Implications of Different Bases for a Value Added Tax

Quick Summary

This paper, written by the Tax Policy Center (TPC) and sponsored by the Pew Fiscal Analysis Initiative, examines the impacts of different Value-Added Tax (VAT) bases and how they vary among income and age groups. The analysis considers how different tax bases affect the VAT rate needed to reduce the deficit by 2 percent in 2015, its distributional burden, and effective marginal tax rates on different income sources. This is the fourth in a series of papers that analyzes issues related to the enactment of a VAT.

Policy makers have discussed, and will likely continue to debate, the merits of implementing a value-added tax (VAT) as one option for reforming the tax system and/or addressing the federal budget deficit. When designing a VAT for either purpose, one important consideration is to what “base” it should be applied. That is, what are the types of consumption (spending on goods and services) that would be taxed under a VAT? The base chosen for the VAT affects both its distributional burden and its administrative costs. Understanding which consumption items affect specific income and age groups would inform policy makers on how alternative ways to design a VAT would affect the distribution of the tax burden across households.