The House Ways and Means Committee Republicans’ tax reform plan claims that US companies are at a competitive disadvantage since their exports are taxed in the US by the corporate income tax and also by foreign countries’ value-added taxes (VAT). They say foreign competitors’ exports to the US are not taxed in their domestic country and also not in the U.S. since there is no US VAT.
“In the absence of border adjustments, exports from the United States implicitly bear the cost of the U.S. income tax while imports into the United States do not bear any U.S. income tax cost. This amounts to a self-imposed unilateral penalty on U.S. exports and a self-imposed unilateral subsidy for U.S. imports. Because this Blueprint reflects a move toward a cash-flow tax approach for businesses, which reflects a consumption-based tax, the United States will be able to compete on a level playing field by applying border adjustments within the context of our transformed business and corporate tax system. For the first time ever, the United States will be able to counter the border adjustments that our trading partners apply in their VATs.”
The table shows several important facts:
· The US has significantly lower taxes as a percent of GDP, 25.9%, than the OECD average, 34.2%. Only Korea and Mexico have a lower tax-to-GDP ratio.
· Although the US has the highest statutory marginal corporate tax rate, its corporate income tax-to-GDP ratio of 2.2% is 22% lower than the average OECD ratio of 2.8%. Other countries have corporate income taxes that impose tax on their exports to the U.S.
· Other countries have higher taxes than the U.S. because they on average have higher payroll and consumption taxes, while the US tends to have higher personal income and property taxes.
· OECD countries’ general consumption taxes, principally VATs, account for 7.0% of GDP compared to the US states’ retail sales tax of 2.0%.
· Five percentage points of other countries’ 8.3 percentage point higher tax-to-GDP ratio average is due to other countries’ VATs, which apply to domestic consumption in their country. Similarly, another three-percentage point difference is due to higher payroll taxes in other countries that apply to their domestic workers. Under conventional economic incidence assumptions, those taxes don’t burden capital owners and shouldn’t affect relative competitiveness.
A border adjustment to a US business cash-flow tax is not needed to make US companies more competitive in their exports to other countries. The U.S. taxes corporate income from exports similar to how other countries tax corporate income on exports from their countries. Other countries’ VAT systems don’t subsidize exports or penalize imports. Rather their destination-based VATs impose similar taxation on household consumption from both domestic and imported goods.
There are lots of reasons to reform the US corporate income tax system, particularly lowering the high statutory marginal corporate tax rate, broadening the base and protecting the tax base from base erosion and profit shifting. But border adjustability of a business cash-flow tax base is not one of them.
If the U.S. enacted a destination-based VAT, it should be border adjustable so US households would pay the VAT on both domestic and imported products equally. Analogies of the DBCFT to a combination of a subtraction-method VAT and a reduction in the employer payroll tax may be beneficial in an attempt to get the World Trade Organization to accept border adjustments to a DBCFT, but the economic effects of a DBCFT would be quite different than a VAT.