Memorandum explaining the discussion of merits of Congress adopting a federal Value Added Tax - Term Paper Example

?Running Head: Memorandum Explaining the Memorandum Explaining the Discussion of Merits of Congress Adopting a Federal Value-Added Tax University Name Subject Name Instructor Name Date of Submission Memorandum Explaining the Discussion of Merits of Congress Adopting a Federal Value-Added Tax Introduction The purpose of this memorandum is to inform about the recent developments in the Congressional policies for the formulation of an integrated federal tax framework with special reference to value-added tax or VAT. The memorandum is aimed to explain the VAT scheme, discuss the current proposals in Congress for the adoption of a federal VAT, and further discuss the policy pros and cons in this regard. The VAT scheme at the federal level is supposed to help the federal government in handling the crisis of increasing debt, bring about a uniformity of tax pattern throughout the country, and reduce the pressure of taxation on income and profit. Implementation of VAT is a debated issue for decades, and of late, policy makers are taking serious measures to impose VAT on the United States. Discussion Explanation of the Value-Added Tax Scheme Value-added tax or VAT is a widely accepted and adopted tax system in most parts of the world including Europe. It is primarily levied from the personal end-consumers of the products. The framework does not provide for excising taxation only through income. It is rather a sort of proportional tax, which makes the people with higher earnings pay relatively more at the very rate in which they consume more. In a VAT system, different categories of goods and supplies may be taxed at diverse rates. Countries that are implementing VAT tend to reduce income tax on the lower income groups. A combined effect of reduced tax on the lower income groups coupled with taxation proportional to consumption is likely to culminate at lower tax extraction from the poor. This is the very way in which the policy makers in Europe want the VAT system to function. Adoption of such a system of taxation has thus been marked as a step toward “European-style welfare state in America” (Mitchell, D. J., 2009). In the United States, the state of Michigan is already using a sort of VAT, which is termed as the Single Business Tax (SBT). The SBT was developed in as early as 1975. The framework of SBT can be scrutinized to understand the practical implementation of the VAT scheme in American context. In the year 2008, SBT was repealed and replaced by another taxation framework called the Michigan Business Tax, which can be regarded as a form of continued VAT implementation. (Roberts, W. D. & Gell, M. B., 2010) At the federal level, the US Congress is trying to institute the VAT scheme since 1982. “Overall, the options have stressed that a broad-based consumption tax, such as a VAT, could raise large sums less easily than incremental increases in income tax rates, but with less loss of economic efficiency; that excise taxes on selected products could be raised to minor good effect; and that broadening the tax base could raise significant sums and improve economic efficiency.” (Reischauer, R. D., 1994) Current Proposals in Congress for Adoption of a Federal Value-Added Tax The US taxation system is based on a strong historical milieu, and the US Congress is aware of that. The historic Boston Tea Party, which took place prior to the War of American Independence, was related to the unfair tax schemes imposed by the then British rulers. However, the framework of the federal governance of the country remained under scrutiny and criticisms throughout the 19th and 20th centuries. Income tax regulations have been a primary federal concern. The framework of the federal taxation system of America has not been without its problems (Adams, T. S., 1921). Too much dependence on income tax revenues may lead to serious economic problems. The Congress thus proposes to impose a value-added or national sales tax. The Congressional Budgetary Office (CBO) has been pointing at the revenue raising potential of a national sales tax or VAT since 1982, but no significant action has been taken so far (Reischauer, R. D., 1994). The current proposals of Congress in this context are based on the concern about the large numbers and high costs related to the tax expenditures. The contemporary debate for tax reform deals with broadening the corporate and individual income tax bases coupled with lowering the rates of marginal tax. The 112th Congress proposes a sort of “New Tax” (Bickley, J. M., 2011), which is categorized broadly under environmental and consumption taxes. The federal VAT scheme can be considered under the broad-based consumption tax. “In recent Congresses, three major types of broad-based consumption taxes have been introduced in congressional tax proposals: the value-added tax (VAT), the retail sales tax, and the flat tax. These possible broad-based consumption taxes have the potential of a robust revenue yield.” (Bickley, J. M., 2011). There are three substitutive methods for calculating VAT. These methods are the addition method, subtraction method, and credit method. In the category of credit method, there is the credit-invoice method, where the firm has to “show VAT separately on all sales invoices” and “calculate the VAT credit on inputs by adding all VAT shown on purchase invoices” (Bickley, J. M., 2011). In furtherance to the Congress’ proposals, the Congressional Research Service points out, “All developed nations, except Japan, use the credit-invoice method. Japan uses the subtraction method.” (Bickley, J. M., 2011) In sum, it is most probable that the Congress is considering a credit-invoice method based federal VAT scheme to be most viable and reliable for the United States. More than a half of the senior business executives surveyed by the Tax Governance Institute (TGI) estimate that some kind of value-added tax or VAT would be introduced in America within the next five years, i.e., 2014-2015 (Neil, B. A., 2010). Moreover, B. A. Neil (2010) also points out that in a White Hose meeting in early 2009, on the government’s budget issues, a roomful of tax expert pleaded with Treasury Secretary T. F. Geitner to contemplate on a VAT. Discussion of Policy Pros and Cons The utility of VAT system of taxation is debated throughout the world. In the United States, the federal VAT scheme has yet not been implemented. However, there are both the pros and cons of the Congressional policy regarding federal VAT. The policy pros of the VAT scheme entail the reduction of the American economy’s too much dependence on the income tax revenues. In the United States, people with higher income have to pay a heavier income tax, which is regarded as unfair by many conservatives (Edwards, C., 2009). A strong revenue network through federal VAT can compensate the inequalities in the current income tax rates. More and more Democrats and other policy makers are focusing on the policy process in regard of VAT. According to them, VAT will provide the federal government with a reliable instrumentation to handle deficit and pay off the debts. John Podesta (who led President Obama’s transition team) thinks that the only way to stabilize and grip the troublesome debt situation is to reduce the hike in health care expenditures, reduce federal spending, and add new means to increase revenue input (Neil, B. A., 2010). The progressive value-added tax scheme appears to be a boon in this context. The policy cons of VAT scheme are rather numerous and thought provoking. The European experience of implementing the VAT is important. VAT is supposed to lower the taxes on profit and income. However, the European experience does not prop up this supposition. The VAT smoothes the progress of superior tax rates on income since politicians time and again argued that an elevated VAT had to be going together with burdens of higher income-tax to ensure that the tax burden was not very much being shifted toward the lower-income taxpayers (Mitchell, D. J., 2009). VAT scheme will certainly tempt the legislatures to draw more revenue by implementing small increases in the VAT rates. “When imposed in 1967, Denmark’s VAT was ten (10%) percent; it is now twenty-five (25%) percent, in addition to a top income tax rate of around fifty-nine (59%) percent.” (Neil, B. A., 2010). This can take place in the case of the United States as well. Moreover, VAT is likely to encourage undocumented cash transactions, particularly among the small-scale entrepreneurs, which will lead to wide spread corruption. VAT may be instrumental in replacing the tariff revenues too that were lost due to the extensive trade liberalization through the World Trade Organization and related frameworks. However, this may in turn, decrease the overall bulk of trade and adversely affect the import export businesses in the country. Conclusion Implementation of the federal VAT scheme does not appear to be a distant or unviable possibility any more. The US Congress has to undertake concrete initiatives and advanced research to formulate a step by step method by which this tax pattern is supposed to be structured and activated throughout the United States. The economists, policy-makers, politicians, and academics from both the conservative and liberal schools of thought must deeply reflect on the pros and cons of the Congressional proposals in this regard. References Adams, T. S. (1921). Fundamental problems of federal income taxation. Quarterly Journal of Economics, 35(4), 527-556. Bickley, J. M. (2011). Tax Reform: An Overview of Proposals in the 112th Congress. Washington D. C.: Congressional Research Service. Edwards, C. (2009). Economist Debates: Resenting the rich: Statements. Retrieved June 3, 2011, from www.economist.com/debate/days/view/293. Mitchell, D. J. (2009). Greedy politicians intrigued by Value Added Tax to finance European-style welfare state in America. Retrieved June 3, 2011, from http://www.cato-at-liberty.org. Neil, B. A. (2010). VAT: The elixir for America’s economic ills? Journal of Finance and Accountancy, 7(3), 1-9. Reischauer, R. D. (1994). Congressional Budget Office. Retrieved June 3, 2011, from http://www.cbo.gov/ftpdocs/75xx/doc7536/94doc10b.pdf. Roberts, W. D. & Gell, M. B. (2010). Practical Guide to the Michigan Business Tax. Riverwoods: CCH Inc. Read More