Time To Say Goodbye To Income Taxes? Examining The National Consumption Tax
House Republicans introduced the FairTax Act of 2023 in January, and if it passes, a national consumption tax would replace the current tax system.
Keep reading to find out how it would work and what you need to know.
What Is the National Consumption Tax?
“The national consumption tax is a proposed tax imposed on consumers at the federal level,” Dana Ronald, president of the Tax Crisis Institute, says. “It’s a tax on the goods and services people purchase or consume, as opposed to an income tax, which sometimes taxes earnings. In other words, it taxes what you spend rather than what you earn.”
If you were to purchase clothing, for example, you’d pay the consumption tax to the seller at the point of sale – similar to how sales tax works. The seller would then remit the tax payment to their state government, which would send it to the federal government.
What Does the FairTax Act of 2023 Propose?
Here are the main takeaways from the FairTax Act:
- 23% Tax Rate For 2025: The bill proposes a 23% national tax rate for the 2025 tax year on gross payments for taxable property and services.
- Exclusions: Purchases made for the purpose of business, investments, exports or state government functions would be exempt from the tax.
- Rate Adjustments After 2025: After 2025, the tax rate would be a combined federal general revenue rate of 14.91%, hospital insurance rate (Medicare tax replacement) and old-age, survivors and disability rate (Social Security tax replacement).
- Family Consumption Allowances: Qualifying families below the poverty line would be eligible to receive a sales tax rebate each month called the family consumption allowance.
- Monthly Tax Reports: Tax reports from those who collect and remit the tax would be due on or before the 15th day of each month for the previous month.
- IRS Dissolution: The IRS wouldn’t receive any funding after fiscal year 2027.
- Tax Law Changes: Current income, payroll, estate and gift taxes would no longer be due.
- Time Limit On Income Tax Repeal: The bill would give the government seven years after the enactment to repeal the 16th Amendment, which authorizes an income tax.
Why Change the Current Tax System?
Congress reports many drawbacks to the current tax system in the FairTax Act of 2023.
Federal income taxes, for example, have been found to slow economic growth, reduce Americans’ savings and investments, and impose unreasonable administrative and compliance costs on individuals and businesses.
Federal payroll taxes have been found to drive up the cost of employment, reduce jobs and increase unemployment. And federal estate and gift taxes are said to discourage capital formation, foster the dominance of large enterprises and force families to sell their businesses and farms.
Conversely, Congress and tax experts report that a national sales tax could help to resolve the above issues.
“The biggest pro of a national consumption tax is its potential to generate significant revenue for the government fairly and efficiently, while also promoting savings, investment and simplification of the tax code,” Olivier Wagner, certified public accountant and founder of the tax firm 1040 Abroad, says.
“The tax regime would also encourage worker productivity by eliminating income taxes,” Miles Brooks, director of tax strategy at CoinLedger, says.
Potential Drawbacks of the National Consumption Tax
Not everyone is a fan of the FairTax Act. President Biden says he would “flat veto” any bill of the sort that made it to his desk. He cites that it would cut taxes for the wealthiest Americans while raising taxes on the middle class by taxing thousands of everyday items.
“There are also some cons, such as increased costs for lower-income households who tend to spend more than they earn,” Ronald says, “and the potential for higher prices of goods and services due to the tax.”
There’s also concern about the tax rate being high enough.
“A national consumption tax would need to be higher than 30% to replace the conventional tax structures,” Brooks says.
Where Does the FairTax Act Of 2023 Stand?
The House of Representatives referred the FairTax Act of 2023 to the House Committee on Ways and Means the day it was introduced. No other action has been taken since then.
If the past is any indication of what to expect, the FairTax Act of 2021 was treated in the same manner, and no additional action has been taken in more than two years. If it will pass, it doesn’t look like it’s on the fast track.
Source: U.S. News & World Report