Friday, December 9, 2011

Consumption Tax: Pros and Cons

A recent three-part article by Robert Frank detailed his views on the income gap, why it's widening, and what we can do to stop it. To read the whole article, start with Part 1 and Part 2. Part the third deals almost exclusively with Frank's #1 solution to the problem of wealth inequality: a consumption tax.

Consumption tax is a tax on any money spent on goods or services. The basic formula is to take your yearly income and subtract your saving and investments. Anything left over, whatever you spent on consumables, is what is taxed. The consumption tax is inherently progressive because those who spend more pay more, and those who spend more tend to be the ones that have more to spend (i.e. the rich). It's an idea that has a kind of cult following, and there are many who believe it would be the best way to correct some of the major problems facing our current economic system. But like any system, it has some serious shortcomings that need to be addressed.

Pros: First of all, consumption tax would be completely progressive. Those who spend more, such as on nice cars, expanding their houses, purchasing expensive food or clothes, and so on would pay much higher taxes. The idea is that a consumption tax would prompt more fiscal restraint, more re-investment of funds (which is non-taxable), and therefore stimulate the economy. Secondly, a consumption tax would encourage more saving and investment. It would be in people's best interest to hoard their money in savings accounts and IRA's, keeping it out of the government's hands. Third, a consumption tax would get everyone on the rolls, since everyone consumes something throughout the year. No more nonsense about the poor not paying their fair share, right conservatives?

Cons: Well, the problem is that, while in absolute dollars the consumption tax hits the wealthy more, in relative terms it will swallow every cent of the poor's money. Why? Because the poorest Americans save nothing on average, being forced to spend every cent they make to survive. It's this fact that keeps them from having to pay taxes, and this fact that would make a consumption tax on them equal to 100% of their income. Secondly, a pure consumption tax makes no allowances for things like medical expenses and other emergent expenditures. For example, a person may spend more than a year's salary fighting cancer, relying on saving. The costs for things such as medical procedures would double. While insurance may be able to absorb some of that, it's a good bet that premiums would double as a result, in order to make up for the tax. Third, the consumption tax would increase the cost of everything, since you are taxed at a percentage of the value of the good or service you are buying. While sales tax does this, it is assumed that a consumption tax woudl do it to a greater extent.

Conclusion: There are some very serious concerns with instating a consumption tax, but I feel that many of thsoe could be overcome with exemptions. For example, the first, say, $25K of any person's consumption could be exempt from the consumption tax. This would make sure that those who are in poverty still don't have to pay tax to the government that could make a major impact. Also, there could be exemptions for things like insurance co-payments for emergency procedures and prescriptions. That way, the consumption tax would primarily be targeting luxury items and essentials, which is the whole point of the consumption tax. While I don't think that a consumption tax is a good idea when you have high unemployment, putting it in place when unemployment drops may help to balance out the income inequality somewhat, as long as it is implemented correctly.


Layan said...


Anonymous said...

I work hard so that I am not poor. There are so many people rich and poor who don't pay tax on cash sales, tips. There are many businesses who almost always show losses. The rich use tax loops to avoid paying taxes.