Tax and financial advice from the Silicon Valley expert.

Replace federal income tax with federal sales tax?

Representative Earl Carter of Georgia has (again) introduced legislation in the U.S. House of Representatives to repeal the federal income tax and other federal taxes and replace them with a federal sales tax, to be administered and collected by the states. (The IRS would also be eliminated under the proposal.) (Fair Tax Act of 2023, H.R. 25.)

Although the idea of tax simplification by replacing the income tax with a sales tax seems appealing, the “devil is in the details.”

I think most Americans would find they would be paying MORE FEDERAL TAXES under Rep. Carter’s proposal. It would result in a huge tax shift away from very high-income taxpayers to other taxpayers. Most of the income of very high-income taxpayers isn’t used for consumption. It’s reinvested, so it wouldn’t be subject to taxation .

The initial proposed federal tax rate on goods and services, except for used goods and “intangibles” (so buying stocks and bonds would be tax-exempt), would be 23%. When you add that to an average state and local sales tax rate of 7%, the total would be 30%. So, if you buy a new Chevrolet Camaro for $60,000, you would pay sales tax of $18,000. The federal tax portion would be $13,800. That might be more than the federal income tax many taxpayers currently pay.

I suggest most Americans would hate this level of taxation for purchases. A black market would probably develop to avoid paying the tax.

Groceries and medical services would be subject to federal sales tax. In California, these items aren’t subject to sales tax. In California and most other states, services aren’t currently subject to sales tax, either. Imagine paying 23% federal sales tax when you pick up your dry cleaning or have your car washed!

Delaware, Alaska, Montana, New Hampshire and Oregon currently don’t have state and local sales taxes, so they would have to create the infrastructure to collect the federal tax.

The sales and use taxes for the various states are different. The federal sales tax would add more confusion and won’t be as “simple” as it first appears to be.

The Fair Tax proposal includes a tax credit for families based on the federal poverty level of income times 23%. Administering that tax credit will require registering families to get the credit and issue monthly payments to families, which will be a headache for the state taxing agencies.

All of the tax planning involving retirement accounts, such as 401(k)s, IRAs and Roths would be flushed down the drain.

Tax incentives like energy credits would be eliminated.

With the narrow Republican majority in the House of Representatives and the Democrat majority in the Senate, it’s unlikely the Fair Tax will be enacted any time soon. President Biden says he opposes the proposal.

Do you support or oppose this proposal? Write your representatives in Congress with your opinion.

Tax and financial advice from the Silicon Valley expert.