Replace Sales Tax with Value Added Tax

Editor’s note:  A contributor carried on an exchange with the editor concerning his proposal that the state and the nation would be able to compete more effectively were we to replace sales and income taxes with a Value Added Tax (VAT), a form of taxation common in most advanced industrial nations.

The following is a description of VAT from www.Answer.com:

“With VAT, the taxable amount is based on the value added at each stage of the process of producing goods and bringing them to market. As an example, say that a company that makes socks buys cotton yarn for $1,000; adds $500 to its value in terms of labor, depreciation of knitting machines, and profits; then sells the completed socks for $1,500. VAT would be calculated as a percentage of the $500 value added by turning cotton yarn into socks. Of course, the sock company would also get credit for the amount of VAT it paid on the purchase of inputs, like cotton yarn.

“In general, the total VAT accrued during the production of goods is reflected in the price of items sold to final consumers, because each reseller along the way usually passes along its VAT costs. In this way, VAT is somewhat similar to a national sales tax, and the two forms of taxation are often compared by governments. Experts claim that VAT entails higher administrative costs but is easier to enforce than a national sales tax.”

According to the contributor:
An alternative to the sales tax would be the value-added tax.  “One problem with sales taxes is that they aren’t applied to everything. For instance, clothing is not taxed.  While it would be possible to “fix” the sales tax so that everything is covered, it would be easier to start with a clean slate in the first place.

“The big advantage of the VAT over a sales tax is that it favors local product and services over product and services imported from other states and other countries.

“Foreign countries have been using VAT as a tool to gain an advantage over American-made products. Adopting the VAT would give Pennsylvania manufacturers a leg up on not only foreign manufacturers, but manufacturers in other states. It has all the appeal of the sales tax, plus the added advantage of helping put Pennsylvanians [and Americans] back to work.

In the circumstance of Pennsylvania going it alone: “Congress has the right to regulate commerce among the several states, but this doesn’t interfere with interstate commerce. We aren’t restricting sales to Pennsylvanians or sales from Pennsylvanians to other states, and we aren’t charging taxes differently on locally produced products and services as opposed to the products and services of other states. It’s just that we tax consumption while they tax production. Therefore, if something is produced there and consumed here, it gets taxed twice, and if something is produced here and consumed there, it doesn’t get taxed at all.

“…The RIGHT answer is to have every state adopt a VAT system, so the rest of the world stops eating our lunch.  I’d like to see the federal income tax abolished and replaced with a VAT.

“For instance, Sarah Palin’s hubby buys a snowmobile, and sinks a lot of money into ‘souping’ it up. He expenses the improvements and depreciates the purchase price directly reducing his income.

“Then he sells the sled. It has a basis of zero, so the selling price is all profit which he must recapture, but now it’s taxed at capital gains rates. If capital gains are taxed at half the earned income rate, that sled which cost $10,000 and resells for $4,000 costs him $6,000 in actual money, but it reduces his taxable income by a net $8,000. If capital gains are free, as Obama is proposing, it reduces his taxable income by $10,000.

“Our federal income tax rates are far too low. They’d be OK if there weren’t so many loopholes.

“We think of the 1950s as a time of prosperity, and in many ways they were, but in 1954, Ike rewrote the IRS Code, with a top tax rate of 96%. Ronald Reagan had similar popularity one year into his first term as Obama has today, but he got the economy to recover when he raised taxes – but our current tax rates are lower today than they were before Ronald Reagan raised taxes.

“As a rule, you get less of what you tax – so it makes sense to tax consumption, rather than production.”