A $5,OOO Cat? - The NRST and Real Estate

Once Johnny came home with a puppy that he had found at the park. His father told Johnny that he couldn't keep the dog. Johnny protested but his father was unrelenting.

Tearfully, Johnny agreed. He took the puppy and left and was gone about an hour. When Johnny returned his father asked what became of the puppy. Johnny said that he sold it for $10,000.

The father demanded an explanation. Johnny said that he had gone to the neighbor's home and sold the puppy for two $5,000 cats.

Many in Washington explain everything that they do for us in glowing terms. They refer to the great benefits reserved for us in the tax code.

However, often when we examine the manna from Washington we find that the supposed benefit isn’t as good as we were promised. The benefit from Washington all too often really resembles one of the boy's $5,000 cats.

An example of this is the mortgage interest deduction. The fact that this benefit will be repealed by the national retail sales tax ("NRST") is one of the major objections used by opponents of the NRST.

Is the mortgage interest deduction really a "great" benefit or a $5,000 cat? The mortgage interest deduction is a provision in the federal income tax code which permits the deduction of the amount of mortgage interest paid on your home mortgage from taxable income, the amount of income on which federal income taxes are calculated.

Washington bureaucrats and realtors trumpet the tax advantages that accompany home purchases. "Buy a home and get a 'tax shelter' like the 'big guys' ". Alas, the "mortgage interest tax shelter" is, for many Americans, a $5,000 cat.

Here is an illustration of the home mortgage deduction. Fred and Joan Jones have two children and an annual income of $60,000. On January 1st, they buy a home a home for $140,000, pay $14,000 down and obtain a $126,000 30-year mortgage at 7 percent interest. The monthly mortgage payments are $838. Fred and Joan will pay mortgage payments of $10,059 in year one. Of the $10,059, $8,780 is interest and $1,279 is principal, which under the present federal income tax is not deductible. {1}

At the end of the year, eager to take advantage of this great "tax shelter, the Jones family deducts the mortgage interest paid of $8,780 from its taxable income of $60,000 and $10,600 of personal exemptions {2} leaving a new taxable income of $40,620. By deducting the $8,780 of mortgage interest the Jones family will pay $6,094 in federal income tax. {3}

At first glance, this would seem to be a real benefit. Fred and Joan were able to reduce their taxable income by the amount of the mortgage interest they paid. They know that their top marginal federal income tax rate is 15% so they appear to have received 15% of $8,780, or $1317, of the money that they would have paid in federal income taxes back from the government. However, in order to utilize the "mortgage interest tax shelter", they must file a 1040 return and itemize deductions. Interestingly, most real estate agents don't explain this fact but, without itemizing, the Jones family would have been able to take what is called the standard deduction that is available to everyone whether they pay mortgage interest or not.

"65,400,000 Americans are home owners but only 29,396,016 Americans take the mortgage interest deduction. For many of these 29,396,016 Americans the benefits of the mortgage interest deduction are marginal and more illusory than real."

If they had not deducted the $8,780 in mortgage interest payments but simply taken the standard deduction, Fred and Joan would have paid $6,551 in federal income taxes. This means that the mortgage deduction actually only saved them $457 in federal income taxes over what they would have paid if there was no mortgage deduction. On top of this, filing a return and taking the standard deduction generally means that you are less attractive to the IRS for an audit. So, the Jones family filed a more complicated return and increased their odds of an IRS audit to save $457. {4}

Another point that needs to be understood is the idea of "after tax expenditures." These are expenditures which, unlike the mortgage interest deduction, are not subtracted from our taxable income when computing taxes. These are items for which we have to earn enough to enable us to pay the income tax and still retain the net amount to be spent. Since the Jones family is in the 15% marginal tax bracket, in order to have a dollar to spend they will have to earn $1.18 and pay 18¢ in federal income tax (15% of $1.18) to net $1.00. As stated earlier, $1,279 of the total mortgage payments in year one is principal which is not deductible. The $1,279 of principal payments in year one is paid from the money that Fred and Joan have after payment of their taxes. To Fred and Joan, this means that they had to earn $1,505, pay $226 in federal income taxes (their marginal income tax rate is 15%) in order to net $1,279, the amount they paid in principal on their mortgage.

To recap, Fred and Joan have earned $60,000 and the examples shown in figure 1 illustrate the actual benefits they received from the mortgage interest deduction.

Assuming their income goes up at 3% per year, in 5 years they will be making $67,531 but will only be saving $406 more than they would be saving if they utilized the standard deduction. {6}

The amount of income tax savings is decreasing because the amount of interest is less each year and the amount of principal increases each year. The amount of mortgage interest paid in the fifth year will be $8,367 and the amount of principal will be $1,692.

$67,531 - 5,166 FICA {7} - 8,245 Federal Income Tax - 10,059 Mortgage Payment $44,061 Net Amount Remaining

However, if Fred and Joan want to actually own their home they will see a rapidly decreasing benefit from the mortgage interest deduction as they pay down the loan. In fact, by the 14th year, it will be better for Fred and Joan to take the standard deduction of $6,900 rather than the standard deduction of $6,900 rather than the mortgage interest deduction of $6,888. {8} Moreover, if Fred and Joan had purchased a home with a mortgage of $99,000 instead of $126,000, they would have saved nothing from the mortgage interest deduction.

This is one of the primary reasons that 65,400,000 Americans are home owners {9} but only 29,396,016 Americans take the mortgage interest deduction.{10} For many of these 29,396,016 Americans the benefits of the mortgage interest deduction are, like for Fred and Joan, marginal and more illusory than real.

If they actually pay the mortgage on their $140,000 home, Fred and Joan will have paid $175,781 in interest and $126,000 in after-tax principal for which they would have had to earn $148,000 and pay $22,000 of federal income taxes to net $126,000.

Contrast the above scenario with the situation if Fred and Joan purchased their home after the passage of the NRST using the same purchase price and 30-year mortgage at 7% interest.

Fred and Joan will receive their income without any income tax withholding. They, not the bureaucrats in Washington, will decide how much income tax they pay by how much they elect to spend on retail purchases. No longer are Fred and Joan treated as children or mentally deficient adults but as adults capable of making their own decisions.

Fred and Joan receive $58,234 in income, which is the earnings of $60,000 reduced by $4,590, the amount of the FICA withheld and increased by $2,824, the amount of the NRST rebate {11} to a family of four. Like under the federal income tax, the NRST will tax the principal of the house purchased by Fred and Joan. Under H.R. 2001, the bill introduced by Congressmen Dan Schaefer (R-CO) and Billy Tauzin (R-LA) that replaces the income tax and the IRS with an NRST collected by the states, the $140,000 purchase price of the house will be taxed by the NRST, resulting in a tax owed of $24,706. This tax can be paid either at the time the house is purchased or over a 30-year period. If the election is made to pay the $24,706 over 30 years then Fred and Joan will pay $73 per month or $876 per year.

The $8,780 of mortgage interest will not be subject to the NRST. {12} At the end of year one we see the results shown in figure 2.

After 5 years under the NRST, and assuming a 3% increase in their income, Fred and Joan would have the following net amounts of money under the NRST and the present income tax as shown in figure 3.

Now, we have assumed that the interest rate to be paid by Fred and Joan would be the same under the present income tax and the NRST.

This is really not the case. Economists agree that interest rates under the NRST will decline by at least as much as the difference between the municipal bond rate and the standard, non-tax free bonds. Some believe that the reduction will be much greater as America becomes the greatest place for investment and funds flood into the United States from all around the world. However, if we just assume the smaller reduction this will mean that the mortgage rate will be not 7% but 5.5%. {15}

This would mean that the mortgage payments and total cost of the mortgage for Fred and Joan would be reduced. Below are comparisons of the present income tax and the NRST with the lower interest rate. Here is a recap of the new costs and the comparison shown in figure 4.

This means that the total cost of paying off the mortgage under the NRST is $131,548 of interest, $126,000 of principal and $24,705 NRST tax for a total of $282,253. Contrast this to $323,781, the amount that would have to be earned and spent under the federal income tax, a difference of

Yet another factor we have not addressed is that under the NRST, it will be much easier for Fred and Joan to save the money needed to purchase their home. Under the present income tax in order for Fred and Joan to save the $10,000 that they need for the down payment on their home, they will have to earn $11,765 and pay income taxes of $1,765 to net $10,000. If they deposit the money in a savings account then the interest will also be taxable.

However, under the NRST, Fred and Joan will only have to earn $10,000 and save that amount because earnings are not taxable under the NRST. Any interest earned on a savings or investment will not be taxed under the NRST. The NRST gives Fred and Joan the ability to keep all the money that they don't spend whether the source is earnings or a return on their savings and investment.

There are a number of other things that we have not taken into account when we do our comparison. The foremost of these is that the economic studies that have been done on the affect on the rate of growth in the economy after the enactment of the NRST all show increased rates of growth and increased rates of productivity. This is very important because increases in income are derived from increases in productivity.

What does the increased economic growth mean to each of us? If the economy had grown at the same rate since 1973 as it did prior to 1973, the average family would have an additional $10,000 per year in disposable income.

It is time for Americans to quit accepting $5,000 cats and demand a tax system that really works for America, the NRST.

--------------------------------------------------------------------------------

{2} Each family member receives a $2650 personal exemption or $10,600 for a family of four.

{3} For purposes of our example we are not considering any deductions that might be available would increase the amount of itemized deductions because these vary widely among taxpayers.

{4} The $457 in savings would be increased if there were additional itemized deductions like real estate taxes, state income taxes and charitable donations. For example, if Fred and Joan had an additional $1000 of deductions then they would have saved an additional $150 in their 15% income tax bracket.

{6} This actual savings from the mortgage deduction will likely be less because the standard deduction will also have been increased.

{8} Again, this is assuming that the standard deduction for a family--of four remains at $6,900 which it will not. Therefore, the standard deduction will likely exceed the mortgage interest several years earlier.

{11} The NRST rebate is determined by family size. It provides a rebate to Americans equal to the NRST on their purchases up to the poverty level. For a family of four this would be a rebate on the first $16,000 of purchases.

{13} Fred and Joan would not pay NRST on the FICA payment, the NRST payment and the mortgage payment. We are assuming that the family has savings or expenditures of an additional $5,000 not subject to the NRST - like charitable donations, education expenses or savings.

{15} Many economists believe that the mortgage interest rate will likely be even lower because of the increase of savings and the infusion of vast amounts of capital from around the world.

{16} This assumes that the family saves or spends a total of $5,000 on items not subject to the NRST.

`(5) GROSS PAYMENTS- The term `gross payments' means payments for taxable property or services, including Federal taxes imposed by this title.

Yes, this is the definition of tax inclusive. THe tax you pay is supposed to be 23% of the total you pay for the item plus the nrst - that's why it says to include Federal taxes imposed by this title. You forgot to print the part that says other taxes are excluded from being taxed. Why did you do that?

Lewis "somehow" forgot to copy and past the part that says "excluding other federal and state taxes".

Gross payment is defined (look in the bill yourselves, lewis omits and rephrases) just as you expect it to be defined.

Gee, I wonder why lewis didn't copy that part too???

Yeah, but I don't see how it will work to the advantage of NRST. The tax is being paid whether it is coming out of income or consumption, and to be revenue neutral it has to be the same amount. You can't recoup those income taxes by cutting pay, because the guy whose pay you would be cutting still has to pay taxes.

Actually, it doesn't have to come out of pay -- there are costs associated with income taxes beyond the taxes themselves, the producers will save all of these costs. The sellers are compensated for colelcting and remitting the NRST by being allowed to keep a percentage of the taxes they collect (no unfunded mandate).

AG has the actual numbers.

`(4) EDUCATION AND TRAINING- The term `education and training' means tuition for primary, secondary, or postsecondary level education, and job-related training courses. Such term does not include room, board, sports activities, recreational activities, hobbies, games, arts or crafts or cultural activities.

(5) GROSS PAYMENTS- The term `gross payments' means payments for taxable property or services, including Federal taxes imposed by this title.

`(6) Intangible property-

`(A) IN GENERAL- The term `intangible property' includes copyrights, trademarks, patents, goodwill, financial instruments, securities, commercial paper, debts, notes and bonds, and other property deemed intangible at common law. The Secretary shall, by regulation resolve differences among the provisions of common law of the several States.

`(B) CERTAIN TYPES OF PROPERTY- Such term does not include tangible personal property (or rents or leaseholds of any term thereon), real property (or rents or leaseholds of any term thereon) and computer software.

Nope! You're lying, there's the copy and pasted paragraph before and the paragraph after.

No sign of "excluding other federal and state taxes"...(even in quotes?).

So are we talking about an invisible (to the consumer) tax, similar to all of the currently embedded taxes and regulation on a product's price?

Not really. I would expect that most retailers would list price including tax simply to avoid the "sticker shock" effect at the register, but nevertheless, the law requires the tax to be separately charged and stated on the receipt (exceptions for things like vending machines that are automated and don't provide receipts).

Have you ever calculated how much you pay in tax to actually build the house? How much of a reduction in price could you get from your sub-contractors if they didn't have to pay payroll taxes (7%). Now consider the lumber, fixtures, drywall, electrical, etc that you buy, the company that produces these items will no longer have to pay a corporate tax on their earnings and therefore can lower the cost to you.

Taxes are embedded in everything and as a result we pay them whether we know it or not. The NRST is revenue neutral and has been shown to be such through detailed analysis.

In practice, would merchants list the pre-tax price, or would they advertise the gross price?

I don't know. The prices of today include federal taxes but folks don't know it. The tax they usually don't include is state and local sales taxes. Who knows what merchants will choose to do.

Technically speaking, is it not ultimately the merchants' responsibility to pay the taxes?

Yes, consumers don't have to keep any records of purchases for any tax purposes. This makes the merchant liable for the tax. Of course, every receipt has a line item
"23% Federal sales tax $xx.xx"

So are we talking about an invisible (to the consumer) tax, similar to all of the currently embedded taxes and regulation on a product's price?

Every receipt must have a line item "23% Federal sales tax $xx.xx"

One of the big advantages, IMO, of this tax system is that we would all become more aware of the cost of government- leading to decreased spending.

`Section 2(a)(16) USED PROPERTY- The term `used property' means--

`(A) property on which the tax imposed by section 101 has been collected and for which no credit has been allowed under section 203, and
B) property that was held other than for a business purpose (as defined in section 102(b)) on December 31, 2004.

I see the word "and" between (A) and (B) not an "or". Doesn't that mean to be considered "used" a property would have to meet both of those requirement (was held on Dec 31, 2004 AND the tax has been collected).

Am I reading this wrong?

Most people can do regular tax rates in their head- if you have a state sales tax of 8% and you buy something for $100 you know you will pay $108 dollars at the register.

You cannot do the same thing with a 'tax inclusive' rate.
The ONLY reason for using the much more difficult to calculate 'tax inclusive' rate is because the rate SOUNDS lower. In other words, to deceive people.

So then your claim that this is the 'more honest' way to do it is the complete opposite- and adds to the deception by glorfying it as 'more honest'.

I disagree -- see my #52.

Also, tax-inclusive is used to compare income/payroll taxes and the NRST on the same footing. If you prefer to use tax-exclusive rates, we can, but be sure to use a tax-exclusive form when talking about income and payroll taxes, too.

That's 8.28% for FICA (18.1% for self-employed), 25% for long-term capital gains (instead of 20%) etc.

Most people can do regular tax rates in their head.

You mean like this?
"If I earn $100,000 and pay $23,000 of it in taxes, that's a 23% rate."

You're right, that IS easy.. and it is the tax inclusive way - the way which you say is "deceptive".

Let's try another example...maybe this one will be "deceptive"?

I spend $100,000 and pay $23,000 of it in taxes, that's a 23% rate. hmmmm... that was easy too!.

Well let's make the math harder, maybe that's "deceptive"?

How about... I earn $67,596 and of those dollars earned, $15,547 was used to pay federal taxes. What rate is that? Let's see, tax divided by total earned is .23 or 23%. Is that deceptive?
How about I spend $67,596 and of those dollars spent, $15,547 was used to pay federal taxes. What rate is that? Let's see, tax divided by total spent is .23 or 23%. Is that deceptive?

None of that is deceptive. It's the way we all figure our taxes today.

What's deceptive is your agenda. There is an honest question on how to figure the tax - you're not asking it though. You're simply trying to confuse others so that they stop learning about the nrst. Why?

How about I spend $67,596 and of those dollars spent, $15,547 was used to pay federal taxes. What rate is that? Let's see, tax divided by total spent is .23 or 23%. Is that deceptive?

When does a person ever add up all their expendatures and figure out how much sales tax they've paid. Never. The only time they ever figure sales tax is when they are shopping and figure the tax based on the retail price. Something that is much harder to do with a tax-inclusive rate.

None of that is deceptive. It's the way we all figure our taxes today.

It's not the way we figure sales taxes today. Sales taxes are always expressed the tax exclusive method. You want to see deceptive, consider this. I just made a purchase at lunch. The sales receipt is a follows:

Item description	$ 29.25
8.25% sales tax	2.44
TOTAL	$32.09

With a NRST, this receipt becomes:

Item description	$ 29.25
8.25% state & local sales tax	2.44
23% national sales tax	8.85
TOTAL	$40.94

That's not deceptive?

The only time they ever figure sales tax is when they are shopping and figure the tax based on the retail price.

Right! (finger on nose! bells ringing!)

This is the question many people have... if they don't understand income and payroll tax rates, they won't understand the nrst rate - they'll simply want to compute the nrst tax using the "add-on method"... which is NOT the way you figure income tax. It is, however the way state and local sales taxes are figured. Hence it makes sense to want to do this. It's a natural question - how to figure the amount of tax.

You can figure the rate in more than one way. Just like you can measure a stick in meters or inches. Is meters deceptive? Some folks may prefer meters, others may prefer inches. Irrespective of the units, the distance is the same.

If you want to describe the nrst tax rate and compare to the income and payroll tax rates you pay, then use tax inclusive (tax divided by total spent including the tax)...because that's how income and payroll tax rates are expressed. That rate is 23%. That's a no brainer.

If you want to figure how much an item will cost after the nrst is ADDED on, then of course use the ADD ON rate. THat rate is 29.9%.

There is an honest question in there - some people use the phrase "sales tax" and default to "add this percent to the price". That's fine. THey can use the 29.9%.

Others want to compare what they'll be paying under an nrst to what they're paying now. That's fine too. They can use the 23%.

Obviously the $ amount of tax is the same - just a different measuring stick.

So what's the beef? Do you call people deceptive for using inches instead of feet? The distance is the same, just different units....

As I pointed out earlier, if you want to use tax-exclusive rates, that's not a problem. But since we're comparing the NRST to the taxes it replaces (payroll and income taxes), then we'll have to use tax-exclusive versions of those rates so that we can compare equitably.

But I don't think we want to go there, because income and payroll taxes are much more difficult to deal with in those terms. For eaxmple, the "employee's share" of FICA (7.65% tax-inclusive) is 8.28% tax-exclusive, but for self-employment, which is double the amount of tax collected (15.3% tax-inclusive), the corresponsing tax-exclusive rate 18.1%. But because of how this percentage is calculated, the latter number (18.1%) is more than double the former (8.28%) even though the actual tax collected is exactly double.

Now that is confusing.

Your receipt is wrong because the nrst is figured exclusive of any state or local taxes.

Other than that, your html looks good.

It is surely different to have a tax inclusive tax on a traditionally tax-exclusive receipt. It would be stupid to not recognize this. But different doesn't mean deceptive except to people who want to make the nrst less desireable to learn about. Some people think that calling something a name will prevent others from forming their own opinions.

The good thing about FR is that folks here are not stupid. They know a name caller, agenda holder at first post.

Under our current system, For eaxmple, the "employee's share" of FICA (7.65% tax-inclusive) is 8.28% tax-exclusive, but for self-employment, which is double the amount of tax collected (15.3% tax-inclusive), the corresponsing tax-exclusive rate 18.1%. But because of how this percentage is calculated, the latter number (18.1%) is more than double the former (8.28%) even though the actual tax collected is exactly double.

This bears repeating.

Disclaimer: Opinions posted on Free Republic are those of the individual posters and do not necessarily represent the opinion of Free Republic or its management. All materials posted herein are protected by copyright law and the exemption for fair use of copyrighted works.