KLUWER LAW INTERNATIONAL Systems of General Sales Taxation Theory, Policy and Practice Robert F. van Brederode da Wolters Kluwer Law & Business AUSTIN BOSTON CHICAGO NEW YORK THE NETHERLANDS
Preface and Acknowledgments List of Tables and Figures List of Abbreviations List of Cases xvii xix xxiii xxv Chapter 1 General Introduction 1 Chapter 2 Short Overview of the History of General Sales Taxation 5 Chapter 3 Systems of Sales Taxation: General Overview 11 3.1. Single Stage Taxes 12 3.1.1. Manufacturer Tax 12 3.1.2. Wholesaler Tax 14 3.1.3. Retail Tax 15 3.2. All Stage Taxes 16 3.2.1. Gross Receipt Taxes 18 3.2.2. Value Added Taxes 19 3.2.2.1. Addition Method 20 3.2.2.2. Subtraction Method 21 3.2.2.3. Tax Credit Method 21 3.3. Summary and Evaluation 23
viii Chapter 4 Characterization of Consumption Taxes 25 4.1. Direct Versus Indirect Tax 25 4.2. General Coverage 27 4.3. Classification on the Basis of the Scope of the Tax 27 4.3.1. Consumption Type 27 4.3.2. Income Type 28 4.3.3. Product Type 28 4.4. Tax Incidence 29 4.4.1. Who Bears the Burden of a Consumption Tax? 29 4.4.2. Regressivity of Consumption Taxes 33 4.4.2.1. Introduction 33 4.4.2.2. Terminology 33 4.4.2.2.1. Progressive Taxes 33 4.4.2.2.2. Proportional Taxes 34 4.4.2.2.3. Regressive Taxes 34 4.4.2.3. Philosophical Perspective 34 4.4.2.4. Regressivity in the Political Debate 37 4.4.2.5. The Argument for VAT Being Regressive 38 4.4.2.6. Preliminary Remarks 39 4.4.2.6.1. The Effect of Regressivity Is Relative 39 4.4.2.6.2. VAT Is Only One Tax in a Tax System 39 4.4.2.6.3. Countermeasures 40 4.4.2.7. Empirical Verification of VAT's Regressivity 40 4.4.2.7.1. Level of Expenditure Is Constant 41 4.4.2.7.2. Savings Remain Untaxed 42 4.4.2.7.3. Individual Income Levels Are Constant 43 4.4.2.8. The Very Poor and the Very Rich 44 4.4.2.9. Conclusions 45 4.5. Neutrality 45 4.6. Economic Efficiency 47 Chapter 5 Gross Receipt Taxes 51 5.1. Introduction 51 5.2. Overview of Current GRTs in the United States 51 5.3. Economic Evaluation. 54 5.3.1. Broad Base 54 5.3.2. Low Rate 55 5.3.3. Stable Source of Revenue 56 5.3.4. Tax Cascading 56 5.3.5. Vertical Integration 60
ix 5.3.6. Disparities in Effective Tax Rates 62 5.3.7. External Neutrality 63 5.3.8. Lack of Transparency 63 5.3.9. Economic Assessment 64 5.4. US Legal Issues 65 5.4.1. Nexus Issues 65 5.4.2. Apportionment Issues 68 5.4.3. Path to Collision 70 5.5. Conclusions 70 Chapter 6 Retail Sales Taxes 6.1. 6.2. 6.3. General RSTin. 6.2.2. 6.2.3. 6.2.4. 6.2.5. 6.2.6. 6.2.7. 6.2.8. 6.2.9. 0. 1. 2. 3. Federal 6.3.1. 6.3.2. the United States at the Subnational Level Introduction General Description and Characterization Scope of the Tax Rates Distributional Effects 6.2.5.1. Tax Revenue 6.2.5.2. Cascading Effect 6.2.5.3. Regressivity Tax on Services Interstate Services Interstate Trade in Goods Compliance Coordination of State and Local Sales Taxes Merits and Demerits. 1. Revenue Productivity.2. Revenue Stability.3. Tax Efficiency.4. Operational Cost.5. Resource Allocation.6. Fairness of the Tax.7. Reduced Taxpayer Awareness Self-Supply Rules Conclusions Sales Tax in the United States Introduction 71 71 71 71 73 74 76 76 76 76 77 78 78 79 81 82 82 82 82 83 83 83 84 84 84 85 85 85 ix 86 Outline of the Proposed National Retail Sale 6.3.2.1. General" 86 6.3.2.2. Abolition of the IRS 87 6.3.2.3. Collection Costs Reimbursement 88 6.3.2.4. Low Income Prebate 88 6.3.3. Economic Effects of NRST 92
x 6.3.4. Effects on Federal/State Relationship 93 6.3.5. Rate for the NRST 94 6.3.6. Tax Avoidance and Evasion Effects 96 6.3.7. Conclusions 98 Chapter 7 Subtraction VAT 99 7.1. General 99 7.2. The Japanese Consumption Tax 100 7.3. Subtraction VAT Proposals in the United States 102 7.4. The Michigan Business Tax 104 Chapter 8 Credit Invoice Method VAT 107 8.1. Introduction 107 8.2. Problem Areas within the Credit Invoice Method VAT 111 8.2.1. Rates and Rates Variation 111 8.2.1.1. Rationale for Rate Variation 111 8.2.1.2. Effect of Rate Variation 112 8.2.1.2.1. Classification Problems 114 8.2.1.2.2. Recouping Effect 114 8.2.1.2.3. Administrative and Compliance Complexities 116 8.2.1.2.4. Conclusions 116 8.2.1.3. Optimum Efficient Rate for VAT 117 8.2.2. Agricultural Sector 119 8.2.2.1. General Background 119 8.2.2.2. The EU Flat Rate Compensation for the Agricultural Sector 120 8.2.3. Small Enterprises 123 8.2.4. Exemptions 127 8.2.4.1. Definition of Exemption under a VAT 127 8.2.4.2. Rationale for Exemptions 127 8.2.4.3. Economic Effect of Exemptions 128 8.2.4.3.1. Recouping Effect within the Distribution Chain 128 8.2.4.3.2. Reduced Effective Rate with Exemption at Retail Stage 129 8.2.4.3.3. Adverse Incentive of Self-production 130. 8.2.4.3.3.1. Self-supply Rules intheeu 131 8.2.4.4. Classification Problems 132 8.2.5. VAT Adjustments 132 8.2.5.1. Bad Debts 132 8.2.5.2. Treatment of Postsale Price Adjustments 134
xi 8.2.5.3. Mixed Use 135 8.2.5.4. Change of Use 137 8.2.6. Financial Services 138 8.2.6.1. Arguments for Exempting Financial Services 138 8.2.6.2. Arguments for Taxing Financial Services 139 8.2.6.3. Practical Problems with the Exemption Regime for Financial Services 140 8.2.6.3.1. General 140 8.2.6.3.2. Mixed Transactions 140 8.2.6.3.3. Change of Use 141 8.2.6.3.4. Sale of Used Business Assets 142 8.2.6.3.5. Sale of Repossessed Goods 142 8.2.6.3.6. Exported Services 143 8.2.6.3.7. Definition of Financial Services 144 8.2.6.3.8. Input Tax Allocation 145 8.2.6.4. Analysis of Value Added of Financial Services 146 8.2.6.5. Methods of Taxing Financial Services 148 8.2.6.5.1. Taxation under a Separate Regime 148 8.2.6.5.1.1. Addition Method 148 8.2.6.5.1.2. Subtraction Method 149 8.2.6.5.1.3. Cash Flow Method 150 8.2.6.5.2. Taxation within the Credit Invoice Method 152 8.2.6.5.2.1. Option for Taxation 152 8.2.6.5.2.2. Zero Rating 153 8.2.6.5.2.3. Modified Reverse Charge 154 8.2.6.5.2.4. Limited Credit to Financial Institutions 159 8.2.6.5.2.5. Proxy Credit on Financial Services Procurement 161 8.2.6.5.3. Evaluation and Conclusions 163 8.2.7. Treatment of Capital Goods 164 8.2.7.1. Introduction and Scope 164 8.2.7.2. Moveable Tangible Property 167 8.2.7.2.1. Resale of Goods during Economic Life Cycle 167 8.2.7.2.1.1. Business-to-Business (B2B) and Businessto-Consumer (B2C) Sales 167 8.2.7.2.1.2. Consumer-to- Consumer (C2C) Sales (Casual Sales) 169
xii 8.2.7.2.2. Treatment of Secondhand Goods (Sale to Dealer with No Trade-In) 172 8.2.7.2.2.1. VAT Treatment 173 8.2.7.2.2.2. Sales Tax Treatment 176 8.2.7.2.2.3. Conclusions 177 8.2.7.2.3. Treatment of Trade-ins 177 8.2.7.2.3.1. VAT Treatment 179 8.2.7.2.3.2. Sales Tax Treatment 179 8.2.7.2.3.3. Conclusions 180 8.2.7.2.4. Pro Rata Temporis Credit for Capital Goods 180 8.2.7.3. Immoveable Tangible Property (Real Property) 183 8.2.7.3.1. Outline of the Theoretical Problems 183 8.2.7.3.2. The Current Treatment in the EU 185 8.2.7.3.3. A Practical Solution for Incorporating Immoveable Property in a VAT System 189 8.2.7.3.3.1. Sales of Commercial Property 190 8.2.7.3.3.2. Sales of Residential Property 190 8.2.7.3.3.3. Commercial Rentals 191 8.2.7.3.3.4. Residential Rentals 191 8.2.7.3.4. Conclusions 191 8.2.8. Composite Supplies 192 8.2.9. Public Sector 194 8.2.9.1. Theory and Background 194 8.2.9.2. The EU Treatment of the Public Sector 198 8.2.9.3. Conclusions 201 Chapter 9 Cross-Border Transactions 203 9.1. Origin Versus Destination Principle 205 9.1.1. Origin Principle 205 9.1.2. Destination Principle 206 9.2. WTO Rules for Border Tax Adjustments and Their Economic Effects 207 9.3. US Tax Proposals to Mitigate Cross-Border Disadvantage 211 9.3.1. Replacement of Income Tax by a Federal Indirect Tax 211 9.3.1.1. General 211 9.3.1.2. The Economic Effects of Substituting an Indirect Tax for a Corporate Income Tax 211 9.3.2. The Border Tax Equity Act 213 9.3.3. The Alternative: Change the Character of the Corporate Income Tax 214
xiii 9.3.4. Feasibility of the Value-Added-Based Corporate Income Tax 218 9.3.4.1. WTO Arguments against FSC and ETI 218 9.3.4.2. Evaluation of a Value-Added-Based Income Tax against WTO Rules 222 9.3.5. Conclusions 223 9.4. Importation and Exportation of Goods 224 9.4.1. Importation 224 9.4.2. Exportation 225 9.5. Tax Jurisdiction Rules 226 9.5.1. Place of Supply of Goods Under EU-VAT 226 9.5.2. Place of Supply of Services Under EU-VAT 228 9.5.2.1. Current Rules 228 9.5.2.2. Future Rules (2010-2015) 230 9.6. Distance (Mail-Order) Sales and E-Commerce 231 9.6.1. The American Debate 232 9.6.1.1. Introduction 232 9.6.1.2. Scope of the Debate 234 9.6.1.3. Legal Environment 234 9.6.1.4. Economic and Competitive Distortions 235 9.6.1.5. Complexity and Costs of Withholding Use Tax 237 9.6.1.6. The Role of Congress 238 9.6.1.7. Possible Solutions 242 9.6.1.8. Taxation of Internet Access and Other Online Services 243 9.6.1.9. International Aspects 248 9.6.1.10. Conclusions 248 9.6.2. European Practice 249 9.7. The Challenge of Fraud Schemes 251 9.7.1. Introduction and Summary 251 9.7.2. Description of Carousel Fraud 252 9.7.3. Countermeasures to Fraud 255 9.7.3.1. Civil Law Defense 255 9.7.3.2. Noneconomic Defense 256 9.7.3.3. Abuse of Law Doctrine 259 9.7.3.4. Joint and Several Liability 261 9.7.3.5. Alternative Solutions 262 9.7.4. Conclusions 264 Chapter 10 Harmonization of Indirect Tax in Federal or Common Markets 265 10.1. Introduction 265 10.2. The Harmonization of Indirect Taxes in the EU 266 10.2.1. The Objectives of the EEC Treaty 267
xiv 10.2.2. Relationship Between the Objectives and the Tax Provisions of the Treaty 268 10.2.3. The Need for Harmonization and the Choice for VAT 271 10.2.4. Overview of the History of Sales Tax Harmonization in the EU 271 10.2.5. Scope and Present State of the Harmonization 279 10.3. The Harmonization of Sales and Use Taxes in the United States 280 10.3.1. Reasons for Harmonization 280 10.3.2. Legislative Aspects 283 10.3.3. Objective and Methodology of the Streamlining Project 284 10.3.4. Participating and Associate States 284 10.3.5. Decision-Making Process 285 10.3.6. Scope of Harmonization 286 10.3.6.1. Registration and Administration 286 10.3.6.2. State and Local Tax Base 286 10.3.6.3. Change of Rules and Regulations 286 10.3.6.4. Uniform Jurisdiction (Sourcing) Rules 287 10.3.6.5. Uniform Definitions 288 10.3.6.6. Uniform Tax Return Forms 288 10.3.7. Certification and Compliance Models 289 10.3.7.1. Certification 289 10.3.7.2. Compliance Models 289 10.3.8. Financial Compensation for Businesses 290 10.3.9. Amnesty 292 10.3.10. Consumer Privacy Protection 293 10.3.11. The Voluntary Compliance Assumption 294 10.3.12. Political Feasibility 296 10.3.13. Conclusions 297 Chapter 11 Revenue Allocation within Federal and Common Markets 299 11.1. Introduction 299 11.2. RST Versus VAT 300 11.3. Cooperation Models 303 11.3.1. Separate Federal and Subnational Taxes 303 11.3.2. Federal Surcharge 304 11.3.3. State Surcharge 304 11.4. Aggregate Level of Revenue Sharing 305 11.4.1. EU Clearing House System 305 11.4.2. Viable Integrated VAT 309 11.4.3. Compensating VAT 311 11.4.4. Dual VAT System 312 11.4.5. Digital VAT 314 11.4.6. Combined Federal and Subnational Sales Tax 316 11.4.6.1. Brief Description of the Combined Tax System 317
xv 11.5 11.4.6.2. Calculation of the Single National Tax Rate 318 11.4.6.3. Macroeconomic Method of Revenue Allocation 327 11.4.6.4. Final Remarks and Conclusions 329 Conclusions 330 Chapter 12 Tax Policy Lessons Bibliography Index 333 341 359