The Value Added Tax (VAT) is a widely used method of taxation of goods and services. You will find it just about everywhere in Europe. In the USA there have been discussions by some politicians that adding a VAT might be a good idea. Many have put forth the simplistic notion that a VAT is nothing more than a slightly different type of sales tax. While all Americans know about sales taxes (Canadians, too!), a VAT is a bit different. Since we can be sure that any new tax will increase tax collection for the government, It would seem a good idea to know what a VAT (Value Added Tax) would do before it gets to be law.
A Sales Tax
The idea of a sales tax is simple. When one buys goods or services, a percentage of the purchase price is added to the bill as the tax. The seller collects the tax and forwards it to the appropriate government entity. The seller does not charge the tax. The government does that. The seller merely collects the tax….. BUT is legally liable for the tax. If not enough tax is collected for the sales made or if the seller makes an error in collection, the seller is on the hook for the correct amount due. The seller also bears the increased bookkeeping and administrative expenses associated with compliance with the law. The sales tax is only charged to the end user, not a business using the item for further sale.
Value Added Tax
The main argument for a VAT is that it reduced non-compliance while keeping the tax burden constant. That is to say a 10% sales tax and a 10% VAT would cost the end user (the consumer) the same amount of money. At the same time it would collect tax from those who claim to not be end users, but, in fact, are.
Most products progress through a number of hands before they become finished products. A VAT would charge the tax at each time the material was sold. Raw material sold to a company that molded it and then sold it to a company that assembled it and then sold to a company that actually sold it. At each sale the VAT would be charged. The seller would keep what he had already paid in VAT to the previous seller and forward the additional to the government. Ultimately, the consumer would pay for all the tax at the final sale. That tax amount would equal the amount of a same sales tax.
But wait! At each step along the way to becoming a final product, the companies involved would be paying a tax up front only to be reimbursed upon the sale in the next step of the product’s progress to final sale. That means that the company must finance the VAT for the time between the purchase of and sale of the product. No matter if the company can finance that from its own funds or needs to actually borrow the money, there is an extra cost involved. Please note that that extra cost kicks in before the expense of the extra bookkeeping and accounting involved is figured.
The Valued Added Tax seems like a great idea. The government would get tax revenues much quicker since it would not have to wait until the product was ready for final sale. It would receive payments all the way along as the product was processed for sale. The government would also get lost tax revenues from those who falsely claim to be using the product for further resale.
But businesses would have to shoulder the extra burden of pre-paying (and financing) the VAT as well as the extra bookkeeping expenses. Prices are sure to rise. Anyone who has ever gone to Europe and looked at the prices for a CD from their favorite band or the price of a current best selling book knows that they are much more expressive than in the United States. While there are many factors at play, the VAT is clearly one of the reasons.
This is a very complex topic (most tax issues are!). Do your research before you agree or disagree that a Value Added Tax would be good for the United States