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WILL THE PRESIDENT PUSH FOR A VAT?

Volcker’s Comments Hint a New Tax In Our Future

Paul Volcker recently made a comment that might reveal at least some of President Obama’s thinking when it comes to handling the federal government’s budget crisis. If this is truly an indication of his course, it does not bode well for American industry – or consumers. 

Paul Volcker, former chairman of the Federal Reserve Board, is the current chairman of the President’s Economic Recovery Advisory Board (PERAB). He is also the director of PERAB’s Tax Reform Task Force. The statement in question is Volcker’s remark that the United States “might need to consider a VAT [value-added tax] to help bring down deficits.” As early as December 2009, House Speaker Nancy Pelosi appeared on PBS’s Charlie Rose show and endorsed the idea of a VAT. She said in the “scheme of things,” particularly the economic recession, “it’s fair to look at a value added tax.” 

At the very least, these statements indicate that the President is not interested in bringing down deficits by doing what every responsible family and business must do—live within their means. Rather, he aims to bring down deficits by squeezing more money out of our businesses and families. And a VAT could be the worst way to do it. 

A VAT—value added tax—is a tax on the increase in value added to a product as is moves through each stage of production. Nearly all the European nations have VATS. This helps to explain why Europe consistently lags behind the rest of the developed world in production and consistently suffers with high unemployment rates. 

To illustrate how a 10 percent VAT operates, here’s an example using the production and sale of a book. 

Step one-timber. Say that the chain of production begins with harvesting timber, which for one book, costs one dollar. The tax on the timber would be ten cents, which is collected when it is sold to the paper mill for $1.10. The timber company would incur the ten-cent tax, which would be reported and paid to the government.

 Step two-paper. Processing costs and profit require the paper mill to charge one dollar over its materials cost. This dollar is the value added by the mill and is subject to a ten-cent tax. No tax is charged on the timber since that has already been taxed. When the paper is sold, the price is $2.20. Of that, two dollars cover the value of the paper itself and twenty cents cover the taxes imposed thus far. The paper mill must report the value added to the timber and pay the tax it collected on the sale of the product. 

Step three-publication. This is where the greatest value is added to the book. Royalties to the author, editorial costs, layout and printing, plus the publisher’s profits all add five dollars to the cost of the book. That means fifty cents must be collected from the bookseller, which brings the total wholesale cost of the book to $7.70. Another report must be filed with the government along with the payment of the additional taxes on value added at this stage of production.

Step four-bookseller. The final retail sale adds an additional three dollars of value to the book and an additional thirty cents of tax. The end consumer who buys the book at retail pays $11 for the book. Of this, $10 is distributed to the various businesses in the chain of production and $1 ultimately goes to the government as the value added tax.

People often confuse a VAT with a retail sales tax. They are not the same. A retail sales tax is a single tax levied upon the consumer at the final point of sale based upon the retail price of the product. The sales tax is collected by the retailer and paid to the government in a single transaction. There are no incremental taxes assessed along the chain of production. 

The VAT, while it may be imposed at the same rate, is assessed on each business in the various stages of production as illustrated above. It is vastly more inefficient than a retail sales tax in that it requires several layers of reporting and payment. By contrast, a retail sales tax requires just one level of reporting and payment. 

The VAT also opens the door of complexity in the administration and assessment of the tax. Complexity arises in determining the specific level at which value is added to a product, who is responsible for collecting and paying the tax at a given level of production and how those taxes are passed up the chain of production to eventually be paid by the end consumer. Now mix in the probability that social engineers such as control Washington would wish to build some level of progressivity into the system. A VAT is made progressive by introducing a series of exemptions or different tax rates (higher or lower) on certain products.

A major problem with a VAT is that it is completely hidden. Politicians like hidden taxes and that’s why they seem to gravitate to a VAT. But hidden taxes are very bad for consumers. With a hidden tax, you never know what you’re paying in taxes. This allows politicians to raise taxes and blame the rising cost of living on other, outside devils such as Big Oil, Big Tobacco, or Big Whatever. 

On the other hand, taxes that are transparent are more stable, tend to say low and are not generally subject to tinkering. The best example of that is retail sales taxes imposed by state governments. Just compare the number of changes to your state’s sales tax laws with the changes made in the Internal Revenue Code in just the past five years. The contrast is staggering. 

Throughout his campaign for President and even now, Obama continues to insist that he will not raise “any taxes” on families and small businesses making less than $250,000 per year. In light of the new health care law, this promise has already been obliterated. Seven of the nineteen new taxes or tax increases under that law fall directly on average, working families. You can be sure that the rest of the hikes will be passed along to middle-income Americans in the form of higher prices and lower wages. I’ve addressed this issue in detail in prior issues of this newsletter. See, for example, my article entitled, “Get a Tan-Pay a Tax,” in the January 2010 issue. 

If a VAT is adopted, that tax eventually falls squarely upon the consumer who purchases any product that is subject to the tax. As evidenced in the book-production example shown above, the tax is pushed to the next highest level until eventually, the full cost of the tax is reflected in the price of the product sold to the consumer. What the consumer does not understand is why the book he purchased for $10 yesterday now costs $11. Blame it on Big Publishing. 

In 2009, more than 236.5 million tax returns—both business and personal—were filed in the United States. Of that, just over 41.5 million were business tax returns, including employment tax returns. This does not include the number of information returns filed annually, which approaches 2 billion and itself will explode. See my article on this subject in last month’s PTT. 

If the United States adopts a VAT tax, the number of tax returns filed annually by businesses will explode. This will increase considerably the costs that must be paid by businesses to comply with the tax laws. Already these costs are substantial owing to the tremendous burdens imposed by the employment tax laws. You can expect that the compliance costs will be passed on to the end consumer along with the tax itself. As a result, the book that cost $10 yesterday will cost closer to $12.50 after imposition of a VAT. 

And this is true of every product manufactured in the United States. 

As an aside, during his campaign, didn’t the President harshly criticize American companies for shipping jobs overseas? What does he think will happen when American companies face another tax burden in the form of a VAT? I’m sure he’ll blame Big Manufacturing. 

154 HOUSE MEMBERS SIGN LETTER OPPOSING VAT  

On May 20, 2010, 154 House members led by Representative Joe Pitts of Pennsylvania signed a letter addressed to the co-chairmen of the President’s National Commission on Fiscal Responsibility and Reform, Erskine Bowles and Alan Simpson. The following is the entire text of that letter. 

_________________________

Dear Chairman Bowles and Chairman Simpson: 

As leaders of the President’s National Commission on Fiscal Responsibility and Reform you know that America’s fiscal house is in disrepair. Without serious reforms it is very possible that Europe’s debt crisis will become America's debt crisis. Therefore, we urge the Commission to focus on spending reduction, not tax increases. We must avoid the mistake Europe made when it tried to pay for bigger government with new taxes—namely the Value Added Tax (VAT).

 In a depressed economy, the number one priority of government should be to stimulate job growth. With unemployment at nearly 10 percent, Americans cannot afford the burden of a new job killing tax. But this is exactly what a VAT will do. A VAT will increase the cost of goods and services for all Americans, including the lower and middle classes. It will tax our manufacturers, sending even more jobs overseas. And, it will decrease consumption, which will deepen the recession and suppress entrepreneurialism. This is exactly what has happened in Europe where increased government spending and taxation has led to consistently high unemployment and suppressed economic activity. 

The VAT did not save Greece. During the decade preceding the global financial crisis that started in 2008, Greece’s government borrowed heavily from abroad to fund its burgeoning government programs. Between 2001 and 2008, Greece’s reported budget deficits averaged 5 percent per year. In 2009, the budget deficit was 13.6 percent of GDP. These deficits grew in spite of Greece’s 19 percent VAT rate. The result of increased government spending and taxation in Greece has been a consistently high unemployment rate of nearly 10 percent and a bankrupt government. 

Unfortunately, America is making the same mistake that countries like Greece made. In the heart of a debt crisis, Congress passed yet another entitlement program with no way to pay for it, and government spending continues to grow at alarming rates. Our national debt grew from $9 trillion to $12 trillion since 2008. In Fiscal Year 2009, the deficit was almost 10 percent of GDP. It is not hard to see how in just a few short years we could experience a crisis nearly identical to Greece. 

Disappointingly, some in Washington still believe that we must grow our government and the tax base to fix the debt crisis. Recently the President’s own advisors have suggested that a VAT could be good for America. Not even a 19 percent VAT was able to save Greece from a full-blown debt crisis. We should not expect different results in America. 

The bottom line is that America has never and will never be able to tax its way to prosperity. Our prosperity has always come from entrepreneurs, small-business owners, and hard working Americans working freely to pursue their dreams. 

Adding a VAT to an overly burdensome tax code will destroy American jobs and crush American innovation. We urge the Commission to consider other ways to rein in out-of-control government spending. 

Signed: 154 House Members

__________________________

I encourage you to circulate this to your own congressman and Senators right away. A pdf version of the letter bearing all 154 signatures is available here:

http://www.house.gov/pitts/documents/PittsLettertoDebtCommission.pdf

HOUSE RESOLUTION 1346

Opposing the Imposition of a Value-added Tax 

On the heels of sending the above letter to the National Commission on Fiscal Responsibility and Reform, the House of Representatives, led by Representative Wally Herger of California, introduced a resolution opposing a VAT. The resolution calls for the House to declare its opposition to the new tax. On May 11, the resolution was referred to the House Ways and Means Committee. Upon introduction, the resolution had 109 co-sponsors. This bill is House Resolution 1346, entitled, “Opposing the Imposition of a Value Added Tax.” The resolution reads as follows: 

Whereas a value added tax (VAT) is a type of sales tax that is assessed on goods at every stage of production; 

Whereas a VAT is a hidden tax that is ultimately passed along to consumers, but is embedded into the price of goods and services and therefore not transparent to the consumer; 

Whereas the average tax burden levied by the Federal Government since 1980 has been 18.2 percent of gross domestic product (GDP);

 Whereas, within the next 15 years, Federal taxes are projected to rise to the highest level in United States history; 

Whereas adding a VAT on top of the existing Federal income tax would increase the burden on United States taxpayers to unprecedented levels; 

Whereas the average VAT rate in Europe has risen from 5 percent when the tax was first introduced in the 1960s to 20 percent today; 

Whereas European countries that have imposed a VAT have seen their total tax burden rise to an average of over 40 percent of GDP; 

Whereas such high levels of taxation and spending crowd out private investment, which stifles economic growth and leads to chronically high levels of unemployment;

 Whereas the Internal Revenue Service Office of the Taxpayer Advocate has calculated that United States taxpayers spend approximately $200 billion and 7.6 billion hours a year to comply with Federal tax laws; 

Whereas a VAT would only add another layer of complexity and compliance costs to a fundamentally unsound tax system; 

Whereas, on September 12, 2008, then-Senator Barack Obama told an audience in Dover, New Hampshire, that “I can make a firm pledge: under my plan, no family making less than $250,000 will see their taxes increase—not your income taxes, not your payroll taxes, not your capital gains taxes, not any of your taxes.”;

 Whereas the burden of a VAT would fall most heavily on low-income and middle-class Americans;

 Whereas the true solution to the United States fiscal crisis is to rein in the unsustainable growth of Federal spending; and

 Whereas a VAT would do nothing to restore fiscal accountability in Washington, but would simply bankroll wasteful and inefficient Federal Government spending: Now, therefore, be it Resolved, That— 

(1) it is the sense of the House of Representatives that imposing a value-added tax would be a massive tax increase that would cripple families on fixed income and only further push back the United States economic recovery; and 

(2) the House of Representatives opposes a value-added tax. END 

Since bills with respect to revenue must originate in the House of Representatives, it is unlikely at best that any VAT will be adopted if it does not have substantial support in the House. A “Sense of the House” resolution such as this sends a clear message to both the Senate and the President that the House will not stand behind the idea of a VAT. The resolution is correct is its assertion that if a VAT is adopted in addition to the current income tax scheme, it will have a catastrophic impact on the tax burden of the typical citizen. As I explained in my introductory article about the VAT, its burden is passed up the line of production until the end consumer pays it in the form of higher cost products. 

The VAT is a production and employment killer. It must be stopped even before it gets started. This is why you should encourage your Congressman to get behind H. Res. 1346. Contact your Congressman and encourage him to support this resolution. You can locate the contact information for any Congressman by going to: www.house.gov