If you have an interest in a foreign bank account you may be subject to reporting requirements.  There are two pieces of legislation that relate to these accounts.  The Bank Secrecy Act requires that certain financial accounts based in foreign countries be reported to the Department of Treasury.  This act has been in place for a number of years and is commonly known as FBAR (Report of Foreign Bank and Financial Accounts).   The Foreign Account Tax Compliance Act (FATCA) was enacted in 2010 with the intent of identifying American account holders in foreign bank and requiring payment of taxes on income from these investments. 

Foreign Bank Account Reporting 

If you have a financial interest or signature authority over a foreign financial account you may be required to file Form TD F 90-22.1 with the Department of Treasury.  Note that this is not an income tax form and is not filed with the 1040.  The due date for the return is June 30 of the year following the calendar year being reported.  This is known as the Report of Foreign Bank and Financial Accounts and does not require the payment of taxes.

Financial Accounts

               A foreign financial account includes any savings or checking deposit in an account maintained with a foreign financial institution.  This includes savings and checking accounts in addition to any account in which the account has an equity interest in the fund, such as a mutual fund.  It does not include ownership of individual bonds, notes, or stock certificates held by the owner.  A foreign country is defined for this purpose as all geographical areas outside the United States, the commonwealth of Puerto Rico, the commonwealth of the Northern Mariana Islands, and the territories and possessions of the United States.

Who Must File

                There are two basic requirements for filing if you have a foreign financial account.  First, this applies to “United States persons.”  A United States person includes a citizen or resident of the United States, a domestic partnership, a domestic corporation, and a domestic estate or trust.  If you are a United States person, you must also have “signature or other authority over an account.”  This means the authority to control the disposition of money by signing a check or similar document.    Authority also exists if the person can exercise that power through direct communication with the financial institution.

               The second requirement is that the account must be reported if the aggregate value of foreign financial accounts in which there is a financial interest exceeds $10,000 at any time during the calendar year.  This requirement has a couple of provisions that can be easily overlooked.  First, the accounts are reportable if the value exceeds $10,000 at any time during the year.  Not the average balance for the year. For example, if $12,000 were deposited into an account one morning, then withdrawn the following day, a reporting requirement would be triggered, as the value of the account exceed $10,000.  Secondly, the reporting requirement is for the aggregate value of all foreign financial accounts.  Thus if there were two accounts, and the value of those combined accounts exceeded $10,000 at any time, the reporting requirement is triggered.

Reporting Issues and Penalties

                As mentioned, the FBAR is not an IRS form and is sent to the Department of Treasury.  The report is due June 30 and cannot be extended.  Form TD F 90-22.1 is available at www.irs.gov as well as the Department of Treasury Financial Crimes Enforcement Network website  (www.fincen.gov).

               All foreign accounts should be reported to the IRS.  On the 1040, Schedule B, Part III, lines 7a and b are required if you had over $1,500 of taxable interest or ordinary dividends or had a foreign account.  In addition if you received a distribution from a foreign trust or were a transferor or grantor of such a trust you must complete lines 7 a and b.  Schedule B of the 1041, 1065, and 1120 have similar requirements.  If required to check “yes” on these boxes, a failure to do so is interpreted as a willful failure to file if a TD F 90-22.1 is required.  In these cases, the reporting is limited to the existence of the accounts.  These accounts must be reported in detail on the TD F 90-22.1 if you are required to file the form.   

               Although there is no tax associated with TD F 90-22.1, there are significant penalties for not filing the return.  These penalties can be civil or criminal.  A willful failure to file may carry a criminal penalty of up to $250,000 and/or up to five years in prison.  Each missing FBAR is a separate crime.  A civil willful failure to file carries a penalty of up to $100,000 or 50% of the highest balance in each unreported account for the year.  If it can be demonstrated that the failure to file was not willful, the penalty would be much lower, frequently $10,000. 

               There are three important  points about the penalties. 

1. Penalties are assessed per account, not per return.
2. Penalties apply for each year of each violation.
3. Penalties can apply to each person with a financial or signature authority over the account.

It is readily apparent that the penalties can escalate quickly and can substantially exceed the balance in the foreign accounts.

Foreign Account Tax Compliance Act

                The Foreign Account Tax Compliance Act (FATCA) was enacted in order to combat U. S. tax evasion by taxpayers holding investments in foreign accounts.  This is somewhat controversial, as it raises privacy issues, especially for those having dual citizenship.  It has been referred to as the “Global Tax Evasion Law.”  A number of European banks and financial institutions have been closing brokerage accounts for all U. S. customers due to perceived “onerous” U. S. regulations.  There are three components to the Act.  The original effective date was January 1, 2014, but the IRS has delayed implementation.  Institutions now have until January 1, 2017, to begin withholding U. S. tax from clients’ investment gains.  However, procedures to meet FATCA reporting requirements must be in place by January 1, 2014.  One problem is that the IRS has not issued final FATCA laws, so the industry does not know what specific requirements it faces.

               The first section requires foreign financial institutions (FFI) to undertake certain identification and due diligence procedures in an effort to discover any U. S. account holders.   U. S. account holders are defined as U. S. persons or foreign entities with substantial U. S. ownership.  For any accounts that have been so identified, the FFI is to report annually to the IRS the balances, receipts, and withdrawals from these accounts.  The IRS is empowered to require participating FFI’s to withhold and pay to the IRS 30 percent of any payments of U. S. source income made to non-participating FFI’s, individual accountholders who have not provided sufficient information to determine if they are a U. S. person, and foreign entity account holders failing to provide sufficient information about the identity of its substantial U. S. owners.

               This section of FATCA is by far the most controversial, with significant push-back from banking and government officials who are balking at requiring them to become “extensions of the IRS” and assuming a significant financial burden in attempting to comply.  Seven countries have entered into model agreements to cooperate with the U. S. on FATCA.  Discussions with other countries are under way.  Some countries, such as China, have flatly refused stating that “China’s banking and tax laws and regulations do not allow Chinese financial institutions to comply.”  In other countries, legal action has been initiated to stop FFIs from compliance.

               The second section focuses on the account holders themselves.  It requires disclosure of foreign assets by filing Form 8938 with the annual 1040.  Threshold amounts for filing the form depend on filing status and residency. 

               The determination of living or not living in the United States is made by applying the bona fide residence or physical presence test applicable to the foreign earned income exclusion.

               The third section of FATCA closes a tax loophole that investors had used to avoid paying taxes on dividends by converting them into non-taxable dividend equivalents.

 Concerns

                There is concern that the United States has gone too far with the provision of this act, to the extent that some push back is anticipated from foreign governments.  According to the Treasury Department, they are currently in negotiation with at least 40 countries for FATCA agreements.  Thus far, only the United Kingdom and Switzerland have finalized a FATCA pact, but France, Germany, Italy, Spain, and Japan have pending agreements.

               It seems, though, that many institutions are waiting for the final rules before taking radical actions.  Once the IRS comes out with those rules, the foreign financial institution landscape will begin to clear.  Or at least, we can hope.

The later you wait, the larger your benefits will be.  You can retire at age 62 and your benefits will be reduced by 25% over what you would receive at full retirement.  After full retirement age the benefits increase 8% for each year you defer receiving benefits, up to age 70.  Obviously, when to retire is partly a guessing game based on how long you anticipate living.

However, there may be an alternative that allows you to draw some benefits and still increase your eventual monthly benefit.  If you have reached full retirement age and your spouse is drawing Social Security, you may be eligible for spousal benefits.  Your spouse does not have to be full retirement age, just drawing benefits.  This can be from beginning prior to full retirement age or due to receiving disability benefits.  The amount of the spousal benefit will be one-half of the amount being drawn by the spouse.  So, if your spouse is receiving $1,500 a month in Social Security, your spousal benefit will be $750.  If you are divorced or your spouse (or ex-spouse) is deceased you may be able to draw spousal benefits based on their record.

Drawing spousal benefits does not affect the benefits based on your own record.  In fact, if you draw spousal benefits and continue to work or simply defer drawing on your own account, the benefits you receive on that account will continue to increase until you begin drawing on your own account or age 70.

Applying for spousal benefits is simple.  Just go to www.ssa.gov and start the application process to receive benefits.  You will be asked if you wish to draw spousal benefits.  Simply indicate that you choose spousal benefits and continue with the application.  The application will then be processed and will indicate that you wish to receive spousal benefits until age 70.  At that time, it will automatically switch to your benefit, assuming the amount is higher.  If you wish to start drawing on your own account prior to age 70, simply contact the Social Security Administration when you wish to begin your own benefits.

You’ve paid into Social Security all you working life, here is a chance to get a little extra back from it.

But let’s back up a minute and look at the rules regarding non-cash charitable contributions. If the total of your non-cash charitable contributions is less than $500, IRS rules allow you to enter that amount on line 17 of Schedule A and not provide any additional details with your return.

If your contributions are $500 or more, life gets a little more complicated and you have to complete Form 8283. This form asks for the name and address of the donee organization, a description of the donated property, the date of the contribution, when and how the property was acquired, its cost, its adjusted basis, fair market value, and how you determined FMV. Traditionally, the description of the donated property was something like “2 bags of women’s clothing,” “miscellaneous household items.” You get the picture – a vague, largely unsubstantiated deduction.

If the contribution is $5,000 or more, you must obtain a qualified appraisal and attach the appraisal to the return. You can deduct the cost of the appraisal as a miscellaneous itemized deduction.

In February, 2012, the U. S Tax Court disallowed donations made by a particular couple. The court ruled that the receipt they obtained from the charity did not contain an adequate disclosure of the property allegedly contributed. Additionally the receipt did not identify the quantity of the items donated, the age, quality, or condition of the items.

When making non-cash charitable contributions donors must have complete and proper acknowledgement of the donation including a description of the items and their condition. The donated property must be in “good used condition” or better. It is the responsibility of the taxpayer fulfill these obligations. In addition, the taxpayer must place a value on the property.

We recommend that taxpayers take two steps in order to assure that their contributions will be deductible.

First, make an itemized list of everything you donate, with an indication of its condition. Attach it to the receipt provided by the donee organization and it would be well if they would initial the list.

Second, you need to place a value on the donated property. This does not need to be done at the time of the donation and the donee organization does not need to see the value you place on the contribution.
Even if the total is less than $500 you should still keep a record that include this information in the event of an IRS audit or inquiry.

There are several ways that you can go about determining a value for the donated property. Checking local garage sales, thrift stores, or eBay selling prices of similar items can be valid approach. The trouble with this is that it takes time to do this, likely more time than it is worth.

A second approach is to utilize software that will place a value on the contributed property for you. In addition, this software will maintain a listing of the property donated, the condition, and the other required information. There are currently two programs that can be utilized for this purpose. It’s Deductible is published by Turbo Tax (It’s Deductible and Deduction Pro is published by H&R Block’s TaxCut (Deduction Pro). The best news is that these programs are free online. If you use Turbo Tax or TaxCut, the program will populate your return with the information you generate. If not, you can print out the results and enter them into your own software package, or give the print out to your tax preparer.

Don’t let the threat of an IRS audit hinder you from making charitable contributions – just be sure to maintain an adequate record of your donations.

Basically the credit can be as much as 35 percent for eligible small employers and 25 percent for eligible tax-exempt organizations.  Tax-exempt organizations may receive the credit as a cash payment or may be applied to payroll taxes.  For a qualified small business or tax-exempt organization, this is something that should be investigated, and applied for.

The full credit is available for employers with ten or fewer full time employees and average annual wages of under $25,000.   A partial credit is available if the organization has fewer than 25 full-time equivalent employees and an average wage of under $50,000.

Employees who perform services for the employer during the taxable year are generally taken into account.  However, relatives and seasonal workers (less than 120 days) are excluded.  In addition, if you are not an employee your wages, hours, and premiums do not count in the tally.

Hours of service during the year must be determined to get the full-time equivalent number.  This may be done though counting actual hours, day-worked equivalency, or weeks-worked equivalency.  2,080 hours of service equals one full-time worker.

Wages are the total social security wages reported for each employee.  For a church whose pastor has opted out of social security, this can help boost the credit significantly, as the minister’s SS wages would be zero and is included in the calculation of average wages.

The credit is for a percentage of the health insurance premiums paid by the employer, premiums paid by the employee do not count, nor do premiums paid under a wage-reduction plan count.

The credit is calculated on Form 8941.  A tax-exempt organization that does not normally file a 990 would file a 990-T along with the 8941.  The credit is available through 2013.  Beginning in 2014, the credit amounts increase to 50% and 35% for businesses and tax-exempts, respectively. Additionally, beginning in 2014 the credit is available only if the insurance is purchased through an exchange.

If you would like more details on the credit, or if I can help you file for the credit, please feel free to contact me at jstancil@johnstancilcpa.com

The tax ramifications for employees with employer-provided cell phones has been an issue of considerable debate over the past few years.  The problem arose from the fact that cell phones were considered by the IRS as “listed property” meaning that substantiation of business use of the cell phone required highly-detailed records similar to what is required for automobiles.  The main problem with this was that virtually no one kept such records.  The Small Business Jobs Act of 2010 removed cell phones from the listed property category.  However, the Act did not address the taxability of the value of personal use of a cell phone by an employee or reimbursement of cell phone costs by an employer.

In September, 2011 the IRS addresses this issue.  Under the new guidance the IRS will treat the value of an employer-provided cell phone as excludable from an employee’s income, assuming that it is provided to the employee for noncompensatory business reasons. This means that the cell phone is provided as an essential part of his or her employment – reaching clients when away from the office or work related emergencies during off hours, for example.  A similar approach is provided for reimbursement of work-related costs of a personally owned cell phone.   It should be noted that the reimbursement cannot be a substitute for a portion of the employee’s regular pay.

It is recommended that organizations document for each employee the noncompensatory reasons for providing cell phones or reimbursing their costs.  This would include obtaining copies of the cell phone invoices and employee verification that the reimbursement is reasonable and necessary for the employee’s business needs.  Although not a direct tax issue, employers should have a written cell phone policy that is adhered to, in order to minimize or avoid liability issues arising from the employees’ cell phone usage.

In a related issue, the IRS has informally indicated that iPads and other tablet computers will be treated like cell phones for tax purposes.  When cell phones were removed as listed property, the law kept computers in that category.  Tablet computers produced somewhat of a dilemma as they have characteristics of both computers and cell phones.  Apparently, the IRS considers them more like cell phones than computers.  Hopefully, this is a step to removing computers from the listed property category since it is difficult to value the amount of personal use of these devices.

Individuals

The cornerstone of tax planning is to (legally) accelerate deductions and defer income.  If you have stocks that are in a loss position, you might consider selling them before year-end, especially if you already have capital gains in the current year.  If you have some stocks that are showing gains do not sell them before December 31, and postpone the tax until a future year.  However, do not sell the stocks just to get a tax deduction.  I often counsel clients who have an unrealized loss on a stock to evaluate the stock in terms of its current cost.  “You thought this stock was a good buy at $50 a share.  It is now selling for $30.  Is it a good buy at $30?  If so, don’t sell it now.”

One of the easiest things to control in this area is the acceleration of deductions.  As an individual, bunch your itemized deductions if you are close to the standard deduction amount each year. That way you can itemize deductions in one year, and take the standard deduction next year.  Pay any outstanding medical bills before the end of the year if you are above the 7.5% AGI floor for these deductions.  If you place the amount on a credit card, it is deductible in the year in which it is posted to your account.

Accelerate any charitable contributions.  If the check is dated and postmarked prior to December 31, it is deductible in 2011.  A very attractive deduction is the contribution of appreciated capital gain property to a charitable organization.  In these situations you get a charitable contribution deduction for the fair market value of the donation, but you do not pay tax on the gain over your cost basis.  For example, you own some stock that cost you $10 a share.  It is now selling for $25 a share.  If you donate the stock to a qualified charitable organization, you get a deduction for $25 a share and pay no tax on the gain over your $10 cost.

If you normally take the sales tax deduction rather than deducting state income tax, you should be aware that this provision is slated to expire at the end of 2011.  It might be a good tax strategy to purchase a vehicle prior to the end of the year to take advantage of this deduction while it is still available.  This is also available for boats, motor homes and other major purchases on which you pay sales tax.

Businesses

For small businesses, you there are a couple of depreciation provisions that change as of December 31.  First, the amount of expenditures that qualify for the Sec 179 deduction is dropping significantly as of the end of the year.  Sec 179 allows small businesses to take a current deduction for the purchase of certain depreciable tangible personal property.  The expense limit for this deduction in 2011 is $500,000, but it drops to $139,000 at the beginning of 2012.

Secondly, the current 100% bonus depreciation provision expires at the end of this year.  This provision allows you to take depreciation of up to 100% of the cost of depreciable personal property placed into service in 2011.  In making purchases of depreciable assets in 2011 rather than 2012, you can expense more assets under Sec 179 or the bonus depreciation allowance.

If you own an interest in a partnership or S corporation and anticipate a loss for 2011, you should examine your basis to see if it is sufficient for you to fully deduct the loss.  If it is insufficient, take steps to increase your basis.

Self-employed individuals should consider setting up a retirement plan in order to reduce taxes and to help insure that you have provided adequately for your retirement.

Businesses can stock up on supplies in order to get a deduction for 2011 and reduce the tax bite this year.  In addition, examine your inventory and see if any of it is damaged or obsolete.  If so, take a write off for its cost.

Make sure your accounting records are up to date so that you know what your tax situation is, going into the last days of 2011.  You can’t make the right decisions without correct and current information.

Finally

For businesses and individuals, perform an overall financial checkup.  Assess your financial condition and your plans for the coming year.  Think about cash flow, retirement, health care, investment and estate planning.  Review your wills, health care proxies, and powers of attorney for any changes that need to be made.  It is never too early or too late to plan for the future.

I have only been able to hit the highlights of the laws in this short article.  If you wish more detail about any of these issues, feel free to contact me.  Or if you wish to discuss your tax situation as the year is ending, I will be glad to help evaluate your situation.

There are actually two different programs for whistleblowers.  The large awards program is for cases involving more than $2 million in taxes.  The reward can be up to 30% of the taxes, penalties and interest.  The actual amount of the award is at the discretion of the IRS.  This law has been on the books since 2006, and the IRS just announced its first award under this program.  The amount of the award is $4.5 million paid to a former in-house accountant for a large financial services firm.  Since this law was enacted the IRS has had 1,328 qualified submissions involving almost 10,000 taxpayers.

The small awards program is for cases involving less than $2 million in taxes, and is up to 15% of the penalties and taxes but not interest.  This program has been in existence as a part of the False Claim Act of 1863.  The IRS accepted 7,600 new claims in fiscal year 2010, the highest total since 2006.  Obviously, far more claims in both categories are submitted, but only a few are qualified under IRS guidelines.

In order to report a claim, you must complete Form 211, Application for Award for Original Information.  The IRS wants a timely, well-developed claim.  Merely reporting that Joe Smith must be cheating on his taxes because he buys an expensive new car or operates a cash business will not be sufficient.  The form asks for facts, including supporting information; how you learned about the claim, and the amount the taxpayer is owed.  No matter how strong a case you think you may have, don’t spend the money yet.  Attorneys who handles such cases agree there is no such thing as a slam dunk case.

Additionally, the IRS typically avoids two types of cases – those involving churches or non-profit organizations because of the IRS reluctance to pursue them; and those involving money laundering or organized crime, for fear of physical harm.

A very big caution is that there is no legal protection for whistleblowers.  Although the IRS will not reveal you identity, you should be careful about who you tell about the case.

And yes, if you receive an award, it is taxable.  The IRS will withhold up to 28% of the award to pay the taxes on your new-found income.

Generally speaking the issue of employee or independent contractor hinges on the amount of control exercised by the employer over the worker.  If a worker is classified as an employee, the employer must withhold social security, Medicare, and income taxes from wages and also pay the 7.65% employer’s share of social security and Medicare.  By classifying workers as independent contractors the employer can save the 7.65% of social security and Medicare.  However, if the worker is misclassified and should be an employee, this is illegal and can subject the employer to payment of the tax plus penalty and interest on the unpaid amounts.

Under the IRS Voluntary Classification Settlement Program (VCSP), qualifying employers may report these misclassifications to the IRS and pay 10 percent of the employment tax liability that may have been due for the most recent tax year. For this purpose, IRC 3509(a) specifies a rate of 10.68% which includes a portion of the taxes that should have been withheld from the employee.  No penalties and interest will be assessed.  In addition, the IRS will not subject the employer to an employment tax audit with respect to the worker classification of workers for prior years.  In exchange, the employer agrees to extend the statute of limitations of the assessment of employment taxes from three to six years for the first three years after entering into the program.  This applies only to the three years after the workers are properly reclassified.  The employer must agree to reclassify workers as employees and should apply at least 60 days before they want to begin treating them as employees.

For an employer who has misclassified workers, this is a tremendous opportunity to get their employment tax issues straight with the IRS at a minimal cost and eliminate the risk of an audit with full taxes, interest, and penalties payable.

In order to qualify the employer must:

1.  Currently incorrectly treat some workers or class of workers as independent contractors.

2. Have consistently treated these workers as non-employees and must have properly filed Forms 1099 for the workers for the                  previous three years.

3. Not currently be under audit by the IRS, the Department of Labor, or a state government agency for worker classification issues.

In order to apply for relief under VCSP, the employer should complete Form 8952.  This is a new form that is now available at www.irs.gov.  The IRS will then take action on the application and reserves the right to reject or accept each application.

There is apparently one downside to entering this program, aside from the extended statute of limitations.  When a worker is misclassified as an independent contractor, the employer also avoids the state unemployment compensation tax.  Confessing to the IRS may attract the attention of the state agency handling unemployment compensation issues and result in a liability for unemployment compensation tax, interest, and penalties.  Hopefully, some states will be amenable to a negotiated settlement.

The IRS release does not specify a sunset provision on this program, so employers are encouraged to quickly.

First, some background.  When spouses file joint returns, each spouse is liable for anything that is included on the return.  In addition, there is joint liability for any omissions from the return.  This joint liability exposes both spouses to having their refund seized by the IRS to satisfy a debt owed by the other spouse. This includes taxes, past due child support, or a federal debt such as a student loan.  There are two ways to avoid having this happen.  Filing a return separate from your spouse will prevent the IRS from seizing your refund for debts of your spouse.  However, this may not be the optimal solution, as the filing of separate returns usually results in a higher total tax liability for the family.

The second approach is to make an injured spouse claim.  In order to qualify for such a claim six criteria must be met:

1. You must have filed a joint return with your spouse.
2. You must be expecting a tax refund.
3. You must have received notice that the IRS would keep your refund or has already kept the refund.
4. The refund was kept (or is expected to be kept) in order to pay your spouse’s past due tax, child support, or other federal debt.
5. You must have income reported on the joint return.
6. You made and reported payments or withholding from your income on the joint return.

To make an injured spouse claim, you should complete Form 8379 and send it to the IRS Center where you filed the return.  Attach copies of Forms W-2 and 1099-R for both spouses to the claim.

If you have not yet filed the return, you can attach Form 8379 to the return.  In this case, “Injured Spouse” on the upper right hand corner of page 1 of the 1040.

Once the claim for injured spouse relief is submitted and approved by the IRS, the IRS will separate the tax liability and payments for the two spouses.  If you have a refund coming, it will be sent to you and not applied to the debts of your spouse.  The IRS states that it takes about 11 weeks to process an injured spouse claim.  Most states also have injured spouse provisions, so you can check with the Department of Revenue in your state to determine if there is such a statute, and how to file a state claim.

The basic component of the Fair Tax is a national sales tax, calling for a rate of 23%.  The proposal taxes some items that are not presently subject to sales taxes.  The Fair Tax would tax purchases of new homes, rent, food, medications, doctor bills, interest on loans, utilities, gasoline, and legal fees.  One’s first reaction to this is that the Fair Tax would be an extreme burden on those in the lower income brackets with taxes paid on virtually every consumer purchase.  Proponents claim this is not true.  Here is where the innovative aspect of the Fair Tax comes into play.

All valid Social Security cardholders who are United States residents would receive a monthly check from the government, referred to as a “prebate.” This prebate is touted as being roughly equivalent to the amount of Fair Tax paid on essential goods and services.  For example, a single adult with no dependents would get a monthly check of $208.  A couple with two dependent children would receive $559.  This feature removes the Fair Tax from the realm of flat taxes, as it becomes a progressive tax with higher income citizens paying a higher percentage of their income in taxes.

The Fair Tax would completely abolish the federal income tax for individuals and corporations.  In addition, estate, gift, Social Security, and Medicare taxes would also be eliminated.  Of course, with no income tax, the IRS would also be abolished.  Social security and Medicare programs would be unaffected, just financed in another manner.

According to the proponents of the Fair Tax, it is revenue neutral, meaning that it would collect the same amount of tax as is currently being collected.  There are those who disagree with this, saying that a rate of 30-34% would be necessary to make it truly revenue neutral.  In all likelihood, the truth lies somewhere in between.  One factor that must be considered is that the Fair Tax would probably reduce the tax gap, as opportunities to evade the Fair Tax would probably be fewer than under the present system.  However, one should not discount the fact that with a sales tax of 23 -34% there will be a strong incentive for a black market to develop in which people attempt to evade paying the tax.  So the tax gap would remain, but hopefully it would be less.

The Fair Tax would be transparent, meaning that people would realize the extent of their tax burden rather than having it “obscured” as under the current system.  There would be no loopholes, special exemptions, payroll taxes, embedded costs, or other factors that contribute to hide the true amount of our tax burden.

Sounds pretty good, so far.  However, the Fair Tax has some other negatives associated with it.  First among these is that the price of new goods and services would increase. A $150,000 house becomes a $195,000 house.  Gasoline would increase $1 per gallon at present prices.  Proponents argue that prices would not really increase, just the visible cost would change.  Another thought is that since companies are not paying income, payroll, or other taxes, they would lower the price of their goods.  Nonetheless, prices are likely to increase.  This “sticker shock” of higher prices could have a negative effect on the economy.

Critical to the success of the Fair Tax is the repeal of the Sixteenth Amendment.  Unless this occurs, there is nothing to stop a future Congress from reinstating the income tax in some form, leaving us with the Fair Tax and an income tax.  Having both would be a disaster to our economic freedom.

Another negative factor is that people who have paid into social security or other savings plans would be taxed on these funds when they purchase goods and services after already paying income tax under the current system.

Some have observed that it would give the government the power to discourage the purchase of certain goods or services by raising the rate on that product.  For example, if the government determined that tobacco products were undesirable, they could be subject to a higher rate to discourage consumption.

There are both positive and negative aspects of the Fair Tax proposal.  As with any change in our tax system, there will be elements of unfairness.  Such a change will also create displacements, as much of the present tax industry would cease to exist.  There is no doubt that our tax system needs reforming.  Is this the best way to go about it?  I think not.  I still favor an income tax. To tax individuals and companies on their earnings seems more equitable than taxing consumption.