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18 March 2011
Richard Asquith, of the TMF Group, reviews the stark fiscal picture facing corporate America, and if this may force the introduction of a VAT tax.
From April 2011, US businesses will suffer the highest corporation tax rate in the OECD. Faced with such a crippling burden in an already depressed economic environment, business leaders are longingly looking abroad where competitors in Europe and the emerging East enjoy much lower fiscal handicaps. How do other countries pull this fiscal alchemy off? The answer: consumer taxes such as Value Added Tax (VAT) or its close cousin, Goods & Sales Tax (GST).
Over 140 countries now impose VAT, including Europe and the BRIC countries. Does the hard-pressed and fiscally uncompetitive US industry think it is time to join them?
The race the US is losing to the bottom of the tax league tables
US business leaders protest a lot about their corporate tax burden. They complain that other countries are slashing their tax rates to attract foreign direct investment, creating jobs and future economic growth. The American Enterprise Institute for Public Policy Research recently declared that even after stripping out the effects of the US’ narrow tax base and myriad of tax offsets, the US corporate sector is still one of the most fiscally burdened.
Following the 1980’s Regan reforms of the corporate tax system, the federal tax rate dropped from 46% to 33%. However, since then, it has risen to 39.2%. This compares to the OECD average of 25%.
During this same period, the US’ competitors in Europe and Asia Pacific have been cutting their tax burden. Countries such as Ireland and Vietnam have drawn huge amounts of US investment based on their ultra-low corporation taxes.
How did the US’ competitors pull this off? Simple. They taxed their consumers instead.
Taxing the immovables
Global financial institutions such as the OECD and World Bank have long advocated the pros of shifting the tax burden from wealth-creating industry to consumers. It promotes a fairer and broader tax base. More directly, unsentimental global businesses can shift production at the first sign of a tax advantage. But the population is largely immobile due to personal and cultural ties. They may grumble at the polls, but they stay put and pay up.
As a result, taxes on consumers (VAT and GST) have been a real hit with governments around the world. Over 140 countries now have a VAT tax; the US is the only major OECD country not to have one. As the English can tell you from their experiences over 200 years ago, Americans have an aversion to taxation.
A crisis promotes a rethink
The possibility of the implementation of US VAT has been reignited by the ease with which highly indebted governments have been able to raise money in the current crisis without damaging inward investment.
In the past three years, there have been over twenty major increases around the world. It has not only drawn in near-bankrupt states such as Greece and Portugal, but also seen survivors of the crisis such as Germany and India raise their VAT rates. In almost every situation, there was no major rise in corporate taxes. For example, in the UK, a 2.5% VAT increase at the start of this year is specifically aimed at helping to cut the corporation tax from 28% to 25% - well below the US rate.
Beyond Europe, both India and China are planning to reform their confusing VAT systems to give a more competitive advantage to in-bound investors. Japan last week agreed to a consumption tax increase in 2012 to help manage its debt.
Is VAT the answer for harassed US business?
The US federal debt is now at USD 9 trillion, and is heading towards 90%+ of GDP – a ratio normally only matched by the Italy’s of the world. It can only be a matter of time before debt markets ask for some answers. Something has to give, and a subdued corporate America will favour the consumer.
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