Build Tax Morale
Informality, Consumption Taxes, and Redistribution
Abstract: Can taxes on consumption redistribute in developing countries? Contrary to consensus, we show that taxing consumption is progressive once we account for informal consumption. Using household expenditure surveys in 32 countries, we proxy for informal consumption using the type of store where purchases occur. We establish that the budget share spent in informal stores steeply declines with income, so that richer households pay a substantially larger share of their income in taxes. Our findings imply that the widespread policy of exempting food from taxation is hard to justify on equity grounds in low-income countries.
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Citation: Pierre Bachas, Lucie Gadenne, Anders Jensen, Informality, Consumption Taxes, and Redistribution, The Review of Economic Studies, Volume 91, Issue 5, October 2024, Pages 2604–2634, https://doi.org/10.1093/restud/rdad095
Enhancing VAT Compliance in the Retail Industry: The Role of Socio-Economic Determinants and Tax Knowledge Moderation
Abstract: Despite tax being a fundamental method to redistribute wealth and achieve a sustainable economic and social system, tax agencies and institutions in most countries are struggling with low tax collections. This issue is often attributed to the level of compliance among taxpayers. To gain more insight into this problem, a study was conducted to examine how socio-economic determinants such as probability of detection, tax complexity, tax penalty, tax sanctions, tax ethics, tax justice, government spending, and tax services quality impact VAT compliance decisions. The study drew a random sample of 770 retail industry participants from Jordan, an Arabic country, for a self-administered survey. Smart-PLS structural equation modeling was used to analyze and estimate the compliance model. The results indicated that all proposed direct relationships were supported, and the interactions between tax knowledge and the socio-economic determinants on VAT compliance were found to be significant. The findings of this research can be useful for policymakers and institutions responsible for taxpayers' communities to understand the role of tax knowledge in VAT compliance in the retail industry. The study emphasizes the significance of instilling tax knowledge, social and moral values among VAT payers, establishing an equitable system, and launching awareness programs in Jordanian society. Additionally, it contributes to existing literature by confirming a practical compliance model rooted in the socio-economic theory of regulatory compliance. This model incorporates the moderating effect of tax knowledge within socio-economic aspects of VAT compliance. By understanding the importance of tax knowledge, policymakers and institutions can develop effective strategies to boost VAT funds and improve compliance in the retail industry. This can ultimately lead to increased government revenues without placing an undue economic burden on lower-income taxpayers.
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Citation: Lutfi, Abdalwali, Ahmad Farhan Alshira’h, Malek Hamed Alshirah, et al. “Enhancing VAT Compliance in the Retail Industry: The Role of Socio-Economic Determinants and Tax Knowledge Moderation.” Journal of Open Innovation: Technology, Market, and Complexity 9, no. 3 (2023): 100098. https://doi.org/10.1016/j.joitmc.2023.100098.
The Redistributive Power of Cash Transfers vs VAT Exemptions: A Multi-Country Study
Abstract: Like high-income countries, low- and middle-income countries (LMICs) offer reduced rates and exemptions on particular goods and services in their value-added tax (VAT) systems. These policies are often motivated by distributional concerns and target items thought to take up a larger share of the budgets of poorer households. This paper explores the effectiveness of such policies in six LMICs. We estimate their impact on tax revenues, inequality and poverty, and compare these effects to existing cash transfer schemes and a hypothetical Universal Transfer (UT) funded by broadening the VAT base. To do so, we use tax-benefit microsimulation models incorporating input–output tables, allowing us to estimate the impact of exemptions on consumer prices due to VAT embedded in supply chains. We show that although preferential VAT rates reduce poverty, they are not well targeted towards poor households overall. Existing cash transfer schemes are better targeted but generally have limited coverage. A UT funded by a broader VAT base would create large net gains for the poorest households, reducing inequality and most measures of extreme poverty in each of the countries studied. Our results suggest that the widespread practice of providing special VAT treatment to certain goods and services is an expensive way of reaching poor households. In principle, expanding the VAT base and social protection schemes in tandem has the potential to both raise tax revenues and reduce poverty. Such reforms therefore warrant consideration for LMICs as they pursue Domestic Revenue Mobilisation and broader development objectives.
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Citation: Warwick, Ross, Tom Harris, David Phillips, et al. “The Redistributive Power of Cash Transfers vs VAT Exemptions: A Multi-Country Study.” World Development 151 (March 2022): 105742. https://doi.org/10.1016/j.worlddev.2021.105742.
Reassessing the regressivity of the VAT
Abstract: This paper reassesses the often-made conclusion that the VAT is regressive, drawing on tax microsimulation models constructed for an unprecedented 27 OECD countries. The paper first assesses the competing methodological approaches used in previous distributional studies, highlighting the distorting impact of savings patterns on cross-sectional analysis when VAT burdens are measured relative to income. As argued by IFS (2011), measuring VAT burdens relative to expenditure – thereby removing the influence of savings – is likely to provide a more meaningful picture of the distributional impact of the VAT. On this basis, the VAT is found to be either roughly proportional or slightly progressive in most of the 27 OECD countries examined. Nevertheless, results for a small number of countries highlight that broad-based VAT systems that have few reduced VAT rates or exemptions can produce a small degree of regressivity. Results also show that even a roughly proportional VAT can still have significant equity implications for the poor – potentially pushing some households into poverty. This emphasises the importance of ensuring the progressivity of the tax-benefit system as a whole in order to compensate poor households for the loss in purchasing power from paying VAT. In the broader context of the COVID-19 crisis, the findings of the paper suggest there may be scope in many countries for VAT reform to help address revenue needs, as this revenue may be generated with less significant distributional effects than previously thought. While standard VAT rates are high in many countries, OECD evidence shows that scope exists to broaden VAT bases. Nevertheless, any VAT increases, including VAT base broadening measures that impact the poor, should be accompanied by compensation measures for poorer households, such as targeted tax credits or benefit payments.
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Citation: Thomas, Alastair. Reassessing the Regressivity of the VAT. OECD Taxation Working Papers No. 49. 2020. https://doi.org/10.1787/b76ced82-en.
Tax Morale: What Drives People and Businesses to Pay Tax?
Abstract: Unlocking what drives tax morale – the intrinsic willingness to pay tax – can greatly assist governments in the design of tax policies and their administration, particularly in developing countries where compliance rates are low. This report builds on previous OECD research to identify some of the key socio-economic and institutional drivers of tax morale across developing countries, and seeks to test for evidence of the social contract by examining the impact of public services on tax morale. It also uses new data on tax certainty as an entry point to explore tax morale in businesses, where existing research is very limited. Finally, the report identifies a range of factors related to the tax system that may affect business decision making, how they vary across regions, and suggests some areas for future research. Overall, the report provides a range of suggestions for further work, and how tax morale considerations can be integrated into holistic tax compliance strategies.
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Citation: OECD. Tax Morale: What Drives People and Businesses to Pay Tax? OECD Publishing, 2019. https://doi.org/10.1787/f3d8ea10-en.
A Review of Studies on the Distributional Impact of Consumption Taxes in OECD Countries
Abstract: Consumption taxes are only rarely assessed for their impact on the economic well-being of individuals. This paper reviews various studies on this issue. It first describes the large differences in the size and structure of these taxes among OECD countries, and then reviews the types of assumptions that are typically made when estimating the redistributive impact of these taxes. Based on this review, the paper advocates the wider adoption of the methodology that is currently adopted by government statisticians in Australia, Canada and the United Kingdom – based on input-output tables and on the modelling of a large part of the consumption taxes levied on various types of final expenditures and production inputs. The paper argues that, beyond methodological differences, all studies agree that consumption taxes have a significant regressive impact on the distribution of household disposable income. Illustrative simulations – based on applying the detailed findings on the incidence of consumption tax in one country (Australia) to the tax structure and income distribution of other OECD countries suggests that omission of consumption taxes affects estimates of the overall size of the redistribution achieved through the tax system and of how this differ across countries and evolves over time.
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Citation: Warren, Neil. A Review of Studies on the Distributional Impact of Consumption Taxes in OECD Countries. OECD Social, Employment and Migration Working Papers No. 64. 2008. https://doi.org/10.1787/241103736767.
Is the Value Added Tax Naturally Progressive?
Abstract: A broad based consumption tax, such as a value added tax, is generally considered to be a regressive tax. This conclusion, however, has not taken into account the fact that in developing countries the commodities on which poor households spend most of their income, even if they are included in the legal tax base, are administratively impractical to tax. This paper employs a rich data set on household incomes and expenditures for the Dominican Republic. The data set covers 2042 goods and services purchased by households of different income and consumption levels. It also contains information on the type of establishment from which the items were purchased. With this information, we estimate the effective rate of tax that has been paid on each item purchased by households. These estimations include the effect of the different rates of the tax compliance across households with different expenditure levels. The results of the study show that the burden of the current VAT in the Dominican Republic is progressive over all the quintiles of household expenditure. Furthermore, if the base of the VAT is made comprehensive, the estimated incidence of the burden of the VAT is still progressive over all the quintiles of household expenditure.
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Citation: Jenkins, Glenn P., Hatice Jenkins, and Chun-Yan Kuo. “Is the Value Added Tax Naturally Progressive?” Queen’s Economics Department Working Paper, No. 1059 (2006). https://hdl.handle.net/10419/189339.
Small Business Owners' Attitudes on VAT Compliance in the UK
Abstract: The aim of this study is to gain an understanding of the factors involved in value added tax (VAT) compliance. It draws on previously acquired social psychological knowledge in respect of income tax compliance. Three groups of business people were interviewed (10 restaurant proprietors, nine flooring/furnishing proprietors and eight builders who are registered for VAT purposes). The findings show that there are a number of similarities with income tax compliance, with factors such as equity and sanctions emerging. Of some importance would also seem to be the psychological phenomenon of mental accounting. Participants vary in the way they perceive the VAT monies collected. Some view it as belonging to the business (or themselves), whilst others perceive it as money belonging to H M Customs and Excise. It is possible that the different ways of mentally accounting for VAT money influence compliance.
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Citation: Adams, Caroline, and Paul Webley. “Small Business Owners’ Attitudes on VAT Compliance in the UK.” Journal of Economic Psychology 22, no. 2 (2001): 195–216. https://doi.org/10.1016/S0167-4870(01)00029-0.
Is a Value Added Tax Regressive? Annual Versus Lifetime Incidence Measures
Abstract: We measure the lifetime incidence of a value added tax (VAT) using data from the Panel Study of Income Dynamics (PSID) and the Consumer Expenditure Survey (CEX). Using annual income to measure economic well-being makes a VAT look quite regressive. Using two different measures of lifetime income, we find that a broad-based VAT would be only modestly regressive. Using current consumption as a proxy for lifetime income makes a VAT proportional. We discuss why these two approaches to measuring lifetime income lead to different incidence results. We also consider the distributional impact of zero rating food, housing, and medical expenditures.
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Citation: Caspersen, Erik, and Gilbert Metcalf. “Is a Value Added Tax Regressive? Annual Versus Lifetime Incidence Measures.” National Tax Journal 47, no. 4 (1994): 731–46. https://doi.org/10.1086/NTJ41789105.