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VAT Treatment of Food: Principles and Practice Sijbren Cnossen Senior Economic Advisor ITIC, Professor of Economics, University of Pretoria Emeritus Professor Universities of Rotterdam and Maastricht Presentation prepared for 12th Annual Asia-Pacific Tax Forum, New Delhi, India, 5-7 May 2015 Considerations ¡ Economic considerations ¡ Equity concerns ¡ Administrative aspects Economic considerations ¡ All consumer goods should be taxed at the same rate so that relative prices do not change ¡ Exemption or zero-rating distorts consumption choices and by implication production choices ¡ Exemption distorts input and outsourcing policies of exempt entities ¡ Unrelieved VAT on inputs of exempt entities enters into export prices Equity concerns ¡ ¡ ¡ ¡ Food products are disproportionately consumed by the poor, so VAT is regressive with respect to income Taxes should not make the after-tax distribution worse than the before-tax distribution Exemption or zero-rating may be the only available way to help the poor Nonetheless: exempting or zero-rating foods is ill targeted instrument to help the poor Administrative aspects ¡ Exempting or zero-rating food involves VAT administration in troublesome definitional, monitoring and refund activities ¡ High threshold in combination with informal markets would leave unprocessed food products anyway out of the base ¡ Administrative resources are better used to audit large businesses which contribute 90% of VAT revenue What do countries do? ¡ New arrivals on the VAT scene tend to have only one VAT rate ¡ European and francophone countries generally apply a lower rate to food products ¡ Countries with Anglo-Saxon taxing traditions tend to zero rate basic food products Issues in exempting or zero-rating food ¡ What should be exempted or zero-rated: unprocessed food or all food? ¡ Should food served at hotels and restaurants also enjoy favorable treatment? ¡ If food is exempted or zero-rated how should the agricultural sector be treated? Should food be exempted or zero/lower-rated? Zero or lower rate Exemption Distorts competition Distorts input choice and outsourcing policies Requires registration of many small businesses and refund of input VAT No registration and refund of input VAT, but optional registration still possible Requires higher rate on other goods and services VAT on inputs of exempted entities is still collected Relieves essential foodstuffs completely of VAT Effect the same as zero-rate if agricultural inputs zero-rated South African experience ¡ ¡ SA zero rates 19 basic foodstuffs Experience in reducing regressivity is not encouraging: - VAT is broadly proportional with respect to income - rich benefit six times as much from zero rating as the poor - zero rating meat has little effect - little change if zero rate abolished - impact of hypothetical higher-than-standard rate is negligible Verdict South African Katz Commission “ ….providing relief to the poor through exemptions and VAT zero rating is likely to be unsound tax policy and ineffective social policy” Agriculture: best practice ¡ ¡ Treatment of agricultural sector and fisheries: generally exempt but problem with unrelieved VAT on inputs Types of concession ¡ Invoicing of presumptive tax credit by farmers ¡ Presumptive tax credit for purchaser ¡ Refund of average tax on inputs ¡ Elimination of VAT on inputs (but not if inputs have various end-uses) ¶ Preferred solution depends on importance of exports, role of cooperatives, importance of purchased inputs, hobby farmers VAT treatment of food products Categories of foods § § § § § § Ø Ø Food and ingredients for home cooking Take-out meals and food supplied by restaurants Snack foods for consumption at home Alcoholic beverages Soft drinks Food consumed in restaurants Last four items generally taxable at standard rate Taxation of take-out meals controversial: compete with food sold in grocery stores, taxation seems unfair if grocery store sales not taxable, definition of take-out meals can be complex (ice creams, fresh popcorn) Treatment of restaurant and catering services ¡ Categories of supplies Food supplied for consumption in a restaurant - Prepared food catered to a customer's place - Custom preparation of food from ingredients supplied by customer First two items taxable on full charge, including cost of ingredients Last item is supply of food preparation services only. The ingredients could be purchased by customer free of tax, if food zero-rated - Ø Ø Best approach to taxing food Tax all food for human or animal consumption, consumed on or off premise, at – ¡ standard rate ¡ standard rate, but exempt limited number of unprocessed essential foodstuffs ¡ apply lower rate to all food products, except alcoholic beverages NB. Do not zero rate foodstuffs Should food be taxed under VAT? A personal view Ø Ø Ø Ø Ø Answer is resounding “yes”! At standard rate Exemption or zero-rating is distortionary and mainly benefits higher-income groups Extra revenue can be used to lower standard rate or to finance education and health care for the poor Zero-rating poor involves difficult to administer refunds to small businesses; exemption entails troublesome definitional issues If staple foods are subsidized than taxation and increase in subsidy achieves same result as zero-rating Conclusion Thank you for your attention and enjoy your coffee break!
