_Disadvantages of Value Added Tax (VAT)_ Burden, Cost of Living, Complexity, Evasion, and Competitiveness_.pdf

In this video we are going to introduce you "Disadvantages of Value Added Tax (VAT): Burden, Cost of Living, Complexity, Evasion, and Competitiveness"

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1. ValueAddedTax(VAT)isaconsumptiontaxsystemthat
iswidelyimplementedbygovernmentsaroundthe
world.WhileVAThasseveraladvantages,suchas
generatingrevenueandprovidingastablesourceof
incomeforgovernments,itisimportanttoalsoconsider
itsdisadvantages.
ThisarticlewillexplorethedrawbacksofVAT,including
theburdenitplacesonlower-incomehouseholds,its
impactonthecostofliving,administrativecomplexity,
thepotentialfortaxevasion,anditseffectsonbusiness
competitiveness.
Understandingthesedisadvantagescanhelpin
evaluatingtheeffectivenessandfairnessofVAT

2. systemsandinformdiscussionsonpotential
improvementsoralternativetaxpolicies.
Outlines:
DisadvantagesofVAT:
1.Burdenonlower-incomehouseholds:
2.Increasedcostofliving:
3.Administrativecomplexity:
4.Potentialfortaxevasion:
5.Distortionofeconomicbehavior:
6.Impactonbusinesscompetitiveness:
Conclusion:
Disadvantagesofvat:
TheValueAddedTax(VAT)isawidelyused
consumptiontaxsystemimplementedinmanycountries
aroundtheworld.WhileVAThasseveraladvantages,it
alsohassomedisadvantages.Hereareafewofthem:

3. 1)Burdenonlower-income
households:
OneofthekeydisadvantagesofVATisitsimpacton
lower-incomehouseholds.SinceVATistypicallyapplied
uniformlyongoodsandservices,regardlessofincome
levels,itcandisproportionatelyaffectindividualsor
familieswithlowerincomes.Here'swhy:
a)Higherproportionofincomespenton
consumption:
Lower-incomehouseholdstendtospendalargerportion
oftheirincomeonessentialgoodsandservices,suchas
food,housing,andutilities.AsVATisleviedonthese
goodsandservices,thetaxburdenbecomesahigher
percentageoftheiroverallincomecomparedto
higher-incomehouseholds,whohavemoredisposable
incometoallocatetowardssavingsornon-taxable
expenditures.
b)Limitedabilitytoclaimexemptionsor
deductions:
Whilesomecountrieshaveprovisionstoexemptor
reduceVATratesoncertainbasicgoodsandservices,
thesemeasuresmaynotfullyalleviatetheburdenon

4. lower-incomehouseholds.Additionally,the
administrativecomplexityofclaimingexemptionsor
deductionsmaydetereligibleindividualsfrombenefiting
fromthem.
c)Lessabilitytoshifttheburden:
WhenbusinessesfacehighercostsduetoVAT,they
maypassonthetaxburdentoconsumersbyincreasing
thepricesofgoodsandservices.However,
lower-incomehouseholdshavelimitedabilitytoabsorb
thesepriceincreasesorshifttheburdentoothers,as
theymayhavefeweralternativesorsubstitutesfor
essentialgoodsandservices.
d)Impactondisposableincomeandstandard
ofliving:
VATcanreducethedisposableincomeoflower-income
households,limitingtheirabilitytomeetbasicneedsor
saveforthefuture.Thiscanhaveanegativeimpacton
theiroverallstandardofliving,makingitharderto
escapepovertyorachieveupwardmobility.
2)Increasedcostofliving:

5. AnotherdisadvantageofVATisitscontributiontothe
increasedcostofliving.Here'showVATcanimpactthe
overallcostofgoodsandservices:
a)Passedontoconsumers:
VATistypicallyataximposedonbusinessesateach
stageofthesupplychain.However,businessesoften
passontheburdenofVATtoconsumersby
incorporatingthetaxintothepricesoftheirgoodsand
services.Asaresult,consumersenduppayinghigher
pricesfortheproductstheypurchase.
b)Cascadingeffect:
VATisleviedateverystageofproductionand
distribution,whichcanleadtoacascadingeffectknown
as"taxpyramiding."Taxpyramidingoccurswhenthetax
isappliedtothevalueaddedateachstage,including
inputs,intermediateproducts,andthefinalproduct.This
canresultinanaccumulationoftaxeswithinthesupply
chain,ultimatelyincreasingthecostofthefinalproduct.
c)Inelasticgoodsandservices:
Certaingoodsandserviceshaveaninelasticdemand,
meaningthattheirconsumptionisnotsignificantly

6. affectedbypricechanges.Examplesincludebasic
necessitieslikefood,healthcare,andutilities.Since
thesegoodsandservicesareessentialfordailyliving,
consumershavelimitedflexibilitytoreducetheir
consumptionevenifpricesriseduetoVAT.
Consequently,theincreasedcostoflivingcanhavea
moresubstantialimpactonhouseholds'budgets,
particularlyforlow-incomeindividualsandfamilies.
d)Impactondisposableincome:
WhenthecostofgoodsandservicesrisesduetoVAT,it
reducesconsumers'disposableincome.Disposable
incomeistheamountofmoneyavailabletoindividuals
afterpayingtaxes.AsVATincreasesthepriceofgoods,
individualshavelessdiscretionaryincometospendon
non-essentialitemsorsavings,affectingtheiroverall
financialwell-being.
3)Administrativecomplexity:
Administrativecomplexityisanotherdisadvantage
associatedwiththeimplementationofVAT.Hereare
somereasonswhyVATcanbeadministratively
burdensome:

7. a)Complianceandrecord-keeping
requirements:
VATsystemstypicallyrequirebusinessestomaintain
accurateanddetailedrecordsoftheirtransactions,
includingsales,purchases,andVATpaidandcollected.
Thisinvolvessignificantadministrativeeffort,especially
forsmallbusinessesthatmaylacktheresourcesor
expertisetohandlecomplexrecord-keeping
requirements.
b)Taxregistrationandreporting:
BusinessesmustregisterforVATandcomplywith
periodicreportingobligations,whichmayinvolvefiling
VATreturnsandprovidingdetailedinformationabout
theirtransactions.
Meetingtheserequirementscanbetime-consumingand
mayrequirebusinessestoinvestinspecialized
accountingsoftwareorhireprofessionalassistanceto
ensureaccuratereporting.
c)ComplexityofVATrulesandregulations:
VATsystemsofteninvolveintricaterulesandregulations
thatdictatehowthetaxshouldbeappliedtodifferent

8. typesofgoods,services,andtransactions.Determining
thecorrectVATtreatmentforspecificitemscanbe
challenging,leadingtopotentialerrorsor
misunderstandingsthatcouldresultinpenaltiesor
disputeswithtaxauthorities.
d)Cross-bordertransactions:
VATbecomesevenmorecomplexwhenitcomesto
cross-bordertransactionsinvolvingimports,exports,or
servicesprovidedtoforeignentities.Businessesmust
navigateadditionalrulesrelatedtoVATexemptions,
reversecharges,anddocumentationrequirements.
Complyingwiththeserulesrequiresathorough
understandingofinternationalVATregulationsandmay
necessitateengagingcustomsagentsortaxadvisors.
e)Auditandenforcement:
TaxauthoritiesneedtoenforcecompliancewithVAT
regulations,whichinvolvesconductingaudits,
investigatingpotentialnon-compliance,andensuring
thatbusinessesareaccuratelyreportingandremitting
theappropriateVATamounts.
Thisprocessaddstotheadministrativeburdenforboth
taxauthoritiesandbusinesses,particularlythosethat
maybesubjecttofrequentauditsorinspections.

9. f)Smallbusinesschallenges:
VATsystemscanposeparticularchallengesforsmall
businesseswithlimitedresources.Theadministrative
complexity,costsassociatedwithcompliance,and
potentialpenaltiesfornon-compliancemay
disproportionatelyaffectsmallerenterprises,whichoften
lacktheinfrastructureandexpertisetomanagecomplex
taxrequirements.
4)Potentialfortaxevasion:
OnesignificantdisadvantageofVATisitspotentialfor
taxevasion.Here'swhyVATsystemscanbevulnerable
totaxevasion:
a)Complexityandloopholes:
VATsystemscanbecomplex,withnumerousrules,
exemptions,andthresholds.Thiscomplexitycancreate
loopholesandopportunitiesforbusinessesor
individualstoexploitgapsinthesystem,intentionallyor
unintentionally,toavoidorevadeVATpayments.
Taxevadersmaymanipulateinvoices,misclassifygoods
orservices,orengageinotherfraudulentactivitiesto
reducetheirVATliability.

10. b)Cash-basedeconomy:
VATevasionismoreprevalentincash-based
economieswheretransactionsareconductedincash,
makingiteasiertoconcealincomeandavoiddetection.
Cashtransactionsleavelittleornopapertrail,makingit
difficultfortaxauthoritiestotrackandverify
transactions,leadingtohigherchancesofVATevasion.
c)Underreportingandunderpayment:
Somebusinessesmayintentionallyunderreporttheir
salesormanipulatetheirrecordstounderstatetheirVAT
liability.Thiscanbedonebyunder-declaringthevalue
ofgoodsorservicessold,inflatingdeductibleexpenses,
orengaginginotherfraudulentpracticestoreducethe
amountofVATowed.
d)Missingtraderintra-community(MTIC)
fraud:
MTICfraud,alsoknownascarouselfraud,isaformof
VATevasionthatoccursincross-bordertransactions
withintheEuropeanUnion(EU)andotherjurisdictions.
ItinvolvesexploitingtheVATexemptionfor
intra-communitytradebysettingupachainof

11. companiesinvolvedinfictitiousorfraudulent
transactions,withtheaimofreclaimingVATfromtax
authoritieswithoutactuallypayingit.
e)Weakenforcementanddetection:
VATevasioncanbefacilitatedbyineffective
enforcementanddetectionmechanisms.Insufficient
resources,lackoftechnologicalcapabilities,and
inadequatecoordinationamongtaxauthoritiescan
hindertheidentificationandprosecutionoftaxevaders.
Thisallowsevasionschemestogoundetectedand
contributestorevenuelossesforgovernments.
f)Informaleconomy:
VATevasionisprevalentininformalorunderground
economies,wherebusinessesoperateoutsidethe
formaltaxsystem.Informalbusinessesmayintentionally
avoidVATregistrationorfailtochargeVATontheir
sales,givingthemacompetitiveadvantageover
compliantbusinesses.
Theabsenceofproperoversightanddocumentationin
theinformalsectormakesitdifficultfortaxauthoritiesto
enforceVATcompliance.

12. 5)Distortionofeconomic
behavior:
AnotherdisadvantageofVATisitspotentialtodistort
economicbehavior.Here'showVATcanleadto
distortionsintheeconomy:
A)Shiftinconsumptionpatterns:
VATcaninfluenceconsumerbehaviorbyincreasingthe
pricesofcertaingoodsandservices.Asaresult,
consumersmayshifttheirpreferencestowardsgoods
thataresubjecttolowerVATratesorareexemptfrom
VAT.
Thiscandistortmarketdemandandleadtoresource
misallocations,asconsumersmaychoosegoodsbased
ontaxconsiderationsratherthantheiractualneedsor
preferences.
b)Impactonbusinessdecisions:
VATcanaffectbusinessdecisions,particularlyregarding
pricing,production,andinvestment.Businessesmay
needtoadjusttheirpricingstrategiestoaccountforthe

13. VATburden,whichcanhaveanimpacton
competitiveness,marketpositioning,andprofitability.
Additionally,theVATtreatmentofinputsandcapital
goodsmayinfluenceinvestmentdecisions,potentially
leadingtosuboptimalchoicesorinefficientallocationof
resources.
c)Taxplanningandavoidance:
ThepresenceofVATcanincentivizetaxplanning
strategiesortaxavoidanceactivitiesbybusinesses.
Theymayseekwaystostructuretheirtransactionsor
reorganizetheiroperationstominimizeVATliability.This
canleadtoartificialarrangements,suchassettingup
complexsupplychainsorengaginginaggressivetax
planningschemes,solelydrivenbyVATconsiderations
ratherthangenuineeconomicorbusinessneeds.
d)Distortionofpricesignals:
VATcandistortpricesignalsinthemarket,affectingthe
allocationofresourcesandtheefficiencyofmarkets.
ThetaxburdenimposedbyVATmaynotbefully
transparenttoconsumers,asitisembeddedinthefinal
pricesofgoodsandservices.

14. Thiscanobscurethetruecostofgoodsandinhibitprice
signalsfromeffectivelyguidingconsumerchoicesand
marketdynamics.
e)Compliancecostsandadministrative
burden:
Theadministrativecomplexitiesandcompliancecosts
associatedwithVATcanimposeaburdenon
businesses,particularlysmallandmedium-sized
enterprises(SMEs).Thesecostscandivertresources
awayfromproductiveactivitiesandinnovation,creating
aburdenonbusinessesthatmayhindertheirgrowth
andcompetitiveness.
6)Impactonbusiness
competitiveness:
VATcanhaveanimpactonthecompetitivenessof
businesses,particularlyininternationaltrade.Hereare
somewaysinwhichVATcanaffectbusiness
competitiveness:
a)Exportcompetitiveness:

15. WhenacountryhasahighVATrate,itcanincreasethe
productioncostsforbusinesses,whichcanmaketheir
exportsmoreexpensivecomparedtogoodsproducedin
countrieswithlowerVATrates.Higherproductioncosts
duetoVATcanreducethepricecompetitivenessof
exportsintheglobalmarket,potentiallyleadingtoa
decreaseinexportdemandandmarketshare.
b)Compliancecostsforcross-bordertrade:
VATsystemscanintroduceadditionaladministrativeand
compliancecostsforbusinessesengagedin
cross-bordertrade.Businessesneedtounderstandand
adheretotheVATregulationsofboththeexportingand
importingcountries,includingrequirementsrelatedto
documentation,VATregistration,andreporting.
Theseadditionalcompliancecostscanputbusinesses
atadisadvantagecomparedtodomesticcompetitors
andcreatebarrierstoentryforsmallandmedium-sized
enterprises(SMEs)ininternationalmarkets.
c)Taxrefunddelays:
Insomecases,businessesengagedinexportsmaybe
eligibleforVATrefundsoninputsusedintheproduction
ofexportgoodsorservices.However,theprocessof
obtainingVATrefundscanbetime-consumingand

16. bureaucratic,leadingtodelaysinreceivingtherefunds.
Thesedelayscantieupworkingcapitalforbusinesses,
potentiallyimpactingtheircashflowand
competitiveness.
d)Complexityformultinationalcompanies:
VATsystemscanbeparticularlychallengingfor
multinationalcompaniesthatoperateinmultiple
jurisdictions.EachcountrymayhaveitsownVATrules,
rates,andreportingrequirements,leadingto
administrativecomplexityandpotentialcompliance
issues.
Multinationalcompaniesneedtoinvestresourcesin
understandingandmanagingtheVATimplicationsof
theircross-borderoperations,whichcanaddtotheir
costsandadministrativeburden.
e)Impactonimportcompetition:
VATcanalsoaffectthecompetitivenessofdomestic
businessesthatcompetewithimportedgoods.When
importedgoodsaresubjecttoVATattheborder,itcan
increasetheirpricesandmakethemlesscompetitive
comparedtodomesticallyproducedgoods.Thiscan
affectdomesticindustriesandcreatechallengesfor
businessesthatfaceimportcompetition.

17. Conclusion:
Inconclusion,ValueAddedTax(VAT)hasitsshareof
disadvantages.Itcanplaceaburdenonlower-income
households,contributetotheincreasedcostofliving,
introduceadministrativecomplexity,createopportunities
fortaxevasion,andaffectbusinesscompetitiveness.
Whilegovernmentsattempttomitigatetheseissues
throughexemptionsandtargetedpolicies,itisimportant
tobeawareofthepotentialdrawbacksofVATand
considerstrategiestoaddressthemeffectively.
ReadMore:
VATRegistration:ExplainingtheProcessand
RequirementsforBusinesses