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Sunday, December 2, 2012

Bartlett: Tax Reform That Works -- The Case for a VAT

VATNew America Foundation:  Tax Reform That Works: Building a Solid Fiscal Foundation With a VAT, by Bruce Bartlett:

In my opinion, the greatest potential to break the tax reform gridlock is to get away from the model of cutting popular tax preferences in order to pay for rate reductions. That is the political equivalent of World War I-style trench warfare. I think it makes more sense to adopt a different approach, one more akin to Douglas MacArthur’s strategy of leapfrogging Japanese strongholds in the Pacific during World War II, leaving them impotent.

The tax equivalent of MacArthur’s strategy would be to leave in place all the existing deductions and credits, but make them irrelevant for most people. Prof. Michael Graetz of Columbia University has devised exactly such a plan. He would institute an exemption of $100,000 for married couples ($50,000 for singles, $75,000 for heads of households). All the existing deductions and credits would remain in place and could still be used by those with incomes above $100,000, but for the vast bulk of taxpayers they would become irrelevant because they would have no taxable income against which to take them. About 100 million of the 140 million people now required to file federal income tax returns would no longer have to do so. Graetz would replace the lost revenue with a value-added tax (more below) combined with a rebate mechanism to relieve the regressivity on those with low incomes and also replace refundable tax credits for the poor. A recent analysis of the Graetz plan by the Tax Policy Center concluded that it could be done in a deficit-neutral manner with a VAT rate of 12.4% – well below the rates that prevail in Europe.

In a recent column, Reuters columnist Reihan Salam, a political conservative, argued that the Graetz plan is the perfect way to accomplish tax reform while simultaneously dealing with the concerns of many conservatives that some 47% of tax filers now have no federal income tax liability. ... Nevertheless, conservatives are the principal opponents of a VAT. ...

[S]everal factors may now have changed that could make a VAT in the U.S. politically viable. There is widespread recognition that the federal debt is on an unsustainable course. Yet there is no significant political support for sharply cutting major entitlement programs such as Medicare. ... Barack Obama’s victory and Democratic gains in the Senate mean that such options are off the table, probably permanently.

As Harvard economist Larry Summers once explained, the reason the U.S. doesn't have a VAT is because liberals think it's regressive and conservatives think it's a money machine. We'll get a VAT, he said, when they reverse their positions. I myself long opposed the VAT on money machine grounds. I changed my mind when I realized that there was no longer any hope of controlling entitlement spending before the deluge hits when the baby boomers retire; therefore, the U.S. now needs more revenue, and a VAT is the best way to achieve this.

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I don't see how you tell people who voted for a liberal president that he is rewarding them with a highly regressive tax. I think this is in the category of people pushing whatever they were pushing before without much political savvy. It just doesn't make any political sense.

Posted by: michael livingston | Dec 2, 2012 3:39:47 AM

And to the 12.4% VAT, I add my 9.1% state and local sales tax. Sure, I'll still go out and buy a new car, even if a $20,000 basic model costs an extra $5,250 in taxes. I'll just wait a few years longer, till the old one wears out.

Job creation for vehicle repair technicians! They charge by the hour too. Now let's guess when their hourly rate converges with that of underemployed lawyers.

Posted by: Bob | Dec 2, 2012 8:53:48 AM

A VAT would be a more efficient (less likely to distort incentives ) tax than an income tax, but a VAT together with an income tax would be a disaster. There is no way that Congress could be trusted to substitute VAT revenues for income tax revenues. It would just treat a VAT as the mother lode of new revenues, to be handed out to friends and family and political supporters. However, a constitutional amendment eliminating the income tax in favor of a VAT would be a good idea.

Posted by: Douglas Levene | Dec 2, 2012 5:24:53 PM

Who are we kidding...there ain't going to be no crappy VAT

Posted by: Sid | Dec 2, 2012 6:28:28 PM

The great thing about a VAT in lieu of income tax is that I could save lot by getting the hell out of the USSA to spend my money in a nicer place.

Indeed, only fools work in a high income-tax country and spend in a high-VAT country!

Posted by: Jimbino | Dec 2, 2012 9:47:06 PM

Relax Bob. Your increased take-home pay will cover it. Bartlett has once again proved himself the new Jack Kemp. Which is to say, he is the only conservative who has had a new idea since Jack Kemp died. You may not like his idea (although I do), but he is clearly thinking outside of the tired, conservative no-new-taxes, always-smaller-government-no-matter-how-large-and-complex-the-nation-becomes straight jacket.

Posted by: Publius Novus | Dec 3, 2012 6:51:41 AM