Retirees and the FairTax

RETIREES AND THE FAIRTAX….Matt Yglesias reprints a chart showing that Mike Huckabee’s 30% national sales tax would be good for the rich and bad for the middle class, and then adds this:

Of course, the elderly in particular get hammered here which I assume makes this a non-starters in real world politics.

A big national sales tax is such a loopy idea that I feel like my IQ drops every time I even acknowledge it as something worth discussing. Still, like it or not, the idea is out there and it’s worth unpacking Matt’s comment a bit just to demonstrate one of the nonobvious ways in which this really, truly is a complete political nonstarter.

The issue isn’t so much Social Security benefits, which are currently tax-free for nearly all retirees but would end up being subject to a sales tax. The “prebate” feature of the FairTax proposal would, in theory, take care of most of that. Rather, it’s retirement savings, which would end up getting taxed twice. Say you earn $1000 at age 64, pay taxes on it, and then stick the remaining $800 in the bank. The next year you turn 65. Under current law, that retirement money is yours free and clear because you’ve already paid taxes on it. But if a sales tax is suddenly legislated into existence, that $800 isn’t worth $800. It’s only worth about $600. Surprise! All that money you’ve saved for retirement is suddenly worth a whole lot less than you thought it was. Better not plan on taking any of those Caribbean cruises you’ve been dreaming about.

This is, of course, patently unfair. And you may rest assured that AARP is well aware of all this. It’s hardly the only reason a 30% sales tax is loopy (see here for more), but it’s one that most people don’t figure out until you tell them. People in their 50s who are carefully totting up their retirement savings might be a little less enthusiastic about Mike Huckabee if they knew this.

UPDATE: Megan McArdle says that this problem with the FairTax is only “transitionally true.” Yes, of course. I’ve slightly modified the post to make that clearer. The transition period, however, is 30 or 40 years long, and, contra Megan, there’s really no good way to fix it. It’s patently unfair to anyone nearing retirement, and clearly a political killer.