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A better consumption tax

By Dylan Matthews

Although I disagree with him entirely on whether the federal government should be instituting new broad-based taxes, Irwin Stelzer is right to argue, as was Pete Davis, that a value-added tax won't be implemented in anything resembling a clean way. Exemptions will be rampant, due to lobbying and the parochial concerns of key representatives and senators, and some of them – like the exemption Stelzer cites in the British VAT for crackers made from tapioca starch, but not other crackers – will be ridiculous and ridiculous-sounding. It will be hard for businesses to keep track of what is and isn't subject to the tax, and the complexity will be periodically bemoaned.

Which is, of course, the case with the personal income tax, the corporate income tax, and plenty of other current federal taxes. This isn't to say that it's fine to make the tax code even more confusing, but insofar as we'll have to find new, large sources of revenue in order to balance the budget in the long run, a new tax of some kind will have to be adopted. And regardless of whether that's a VAT or an income surtax or a far more potent health insurance excise tax, it's going to be complex, hard to follow and full of loopholes. Periodic simplification efforts, like the Tax Reform Act of 1986 or the current Wyden-Gregg tax plan, will pop up and clean things up, but after a few years it'll be back to normal. Unless one can marshal evidence that the VAT will be more resistant to simplification efforts, or more likely to accumulate exemptions, than existing taxes, this hardly seems to be a reason against adopting it.

That said, VAT proponents do tend to hail its simplicity in arguing for it, and the tendency of real world VATs to grow increasingly complex, as Stelzer and Davis explain, undermines this argument. What's more, it undermines a major argument against an alternative consumption tax proposal to the VAT: Robert Frank's progressive consumption tax. While VATs and retail sales taxes are exacted during transactions, the progressive consumption tax works the same way the personal income tax does, except it includes an unlimited exemption for savings. The difference between income and savings is assumed to be a person or family's consumption level. While VATs and sales taxes hit the poor disproportionately, Frank's tax has a number of brackets and a standard deduction, and is thus, as its name suggests, highly progressive. The main advantage of a VAT or sales tax over Frank's proposal is simplicity and ease of compliance, but if one assumes that any new tax will be riddled with exemptions, that isn't much of a benefit.

-- Dylan Matthews is a student at Harvard and a researcher at The Washington Post.

By Washington Post editor  |  April 5, 2010; 8:11 AM ET
Categories:  Taxes  
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How would that "savings" be figured? I can think of work-arounds for all the ways to figure it I can come up with. Basically, they all rely on the fact that money is fungible. Short of the point-of-sale method of figuring it, how do you know what is really savings? Would you put penalties for withdrawing from savings, like from a deferred tax retirement account? I really don't see how a VAT is simple at all. You couldn't charge it for everything at a fixed percentage, so right away simplicity is out the window. By the way, does tapioca starch make crackers that are just as good? Maybe you COULD charge the tax on everything, but adjust the prices at the wholesale level to compensate, as for medicines, food, school clothes, cigarettes, liquor, soft drinks...It gets complicated really fast, doesn't it? In fact, why not do the whole tax at the penultimate seller level, and leave the retail consumer out of it? That would leave lots of opportunity for shenanigans, which is what all tax law is full of anyway.

Posted by: tughillb | April 5, 2010 9:52 AM | Report abuse

There won't be a VAT tax. It's political suicide for Democrats, would be a political blessing for Republicans . . . this isn't like HCR, where all the Democrats had to do to turn the whole thing around was pass the legislation. Even if they managed to pass the legislation (and too many Democrats are going to have their ears bent by donors who don't want this particular tax for that to stand much of a chance), it's not going to win over independents or other skeptics.

Politically, this is a loser for Democrats. And a VAT tax has a much higher chance of being repealed than HCR does, too. So it's a question of how many Democrat politicians want to fall on their swords to pass a piece of legislation on principle that will almost certainly be repealed?

To be extra clear: repeal HCR, and you're taking away people's healthcare (never mind that they didn't have it last week). You're taking health insurance from children. Once the Democrats cross the line with HCR, they had the victory. Whatever sacrifices they made getting there, once they crossed that line, it was done. We're never going back.

Repeal the VAT, and you're keeping consumer prices from going up (or making them go down) and putting more money in people's pocket. It makes for a great campaign issue, drawing a clear distinction between Democrats (anti-business, pro-tax, pro-more-taxes, pro-even-more-taxes) and Republicans, who are against all that stuff.

Posted by: Kevin_Willis | April 5, 2010 11:01 AM | Report abuse

Why can't we raise the taxes we have on the people who have money to pay it? There's simplicity for you.

Oh, they own the government?

Posted by: janinsanfran | April 5, 2010 11:29 AM | Report abuse

How about taxing bad things, like carbon? And reducing taxes on good things, like employment (payroll tax)?

Posted by: Lonepine | April 5, 2010 2:40 PM | Report abuse

Well...The VAT will be EXCELLENT news for the smuggling business, Mexico, Canada and anyone living within driving distance of those two borders. The larger the purchase, the more likely people will be to buy goods off book or out of country.

Posted by: DarkFlow | April 5, 2010 2:47 PM | Report abuse

Many years ago, when I was in Ireland on holiday, somebody tried to explain how their VAT worked, but this is all I remember:

It was a two-tier scheme; a low rate (10% IIRC) for necessities and a high rate (25%) for luxuries. That meant of course that everything you might buy had to be properly categorized. When the lists came out and shoes were put on the luxury list, parents were outraged. Everyone needs shoes, they said, but children wear out shoes quickly, and they outgrow them. If you want to force adults to pay a luxury tax we'll just start getting our old shoes repaired at the cobblers again, but at least put children's shoes on the necessities list or we'll go broke. The government considered the complaint and rejected it. The reason? They said women with small size feet would start buying their own shoes in the kids' department to pay the lower tax.

Posted by: ChicagoMolly | April 5, 2010 5:02 PM | Report abuse

It would be refreshing to see the government completely resend all of the old tax codes and start anew. The reason being is that everyone could be taxed more fairly and equitably. 10% across the board hits everyone equally. Taxing more for higher income groups will allow for more fair tax cuts based on income and ability to qualify for the cuts to from the start. All people should qualify for tax breaks, even the poor, but we all can afford to pay some tax if it will help us out of our predicament.

Posted by: krissylynny | April 5, 2010 5:33 PM | Report abuse

I meant conscience in my comments, not conscious. I was recently unconscious and sent to the hospital and guess I have not quite regain as much consciousness as I thought. However, I am clear on my beliefs and do so in good CONSCIENCE.

Posted by: krissylynny | April 5, 2010 5:44 PM | Report abuse

"I am reviewing the situation." Could this tax takes the place of the personal income tax? The idea of taxing the people who consume instead of the consumption itself is good. How do we know what people spend? Perhaps if there is a threshold of spending established. Then taxation can start after the threshold is crossed. This keeps the simplicity of the VAT in place without the exceptions. That could happen if we got rid of cash, but this is starting to sound like Skinner's "Brave New World".

Remember Fagin in "Oliver Twist".
"I think we better think it out again".

Posted by: pparris | April 5, 2010 7:19 PM | Report abuse

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