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A Value-Added Tax For America?

There is talk about how a VAT could solve some of the federal government's deficit problems, but could a VAT fix sales taxes?


Penelope Lemov

Penelope Lemov is a GOVERNING correspondent. She was GOVERNING's health columnist and was senior editor for several award-winning features.


Commented April 29, 2010

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Been to Paris lately? If you picked up a bottle of perfume, a silk tie or a chic little designer sweater, you have a fresh reminder of the VAT: It's the refund from France's value-added tax you received when you left the country.

Just like our state sales tax, the VAT is an assessment on sales to consumers except that this tax is assessed and collected at different stages of the production process, and not, as with the state sales tax, as a percent of the retail price when the consumer buys the product or service. Since it is assessed at various stages, the VAT increases the ultimate cost of the product. Tourists, however, are exempt from the run-up of value-added costs, hence the rebate you receive when you leave the country, sales receipts in hand.

Most Western or developed countries use a VAT and rely on it for a good chunk of their revenue. For a country like France, which first implemented the tax in 1954, it is the main source of revenue, accounting for nearly half of the money the country raises to balance its budget.

Could a VAT happen here? There is talk about how a VAT could help solve some of the federal government's deficit problems. Those needs are daunting enough that President Obama has set up the National Commission on Fiscal Responsibility and Reform and charged its bipartisan members with figuring out how to bring federal accounts into better balance.

The current federal tax system is hardly up to the job. Rosanne Altshuler, director of the Urban Institute and Brookings Institution Tax Policy Center, ran the numbers on what kind of tax increase it would take to reduce the average deficit to 2 percent of GDP for a five year period. What Altshuler and her team at the Tax Policy Center did was simulate several revenue-raising tax changes, including raising all income tax rates proportionally, hiking taxes only for high-income taxpayers and either limiting or eliminating itemized deductions to broaden the tax base. Their conclusion: "Politically feasible tax increases within the current tax structure cannot generate sufficient revenues to bring federal budget deficits under control."

Well, the VAT certainly sits outside the current tax structure. The Washington Post's Charles Krauthammer called the VAT "the ultimate cash cow" and pointed to its virtues of expediency: "People are used to sales taxes, and this one produces a river of revenue. Every 1 percent of VAT would yield up to $1 trillion a decade." In fact, the Post carried two columns on the VAT in its April 19 edition, both exploring the political feasibility and impact of passing such a tax. Clearly, it is an idea that is being debated here and now.

Professor John J. McGlennon, who chairs the government department at the College of William & Mary in Virginia, thinks it is highly unlikely that Congress would pass a VAT. And yet, if it did, what would that mean for state and local sales taxes? In an interview with McGlennon, I pressed him on that point. Here are highlights from our conversation:

Why do you think Congress would not pass a VAT?

There are some real obstacles to a VAT being pursued as a major source of revenue for the national government. The first and most immediate hurdle is that states feel this is a source of revenue they have been able to rely on for a century. The usurping of that by the national government would be viewed very unfavorably by the states. There would be enormous opposition. The uncertainty of where states would be after the passage of a VAT is more than likely going to lead to a fight for the status quo.

States are already heavily reliant on the sales tax and while the VAT might be a little different, I don't see it as providing dramatic advantage over the sales tax at the state level. There is the assumption that there would be resistance to paying both a federal value-added tax and a state sales tax.

I suspect that the opposition in Congress would be overwhelming. Such a fundamental change in the tax system would be very difficult to sell.

What if a VAT did, by some outside chance, pass? What are the implications for states and their revenue systems?

There would be some pressure for states to reevaluate their reliance on the sales tax and probably some effort to have the national government distribute the VAT to the states rather than have the states collect their own. Many states would feel that would reflect a further weakening of their position to the federal government. Some states might get a smaller share from a VAT; others a higher rate of revenue. They might object to the level at which the VAT was set.

Would the VAT solve some of the issues that plague a sales tax in a service economy?

The VAT itself is running into some of the same problems in countries that use it that sales taxes are experiencing in states. In particular, whether the tax that is just on goods can be expanded to services.

In general, U.S. states are trying to find ways to extend the sales tax to services. The same issue applies to national VATs where they exist. The advantage of the VAT is you would be doing it on a national basis.

England and India both have a VAT that is applied to goods and something they call a service tax, which is essentially a sales tax on the provision of services. They tax both goods and services at the national level. In both cases, those are unitary countries where the national government provides more funding down to the local level.

Where would pressure to pass a VAT come from?

More conservative commentators argue for it because of their dislike of the income tax and its more progressive nature. But I don't sense a hunger among the American public for a fundamental change in the tax structure.

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