Published 12/6/2024
ChatGPT On the FairTax®
JD would like to replace income, Social Security, and property taxes with a sales tax like the FairTax®. He decided to ask ChatGPT about what it thinks of the idea. Here's the transcript:
Me:
What percentage of the wholesale price of a typical American manufactured product can be attributed to the local, State, and Federal taxes on the labor (e.g. the workers income taxes and Social Security taxes) that went into it, as well as the property taxes on the land and buildings occupied by the factories which make the products?
ChatGPT:
The exact percentage of the wholesale price of a product attributable to taxes (such as income taxes, Social Security taxes, and property taxes) can vary widely depending on multiple factors, including the type of product, the company's location, labor intensity, tax rates, and the property values of the facilities used.
Here’s a general breakdown of how these taxes might contribute to the cost:
Income Taxes: Workers' income taxes, both federal and state, do not directly add to the product cost. However, employers often factor the total cost of labor (wages + taxes) into their pricing.
Social Security and Medicare (FICA): Employers contribute 6.2% for Social Security and 1.45% for Medicare on each worker's wages. These payroll taxes directly increase the cost of labor.
Labor costs, including taxes, can account for a significant share of manufacturing costs. In labor-intensive industries, labor costs might represent 20–40% of the total cost of the product.
Property taxes depend on the assessed value of the land and buildings. For industrial facilities, these taxes are typically passed on to the cost of production. The impact is higher for businesses in areas with high property tax rates or expensive real estate.
Property taxes as a share of costs can range widely but may add a small fraction to overall product costs, especially if manufacturing relies more on machinery than expansive properties.
Taxes indirectly affect suppliers, utilities, transportation, and other services involved in manufacturing and distributing the product. These costs also factor into the wholesale price.
Approximation
While it’s challenging to give a precise figure, studies and analyses often estimate that taxes on labor and property combined can contribute roughly 10–25% to the wholesale price of a typical American-manufactured product. This includes direct labor taxes, employer-side payroll taxes, and indirect property tax costs.
For specific calculations, companies use detailed cost accounting to factor in all tax impacts. If you have a particular product or industry in mind, I can provide a more tailored analysis.
Me:
Is it fair to say that if we replaced income taxes (including Social Security) with a sales tax (such as the FairTax®), then the wholesale price of American-made products could drop significantly, whether for domestic sale or export? Could it be as much as the 10-25% you estimated?
ChatGPT:
Yes, replacing income taxes (including Social Security and Medicare taxes) with a consumption-based sales tax, such as the FairTax®, could reduce the wholesale price of American-made products significantly, although the exact percentage of the reduction depends on several factors.
How the FairTax® Could Impact Prices
- Elimination of Payroll Taxes:
Employers currently pay a 7.65% payroll tax (6.2% for Social Security and 1.45% for Medicare) on employee wages. Removing these taxes would reduce the cost of labor for businesses.
Workers would also no longer have income taxes withheld, potentially allowing employers to negotiate lower gross wages, since employees would take home more of their pay.
- Reduction in Embedded Taxes:
Taxes on wages, property, and corporate income are embedded throughout the supply chain. Each business in the production process passes these costs down the line. Eliminating these taxes could significantly lower production costs.
Estimates suggest that embedded taxes account for 10–25% of the price of many goods and services.
Effect on Exports:
Under the FairTax®, exported goods would not include any sales tax, potentially making American products more competitive globally by further reducing their prices compared to goods produced in countries with high corporate or payroll taxes. Could Prices Drop by 10–25%?
It’s possible that wholesale prices could drop by this range if:
- Businesses fully pass on their cost savings from lower taxes to consumers.
- The labor and tax savings constitute a significant portion of the cost structure in the industry. However, the actual drop in prices could be less for several reasons:
- Market Dynamics: Companies might choose to keep some of the savings as profit rather than reducing prices fully.
- Implementation Costs: Transitioning to a new tax system might involve administrative and compliance costs initially.
- State and Local Taxes: Property taxes and state income taxes (if not replaced) would still contribute to costs.
Key Considerations
Impact on Consumers: While wholesale prices might decrease, the FairTax® would apply a national sales tax (e.g., 23%) at the point of sale. Consumers would see higher prices on final goods and services, offset by the removal of income tax withholding and a "prebate" to ensure fairness for basic spending.
Export Competitiveness: American-made goods could become significantly cheaper abroad, benefiting industries reliant on exports.
Conclusion
The 10–25% figure is a reasonable estimate for potential wholesale price reductions due to the elimination of embedded taxes under the FairTax®. However, the actual impact would depend on how businesses adjust pricing, the specific industry, and how other non-tax costs evolve. The overall economic effects would also hinge on consumer behavior in response to the new tax system.
What do you think?
Without the embedded taxes in the wholesale prices, American exports would be a hell of a lot more competitive worldwide. That could only be good for America!