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From the Tax Foundation Archives: The Pros and Cons of a Value Added Tax (VAT)

2 min readBy: Scott Hodge

Washington is engaged in a spirited debate over the future of the U.S. taxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities. system. In particular, the debate is over the destination-based cash-flow tax (DBCFT) and border adjustability, key components of the GOP “Better Way” tax reform blueprint proposed by Ways and Means Chairman Kevin Brady.

Perhaps as a testament to the fact that there are no new debates in tax policy, the arguments for and against the GOP tax plan are similar to those raised when Washington considered enacting a value added tax (VAT) during the 1970s.

In 1979, the Tax Foundation published a useful guide to the issues surrounding a VAT, “A Value-Added Tax for the United States?” Below is an excerpt from the study outlining the key points for and against the VAT. It is interesting to see how many of them are being applied to today’s debate over the DBCFT and border adjustability.

Examination of the extensive literature indicates widespread concurrence as to the possible advantages and disadvantages of a broad-based Federal levy on consumption such as the VAT.

Claimed advantages for the VAT are that it would:

  1. Be based on consumption, and thus provide a stable revenue base;
  2. Be “neutral,” since it would be imposed on all types of businesses;
  3. Provide stronger incentives for businesses to control costs;
  4. Encourage, or at least not discourage, savings;
  5. Have the potential for raising large amounts of revenue at a low tax rate;
  6. Be simple to administer;
  7. Reduce obstacles to exports, under certain conditions;
  8. Help bring about a better balanced tax system.

Set against these positive characteristics are the alleged drawbacks. It is contended that the VAT would:

  1. Be regressive;
  2. Lead to excessive spending;
  3. Lack a countercyclical balance;
  4. Be harmful to new and marginal business activities;
  5. Create administrative complexities;
  6. Set off inflationary tendencies;
  7. Be a “hidden tax”;
  8. Conflict with the present pattern of state and local sales taxes;
  9. Be unable, in many instances, to create meaningful incentives for exports.

The study may be a bit dated, but it is certainly worth a read.