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In The solution to income disparity? Consumption taxes, Timothy Taylor claims the following:

Why are VATs and sales taxes so unpopular? One common critique is that they are regressive. ... But if you measure a VAT or sales tax relative to total spending by individuals—the rich generally spend a lot more than the poor—those taxes actually look progressive.

The argument that higher value-added taxes is a great solution to income inequality, because it can fund cash transfers to the less fortunate, is hardly new to me. However, it is the first time I read that VATs may naturally be progressive, even without any cash transfer to the poor.

Is there any literature backing his claim?

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Borror0
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    Consider that food and housing are the biggest expenses, proportionate to income, for low-income families and those expenses are typically VAT free. – horatio Nov 02 '11 at 21:13
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    I think it would help with the research if you define "progressive" more precisely. Because under a definition of progressive taxes I'm thinking of, that quote in your Q is already 100% of the backing you're asking for, based on 3rd grade math as reference (10% of $1000 is > 10% of $100 and it's pretty obvious rich spend more than poor). – user5341 Nov 03 '11 at 04:50
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    @horatio: Where are housing and food VAT free? In the US? – user unknown Nov 03 '11 at 08:03
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    us, uk, ireland, australia, etc. I am sure you can find exceptions. ( http://customs.hmrc.gov.uk/channelsPortalWebApp/channelsPortalWebApp.portal?_nfpb=true&_pageLabel=pageTravel_ShowContent&id=HMCE_CL_000118&propertyType=document#P23_739 ) ( http://www.telegraph.co.uk/finance/personalfinance/consumertips/7854289/How-to-make-your-shopping-list-VAT-free.html ) etc. – horatio Nov 03 '11 at 13:51
  • @DVK: A [progressive tax](http://en.wikipedia.org/wiki/Progressive_tax) is when the percentage taxed goes up as the taxable amount goes up. If you prefer, it means that the higher your income is, the percentage of your income that goes to tax goes up. A flat tax, however, is considered a regressive tax. – Borror0 Nov 03 '11 at 20:07
  • @Borror0 - a flat tax with first N dollars excluded would be fully progressive under that definition. It wouldn't be as punishing as people who like the idea of progressive tax want, but its numbers would fit the definition above (or, for the same efect, exempt basic staples instead of first N). Just to be clear, I was referring to income flat tax, NOT consumption flat tax (which can be regressive or progressive depending on level of consumption vs income). – user5341 Nov 03 '11 at 21:50
  • @DVK: Correct. A flat income tax with N dollars excluded is classified as a progressive tax. It's an initial tax rate of zero, with a a marginal tax rate superior to zero for all income above a certain amount. Add a few more marginal tax rates, and you've got most income taxes in the Western world. – Borror0 Nov 03 '11 at 22:29
  • @Borror0 - it's as if they were all designed by a [shadow cabal bent on a New World Order](http://skeptics.stackexchange.com/questions/5644/does-the-bilderberg-group-have-influence-on-world-events) – user5341 Nov 03 '11 at 22:59
  • @Borror0: "A flat tax, however, is considered a regressive tax". Erm, what? Flat tax w/o exemptions is neither progressive, nor regressive. BTW. by these definitions fair tax (http://goo.gl/NDsjH) is regressive... – vartec Nov 04 '11 at 14:15
  • @vartec: Flat taxes are often considered regressive because rich people spend a smaller percentage of their income on non-essential goods (food, housing, health care, etc.). – Borror0 Nov 04 '11 at 19:47
  • @Borror0: if the rate is flat, how does it matter what do they spend it on? – vartec Nov 05 '11 at 17:13
  • @vartec: The poors have much lower elasticities on everything. A raise in prices affect them much more than it affects the rich. So, even if the rate is flat, how much it affects you varies depending on income. This is why flat taxes are called regressive. – Borror0 Nov 06 '11 at 01:53
  • @Borror0: regressive/flat/progressive is determined by very simple **mathematical** formula. Anything else is irrelevant. This is about economy, not social sciences. – vartec Nov 08 '11 at 14:21
  • @horatio - Most foods except the basics are subject to the GST (Goods and Services Tax) in Australia. Things like bread are not, but doughnuts are. Raw chickens not but cooked chickens are. – dave Nov 10 '11 at 19:19
  • Same in the US. – horatio Nov 11 '11 at 15:24

3 Answers3

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A 'progressive' tax does not mean that the rich pay more than the poor. A 'progressive' tax means that the rich pay proportionately more than the poor. A 'regressive' tax is one where the rich pay proportionately less than the poor.

Value added taxes are generally considered regressive.

The message from this data is unambiguous: the poorest 20% of households in the UK have both the highest overall tax burden of any quintile and the highest VAT burden. That VAT burden at 12.1% of their income is more than double that paid by the top quintile, where the VAT burden is 5.9% of income. VAT is, therefore, regressive.

However many countries make adjustments to make them more progressive, such as the UK which exempts basic necessities like food. With those adjustments VAT may be considered progressive according to a study examining the UK version specifically. Or it may not. Flat rate sales taxes with no exemptions are more likely to be regressive.

Borror0
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DJClayworth
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  • Your link on "considered regressive" contains a lot of information that answers the question. Bring that information here. You didn't attempt to summarize it. Good answers don't only link to the information, they summarize the evidence. See, for example, my answer to [this question](http://skeptics.stackexchange.com/questions/351/does-a-car-with-a-hybrid-engine-and-lithium-batteries-pollute-more-than-a-car-wi/468#468). – Borror0 Nov 03 '11 at 20:38
  • http://www.taxresearch.org.uk/Documents/ifs7.jpg shows that it's progressive regarding to spending. – vartec Nov 04 '11 at 13:13
  • @vartec If you read the entire document that graph came from - which I referenced above - you will find that it comes to the opposite conclusion. – DJClayworth Nov 04 '11 at 13:44
  • @DJClayworth: I did read it. It's just socialist propaganda. VAT is not **income** tax. It's **spending** tax. Graph shows **hard data** about VAT being progressive. – vartec Nov 04 '11 at 13:47
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    @vartec So a detailed study is "socialist propaganda" (and invalidated by the perjorative label you apply to it), but you choosing a single statistic that backs up your view is "hard data". – DJClayworth Nov 04 '11 at 13:54
  • @DJClayworth: it's not "detailed study", it's "proving" political agenda by comparing apples with oranges (income vs spending tax). – vartec Nov 04 '11 at 14:08
  • See also: http://www.ons.gov.uk/ons/rel/household-income/how-indirect-taxes-can-be-regressive-and-progressive/2001-02---2008-09/art-regressive-and-progressive-taxes.pdf – James Nov 04 '11 at 17:07
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    @vartec: If you feel the data has not been properly presented, feel free to write another competing answer. – Borror0 Nov 04 '11 at 19:48
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The very wealthy tend not to spend all that much of their money on things that are typically subject to consumption tax. According to Forbes (in 2006; much clicking needed to find the data), the only category where Americans with incomes in the top 20% vastly outspend those in the bottom 20% (fractionally) is in insurance and pensions, neither of which is normally taxed. (Forbes doesn't mention investment, but this also follows similar trends.) Even if you avoid taxing food, this really shifts the relative burden not "progressively" more to higher income earners, but centrally to middle-income earners.

If you added a VAT to second residences and to investments not covered by FDIC, then maybe there would be a case for progressivity. As it is, the article says (emphasis mine):

VATs and sales taxes tend to be more efficient and harder to avoid than income taxes.

which I would interpret as arguing that the best that can be said now is that there would likely be fewer loopholes in practice--but this is true of almost any changed system, since loopholes can take time to install. (That loopholes are the primary source of avoiding income taxes, at least for corporate taxes, is described here.)

Rex Kerr
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  • Can you please add a relevant citation from the article? – Sklivvz Nov 02 '11 at 22:46
  • He has not talked about loopholes. If you think that he has, you're wrong. – Borror0 Nov 02 '11 at 22:58
  • @Sklivvz - Added citation for loopholes--both a quote the original article, which I take as an implicit acknowledgement, and a supporting link for the claim that loopholes, not just not-paying-taxes, is likely the major means of income tax avoidance. – Rex Kerr Nov 02 '11 at 23:35
  • I'd be interested to see any research on the ways rich individuals not just corporations can avoid tax. In the UK some independent analysts have suggested that raising tax on the most wealthy from 40% to 50% has actually lowered the government's revenue as the incentive to find loopholes has increased so much. What many find unfair is that the effective tax rate on the rich is so low not the notional rate. VAT-style tax is unavoidable in a way that income tax isn't. so maybe there is something in an analysis that looks at real total tax paid not just rates. – matt_black Nov 03 '11 at 00:00
  • @matt_black - It's not the VATness but the flatness which makes it hard to exploit loopholes. There are no holes with a flat tax. But income tax loopholes are not mostly on your income (save for things like child tax credits), they're on your expenditures! Any expenditure-based tax loophole could be translated to a VAT if you wanted to. Flat == simple == no loopholes, but also flat == not progressive. – Rex Kerr Nov 03 '11 at 00:14
  • @RexKerr I guess I'm asking whether anyone has studied the balance between the ability to exploit loopholes (clearly anti-progressive as the rich are better than the poor) and the gain from flat (not progressive, but not exploitable by the rich either). – matt_black Nov 03 '11 at 00:59
  • @matt_black - Good question. I don't know. – Rex Kerr Nov 03 '11 at 01:33
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    @matt_black: Actually, it's the fact that consumption taxes can only be avoided by not spending your money. Thus, the worse scenario that can happen is that the tax forces you to invest, which means you'll have more money in the future. On the other end, income taxes encourage you to work less because it decreases the marginal value of additional work while the marginal cost stays the same. – Borror0 Nov 03 '11 at 01:44
  • @matt_black: I'm not sure what the question is, but if you clarify I'm sure I could help you. – Borror0 Nov 03 '11 at 01:48
  • I don't find your answer to actually answer the question. First of all, your refer us to newspaper article rather than the source material. By that logic, the article I am skeptical would be admissible evidence. That's silly. Secondly, I'd prefer to see proof that VATs reduce (or don't reduce) income inequality without transfers. Economics is filled with rather unintuitive conclusions. – Borror0 Nov 03 '11 at 02:03
  • @Borror0 - The NYT article both has specific examples and cites its sources for the main conclusion that I was using it for. The article you posted cites a _projection regarding revenue_ not progressivity, and only notes one correlation in support of that claim. I would like better data also, but controlled experiments are hard to find, and relevant studies are usually not available for free to the public. – Rex Kerr Nov 03 '11 at 05:16
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    @matt_black In practice VAT can be avoided quite effectively. In the UK, a registered business can claim back the VAT on purchases. Many wealthy people own business. To avoid VAT they transfer as many of their life expenses onto their business as possible. For those that work for companies, they take pay in non cash perks. For example using the company owned hunting lodge for holidays. – Rincewind42 Nov 03 '11 at 05:21
  • @Rincewind42 - um... company owned hunting lodge... Would love to know how many companies have that :) – user5341 Nov 04 '11 at 19:15
  • @Rex Kerr, "Flat == simple == no loopholes" My limited understanding is that some of the proposed flat taxes for the US exclude, for example, Capital Gains - providing the first loop-hole. – Oddthinking Nov 08 '11 at 12:52
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VAT is sales tax. It is not an income tax. Thus subject to taxation are personal and corporate expenditures. And as far as expenditure goes, VAT is in clearly and evidently progressive (dark green columns on figure below).

VAT vs expenditure
Source: http://www.taxresearch.org.uk/Documents/VATRegressive.pdf

Now, the argument is that poor spend more than they earn, while rich make savings, thus the first spend higher percentage of their income on VAT. There are however two flaws with this argument.

First, it is typical apples to oranges argument. VAT is sales tax, not income tax, so it makes absolute no sense at all to calculate VAT as percentage of income.

Second, as you can clearly see, even if you just look at income (light green on the figure), it's still progressive. Ironically, these facts don't prevent author of the referenced article from arguing, that VAT is regressive.

vartec
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  • It's not a given that just because VAT is applied to spending, it's progressiveness should be applied as proportional to spending. If you took that argument to its limit, VAT is applied only to VAT-eligible spending, in which case the proportion would be exactly the same for everyone - i.e. the VAT rate. 'Progressiveness' is usually calculated as a proportion of income. Your argument about it being "progressive with respect to income" is also false, as the graph only shows VAT as a proportion of spending. It tells us nothing about VAT as a proporation of income. – DJClayworth Nov 10 '11 at 17:55
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    @DJClayworth: "A progressive tax is a tax by which the tax rate increases as **the taxable base amount** increases". – vartec Nov 11 '11 at 09:44
  • Please go to chat if you want me to explain more. – DJClayworth Nov 11 '11 at 14:32