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March 9, 2017

Let's Be Honest About Border Adjusted Taxes

 

Candidate Donald Trump promised to increase economic growth and global competitiveness through tax reform, which was music to the ears of both proponents of economic growth and of many frustrated American voters.

But now, the popular major elements of Republicans’ tax reform plans are being held hostage to a dispute over the only controversial part of the reform, a proposal to apply a 20 percent border adjustment tax to imports.

Proponents of the border adjustment tax claim that it rights several wrongs in our current international tax system and will advantage domestic producers, while opponents decry it as raising taxes on U.S. consumers and eventually leading to the imposition of a VAT tax in the United States.

At this point in the debate we’d like to offer some observations on the merits and demerits of a border adjustment tax.

  • Border adjustment has been seriously discussed and vetted within the tax reform community for at least two decades. It’s neither being driven by Donald Trump nor is it a reaction against his trade policies. That’s why proponents of border adjustment exude such confidence in the idea, and believe that opponents simply don’t understand its purpose and effects.

  • In fact, 15 years ago, we at IPI published a major study arguing for border adjustability and other provisions entitled The International Components of Tax Reform: Tax Policy that Serves the National Interest.

  • Specifically, border adjustment is intended to correct the US tax code which, compared to our global competitors, puts US exporters at a disadvantage. It’s a tax break for exporters but a tax increase on importers. All other things being equal, it’s likely that border adjustment would significantly benefit US exporters.

  • Proponents of border adjustability have too glibly promised that somehow currencies will magically adjust in such a way as to mitigate the impact of border adjustment. We’ve informally polled a number of Ph.D. economists, and not one believes that currency adjustment can be relied upon to fully compensate for the impact of a new 20 percent tax on imports.

  • Retailers are understandably unhappy about the prospects of higher costs on the goods they resell to consumers, because their customers will bear much of the cost. And because so much of our consumer economy is based on goods manufactured abroad, if the Trump administration is going to follow through on its trade and domestic manufacturing agenda, prices are going nowhere but up.

  • We should not forget that border adjustment will also raise the costs of manufacturing in the U.S. in accordance with the significant degree to which U.S. manufacturers rely upon imported parts and raw materials, and we think proponents have underestimated this counterproductive impact. Border adjustment limited to finished goods would avoid this particular problem.

  • Border adjustment effectively makes foreign producers part of the U.S. tax base, which is why it’s a revenue raiser. But we should not expect foreign producers to accept this change without challenge.

We don’t know at this point whether border adjustment will end up as part of the final tax reform package, but we should at least be honest about the arguments for and against the idea as it is being debated.  


 

  • TaxBytes-New

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