Let me start by saying I oppose the VAT. It is a horrible drain on the economy and it hits hardest those goods requiring the most processing. In a high tech or manufacturing oriented business, that means taxes will hit hardest those items most likely to move the economy forward. I know that the FairTax strives to separate itself from the VAT, and to that end it created the retail/wholesale distinction and the new/used distinction. However, in so doing it created a serious weakness.

Whatever I can say against the VAT, the one thing I cannot say is that it is complicated. It may apply taxes in a silly way. For example if a subsidiary is independent, transferring unfinished goods to that subsidiary adds taxes, while doing the same with an internal division does not, but at least it is simple. And that is where it is better than the FairTax.

Obviously, I cannot go into every possible confusion caused by the two distinctions in the FairTax, so let me just give a  few examples.

First, let us start with an example I used before, in a slightly different form. Say I buy a sofa retail, then after a few years I reupholster and sell it. I can sell it as used and charge no tax. However, what if I run a furniture refinishing business. Let us say I am clever and decide to buy the damaged furniture "retail". It drives up my costs, but I can then sell the refinished furniture as "used" and undercut my competition by 23%/30%, more than making up for the increased cost of supplies. And if I am not allowed to do that, then why can a homeowner refinish furniture he bought retail and then sell as used? How are the two distinguished? And who would decide, as the FairTax advocates say they will eliminate any central tax authority like the IRS?

But it gets worse. If that furniture restorer can do that, then why not a cabinet maker? Buy all the hardware "retail", make cabinets and then sell them as combinations of "used" goods. Again, a normal citizen could do it, buying the hardware retail to make his own furniture, then, years later selling the furniture used, so why not a company? And if they can, then what is to stop a developer from buying land and materials retail, building the house and selling it is a combination of already taxed used goods?

Second, having touched on property, let me ask a few more questions. I have already asked about the discouraging effect the new/used distinction will have on housing starts, and the way retail/wholesale will encourage investment buyers over homeownership, so I will skip those. My question is this, suppose I buy a house to rent it out, and so pay not taxes. Suppose after a year, I have never found a renter and so I move in myself. Do I have to pay 23%/30% to the state? And if I do, who would even know that I owed that tax, as there is not auditing agency? And, if I don't owe the tax, then why woudl every homeowner not claim he was buying a rental property to save 23%/30% on a house?

Finally, there are huge questions in my mind about services. For example, if I develop software for a corporation, is that retail or wholesale? As the business is presumably using my software to make money, it could be argued it is wholesale, but as the software itself won't be made into anything, it could be retail as well. Also, if I design add-ons for existing software, is that used software, as the existing software was already taxed? What if I use components designed by someone else is that sued software? It appears the services model does not work well with the new/used and retail/wholesale distinction. Again, it appears we would need an agency to arbitrate this. If we rely on the states we are likely to have 50 sets of rules for a single national law.

As these examples show, whatever else I can say about the VAT, and I have plenty of complaints, it would still  be a dream compared to the FairTax in terms of ease of administration. The artificial distinctions the FairTax tries to implement sound simple, but in practice they are anything but simple.

NOTE

Yes, the summary is still coming. I simply was struck by a few additional problems with the new/used and retail/wholesale distinctions and had to list them. The promised post is still coming.

ADDENDUM

My first example only works by combining the new/used and retail/wholesale distinctions, which is why this is not a problem for state sales taxes. They would tax new or used goods, so there is no benefit to buying supplies retail. But under the FairTax, if I buy retail it starts the clock and makes my final goods "used" and thus untaxable, where the ability to underprice competitors more than makes up for the 23%/30% increase in price of supplies.