VAT Rears Its Head Again

With the federal deficit increasing at unsustainable levels due to ongoing wars in Iraq and Afghanistan, growing entitlement programs and a general inability to rein in government spending, lawmakers in Washington are once again looking for ways to raise revenue. And one of the top options — the long-dreaded Value Added Tax — could prove devastating for retailers.

VATs are the darlings of ivory-tower economists, and proposals have come and gone over the years. They are usually shot down, however, when retailers and others actually trying to run businesses point out the impact any major new consumption tax would have on the consumer spending that makes up two-thirds of our nation’s gross domestic product. A VAT can be imposed in various ways, but it ultimately amounts to a national sales tax paid by consumers at the cash register, driving up prices and discouraging spending.

But there are signs that the coming year’s VAT debate could have more legs than those of past years, with the potential for action fueled by the deficit and support coming from Democrats and Republicans alike. Senate Finance Committee chairman Kent Conrad (D-N.D.) wants a VAT considered by the bipartisan commission he and ranking member Judd Gregg (R-N.H.) plan to create for the purpose of addressing the deficit.

Going beyond the usual proposal of a VAT as an alternative to the current income tax system, Conrad and House Speaker Nancy Pelosi (D-Calif.) say a combination of a VAT and the income tax system is needed to address the increasing deficit that will result from scheduled growth in entitlement programs. Top tax policy advisors to former presidents George W. Bush and George H.W. Bush agree, and former Clinton White House Chief of Staff John Podesta and former Federal Reserve chairmen Alan Greenspan and Paul Volcker have also been on the VAT bandwagon to varying degrees.

To date, the Obama administration has rejected a VAT because of its regressive impact on lower-income families and Obama’s campaign pledge not to raise taxes on those earning less than $250,000 a year. But a number of economists have suggested ways to offset those concerns by providing other benefits to low-income taxpayers.

There’s no question a VAT could bring in significant tax revenue: recent estimates project about $60 billion for every 1 percent imposed across the board on all goods and services. Policymakers have suggested a VAT of 15 to 25 percent would be needed to address the $1.4 trillion deficit and also provide substantial reductions in current income tax rates.

The last time VAT was seriously debated in Washington, PricewaterhouseCoopers conducted an extensive study for NRF that found a consumption tax would cause economic disruption for years before any benefit could be seen. The study determined that GDP, employment and consumer spending would all take massive hits. In a normal economy, that would cripple many retailers; in today’s economy, it could be downright fatal.