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I have heard of the 'Fair Tax' as a proposed system of federal taxation in the US.

I am not 100% sure what it is, other than a Sales tax.

What are the challenges presented with said system?

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The fair tax is a proposal to replace the US income tax with a sales tax.

Pros of Fair Tax:

  • Allows less manipulation of tax code for political reasons (For good or bad, why is mortgage interest tax deductible?)
  • It's voluntary. Buy something, pay tax. Don't buy something, don't pay tax.
  • Bigger paychecks (but less spending power per dollar because of higher sales taxes).
  • Role of IRS would be much smaller - in theory, tax is easier to calculate.

It's a large change to the way the United States currently does things. The "Fair Tax Act of 2011" is H.R.25 in the US House and S.13 in the Senate. The full text of the bill is available at the links provided.

There are some fairly large consequences of implementing a fair tax. For example, 401ks and Roth IRAs serve no benefit over non-retirement investments. Mortgages would no longer have a tax advantage. Luxury items would get far more expensive.

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    A lot of people get freaked out by the sales tax rates (upwards of 25% in some models), but don't consider that they are already paying that money (and probably more) under the current system. It's just that the current system (intentionally) is very good at hiding exactly how much you are paying in taxes with clever tactics like "Corporate" income taxes and paycheck withholding. That is, if your paycheck is 20-30% more, then 20-30% higher prices on things make it a wash.
    – JohnFx ♦
    Sep 28, 2010 at 18:22
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    The best thing about the Fair-Tax proposal is that it is completely transparent. You don't tax companies that pass it along in higher prices, you don't have people with good lawyers taking advantage of loopholes, or political favors for politician's pet interest groups.
    – JohnFx ♦
    Sep 28, 2010 at 18:27
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    It's well beyond the concept point. They've already proposed a bill to Congress, you can find the text at [thomas.loc.gov/cgi-bin/query/z?c111:H.R.25:]. You can find a lot more information on their site at fairtax.org.
    – deterb
    Sep 29, 2010 at 0:51
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    Never gonna happen. What they never mention is that a tax on every transaction will reduce transactions. Compare eating habits at an all-you-can-eat buffet to a sit down restaurant.
    – duffbeer703
    Sep 29, 2010 at 2:39
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    You certainly didn't post many cons. So here is one: Bob Poor makes $20,000/year. He spends $18,000/year on housing and other essentials, and saves the rest. John Rich makes $200,000/year. He spends $100,000/year on housing, etc., and saves the rest. In a "Fair Tax", Bob Poor is taxed on 90% of his income, whereas John Rich is taxed on 50% of his income. Does the Fair Tax strike you as fair when viewed in this way? Even with rebate proposals I've seen, the so-called "Fair Tax" is regressive; by income, it lays a heavier tax burden on the poor than on the rich.
    – Kyralessa
    May 25, 2011 at 3:51
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You asked about the challenges. The transition itself is the biggest one. For people to get used to the tax at the register vs at their paycheck. For a great number of people to find new work. I don't know the numbers, but anyone involved with personal income taxes would be out of work. Sales tax is already part of the process in most states, bumping it to a federal tax wont add too much in overhead. I make no moral judgment, but consider, most prostitutes and drug dealers are avoiding income tax, but they still are buying the same goods in stores you and I are. This proposed tax reduces the collection noncompliance, and brings more people into "the system". Another factor some may not like is the ability to affect behavior by picking and choosing what to promote, via deductions, such as home buying or charity.

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  • The transition is problematic not for the people, but for the state. All of a sudden there's no income to the state, prices jump up (so there'll be at least some period where people will hold their spendings), and in a day the government will go bankrupt because of cash flow issues (or will start raising money abroad like crazy, the national debt now will look like a kids play then).
    – littleadv
    May 25, 2011 at 20:25
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In a nutshell - Value Added Tax. America, as usual, discovers what others have known and used for years.

The idea of not taxing income that's tied to it is ridiculous. If you're only taxing spending but not income, people will just take spending elsewhere (Canada, Mexico, further away), and the economy will go down the drain.

That's similar to the way people avoid paying sales tax now, except that it will be in orders of magnitude. Why should a corporation by office supplies in the US, if it has a branch in China?

Edit Also, Fair Tax doesn't take into account moving money overseas. I've mentioned living elsewhere down below, and that also got me thinking of how I personally would certainly gain from that ridiculous thing called "Fair Tax". Basically, that's exactly how the "rich folks", those who push for it, will gain from it. Being able to move money out of the US basically makes it a perfect tax shelter. You don't pay taxes on the income (that you have in the US), and you don't pay taxes on the spendings (that you have elsewhere, because in that country income is taxable so you only pay VAT or sales taxes). This means that all the wealthy people, while investing and gaining money from the American economy (stocks, property, etc), will actually not be spending it in the US. Thus, no taxes paid to the US, dollars flowing out. Perfect. Actually, I should be all for this stupid idea. Very fair to me, no need to pay any taxes at all, because food will probably be exempt anyway.

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    Because you pay an import duty on imports, that's equal to VAT.
    – ChrisW
    May 25, 2011 at 12:21
  • @Chris, When you buy a $3000 laptop abroad and bring it in your backpack - what way there's for the customs officer to charge you duty? Unless a very cumbersome, strict and expensive inspections of everyone going in and out are in place - there's no way. And these inspections will lead to even bigger and more annoying government than what we have now with IRS. It will defeat the whole point of those who want that ridiculous fair tax (except for the rich, which will continue finding ways not to pay it anyway).
    – littleadv
    May 25, 2011 at 17:21
  • I'm sure that some spending may move elsewhere but it would be a trivial amount and would risk tax evasion charges. The only people it would make sense for would be people that live on the border with Canada or Mexico.
    – stoj
    May 26, 2011 at 18:14
  • @stoj - maybe. maybe not. I know hell of a lot people who buy stuff in the US to avoid higher taxes (VAT and customs) in their home countries. Hell, I know a person who imported a car from the US, and saved on customs. Having lived elsewhere in my life, I can assure you that Americans as a nation are arrogant, and that's not a secret. The "Fair Tax" proposal is a perfect demonstration of that arrogance. People who propose it are certain that the common folks, the voters, are dumb enough to believe it. Not surprisingly, there are enough voters who are, indeed, dumb enough.
    – littleadv
    May 26, 2011 at 19:31
  • I'm actually not in favor of the fair tax for a number of unrelated reasons, but I imagine it would be enforced similar to the way many states enforce use taxes. They ignore small offenders and zealously prosecute large offenders. There already are significant customs rules and they probably have to get tighter but if you wanted to use an item in the US you would have to pay the tax.
    – stoj
    May 26, 2011 at 21:47
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Its a new way of computing sales tax. Wikipedia has a nice article on this http://en.wikipedia.org/wiki/FairTax

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