Tuesday, February 22, 2011

More on the Value-Added Tax - An Alternative to Sales Tax?

Earlier Chris Berrens posted on the value-added tax (VAT). I also felt compelled to expound on the VAT due to its relevance to sales tax and global prominence. As Chris mentioned, most of the rest of world utilizes the VAT as seen by the dark-shaded countries in the map below (updated 2008).

The VAT differs from a sales tax, in that instead of taxing a good at the point of sale on the consumer, the product is taxed along the production line as value is added to the product as demonstrated in this graphic.

So while most of the rest of the developed world has utilized this popular form of taxation, why hasn’t the U.S. opted for this policy? It is generally considered to be very feasible with low administrative costs and is also quite adequate at raising sufficient revenue (Source). This New York Times article also finds the VAT to be better than equivalent sales taxes for two key reasons:

First, if a single business evades the value-added tax, the government does not lose a large portion of money, because it will collect taxes at other stages of production.

Since companies usually get credit for taxes already paid by their suppliers, companies will pressure other businesses in the production chain to prove they paid their taxes. That means the system is somewhat self-policing.

The VAT does not go without criticism however. As with sales tax, there are equity issues with the regressiveness of the VAT. Similar to the way Minnesota exempts clothing and unprepared food from sales tax, many countries using the VAT exempt similar items to make the tax less regressive (Source). Other countries, such as Australia, combat the regressive aspect by having an aggressively progressive income tax (Source).

Despite its pros and cons, the VAT’s biggest hurdle to being used in America is likely the political feasibility. As mentioned in class, the cost associated with switching to such a system may be prohibitive or at the very least unpopular. Additionally it appears that the VAT’s own popularity (especially in Europe) may even be working against it. Back in November, the then-prospective House majority leader, Eric Cantor dismissed the potential of implementing a VAT, commenting: “I don’t think any of us want us to go the direction of the social welfare states around the world.” I’ll let Paul Krugman respond.

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