be forced to pay in federal sales tax.

Described as a 23 Percent Sales Tax, Really 30 Percent, Really Even Higher than That

Under the bill, if you buy something that costs $100 before tax, you pay $30 of national sales tax. Most of us would call that a 30 percent sales tax. Proponents, however, call it a 23 percent tax, because that $30 is 23 percent of your “gross payment” of $130, your payment including the sales tax. Proponents claim this method of calculation is more comparable to how we think about the income tax but its main result is widespread confusion.

If enacted, the tax would almost surely be amended to have an even higher rate. Back in 2004 William Gale at the Tax Policy Center estimated that simply replacing the taxes eliminated under the plan would require that the national sales tax have a rate of 60 percent.

The “Fair Tax” Would Cut Taxes for the Well-Off and Raise Them for Everyone Else

While the Fair Tax does provide families with rebates that could equal several thousand dollars a year, this is not nearly enough to offset the financial hit most Americans would face from the new national sales tax.

Back in 2004, ITEP estimated that if the Fair Tax was enacted and the national sales tax rate was set at 45 percent, the poorest 80 percent of Americans would face net tax hikes from the proposal while most of those among the richest 20 percent would enjoy net tax cuts. ITEP plans to re-estimate the proposal because a great deal has changed since 2004.

For example, eliminating the personal income tax would mean elimination of the Child Tax Credit, which is a greater blow now that the Trump tax law has doubled that credit. It would also mean that families receiving tax credits to help pay health insurance premiums under the Affordable Care Act would lose those tax credits and instead pay a new national sales tax on their premiums. The costs of the so-called Fair Tax could be even greater now for typical Americans than when ITEP warned the public about this plan years ago.

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