Value-Added Tax Continues to Expand
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Bibliographic details
- Authors: Ruud de Mooij, ARTUR SWISTAK
- Published: March 1, 2022
Overview
- More countries are adopting the VAT, and its contribution to global revenue is rising.
- Publication: F&D Magazine, March 2022.
- Authors: RUUD DE MOOIJ, ARTUR SWISTAK.
- Opinions expressed are those of the authors; they do not necessarily reflect IMF policy.
How VAT Works
- VAT applies to transactions across the supply chain, not only sales to final consumers, and uses a crediting mechanism to avoid cascading taxes.
- Example with a 20 percent VAT:
- Retail sale price inclusive of VAT: $1.50.
- Price net of VAT: $1.25.
- VAT charged by the grocery store: $0.25 (20 percent of $1.25).
- Store purchase net price from factory: $1.00.
- Store pays factory: $1.20, including $0.20 VAT.
- Store credits $0.20 input VAT against collected VAT and remits $0.05 to the tax authority.
- The state ultimately receives $0.25 from the yogurt sale, collected sequentially along the supply chain.
- VAT is imposed on a destination basis: imports included in the VAT base; exports excluded by applying a zero rate on exports.
- The credit-invoice mechanism creates a need for tax administrations to provide refunds, especially to exporting businesses with significant input tax credits; nonpayment can create cash flow problems and deter investment.
- VAT fosters voluntary compliance because businesses have an incentive to obtain invoices to claim input VAT credits.
Ideal and Real VATs
- Textbook (ideal) VAT characteristics:
- Broad base comprising all final consumption.
- Single rate of tax, usually between 15 and 20 percent.
- Minimizes incentives to shift consumption across goods and services.
- Limitations of VAT for other objectives:
- Exempting food to support poor households can cost significant revenue because richer households also consume food.
- Better instruments for redistribution: progressive income taxes and cash transfers.
- Behavior regulation (e.g., drinking, smoking, polluting) better served by dedicated excises.
- Common deviations from ideal VAT:
- Reduced rates, exemptions, and special programs are widespread.
- Minimum registration thresholds based on turnover are used to exempt micro businesses to simplify administration.
- Exemptions and reduced rates undermine revenue objectives directly and indirectly by increasing collection costs and facilitating fraud.
- Reforms eliminating VAT concessions often meet fierce resistance from powerful lobby groups.
Emerging Challenges and the Next VAT
- Responses to cross-border e-commerce and digital services:
- Simplified VAT registration for nonresident vendors.
- Online platforms acting as VAT collectors for digital services.
- Potential future developments:
- Blockchain and digital money could provide tax administrations with information about transactions along the full supply chain, potentially removing the need for multistage VATs.
- If transaction data can be linked to individuals, consumption taxes could be personalized and compete with personal income tax as an efficient redistributive instrument.
- Overall assessment:
- VAT has withstood globalization, and its revenue share has risen in recent decades.
Key statistics and recent adopters / planned introductions
- More than 160 countries impose VAT.
- VAT raises, on average, over 30 percent of their total tax take.
- As a share of GDP, VAT brings in between 4 percent in low-income developing countries and more than 7 percent in advanced economies.
- Recent adopters include: Angola, Bahrain, Bangladesh, Oman, Saudi Arabia, Suriname, and the United Arab Emirates.
- Planning to introduce VAT: Bhutan, Kuwait, Liberia, Qatar, and Timor-Leste.
Policy recommendations and implications
- Preserve a broad VAT base and avoid multiple rates and exemptions to maximize revenue and minimize distortions.
- Use progressive income taxes and cash transfers to support poor households rather than VAT exemptions on basic goods.
- Use dedicated excises to target behavioral regulation (alcohol, tobacco, emissions) rather than differentiated VAT rates.
- Improve tax administration capacity to manage refunds, especially for exporters, to avoid cash flow problems and investment deterrence.
- Leverage digital technologies and platform-based collection to address cross-border e-commerce and digital services taxation.
- Consider future opportunities from blockchain and digital money for more comprehensive transaction information and potential redesigns of consumption taxation.
Value-Added Tax Continues to Expand, F&D Magazine, March 2022. RUUD DE MOOIJ; ARTUR SWISTAK.
Content in this bundle
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