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Ted Cruz’s VAT Taxes Wages, Health Insurance, Housing, Charities And Lots More
February 2, 2016
In recent days, defenders of Ted Cruz’s VAT have tried to argue that what’s taxable in a VAT is very similar to what’s taxable in a normal corporate income tax. Steve Moore of the The Heritage Foundation says that “almost all flat tax plans have this type of business net income tax,” and veteran tax warrior Ernie Christian opines that “tax reformers should focus on creating the best tax code for America — instead of creating confusion by wrongly tossing around the ‘VAT’ word as a j’accuseepithet.”
There’s only one problem with this grand papering-over: A VAT taxes very different things than a corporate income tax does, and very different things than other consumption-based tax reform plans do.
Put simply, a subtraction-method VAT (the kind Cruz is running on) only allows business purchases as deductions against business income. That means all sorts of expenses deductible under a corporate tax (wages, health insurance benefits, etc.) are not deductible in Cruz’s VAT.
Furthermore, there are many transactions that might find themselves liable for a VAT liability that are not liable for a corporate tax liability today.
Below are some key things taxed (or potentially taxed) under Ted Cruz’s VAT that would not be taxed, for example, under the reformed corporate and flow-through business tax proposed by Marco Rubio:
This is an area I have covered before, and it bears repeating here. Wages paid are not deductible from a subtraction method VAT’s taxable income. Wages are deductible from the tax base of a corporate income tax. So there’s a VAT-level tax on wages paid that isn’t there under a corporate income tax.
When you combine a VAT with a personal tax on wages (as Cruz’s plan does), you have a cascaded, double tax on wages. It happens to be an integrated wage tax rate of 24.4% under the Cruz proposal.
Employer-provided health insurance, 401(k) plans, and pensions
Similar to wages, amounts businesses pay for employee fringe benefits like health insurance are not normally deductible from a VAT’s tax base. That means that the Cruz VAT introduces a new tax on employer-provided health insurance that does not exist today. Presumably, health insurance at work would still be excluded from Cruz’s personal flat tax, so there’s no double taxation problem like with wages. But it still takes a fully tax free form of compensation today and imposes a new 16% tax on it.
A similar effect would happen with 401(k) plans and traditional pensions as would happen with wages. These are currently tax deductible to companies and taxable to retirees–one layer of tax. Under the Cruz VAT, the business tax deduction would disappear but the personal tax would remain. That means a flat pension tax of 24.4% when the VAT and the flat tax are each accounted for.
There’s not a lot of detail about how the Cruz VAT would deal with housing sales. Under a purely theoretical VAT, tax is owed anytime a piece of real estate (including residential real estate) is sold for a profit. In practice, VATs have carved out politically sensitive things like residential home sales and vacation homes, but have left in place less sensitive sources of profit like commercial real estate transactions. There’s also the question of new housing vs. housing which has been sold before.
Could the Cruz VAT tax you when you sell your house? Maybe not, but I doubt the designers accounted for that revenue loss when they calculated only a 16% rate.