10 March 2020

Scrapping the Tampon Tax is not the way to reform VAT

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In his first Budget on Wednesday, chancellor Rishi Sunak looks set to announce that the government will be scrapping the 5% VAT rate on sanitary products. The move has been welcomed by women’s rights campaigners and looks as though it will be popular with the electorate.

In many ways, this is understandable. As it stands, the government is forcing women to pay a tax on an essential product, which naturally strikes many people as unfair.  Nonetheless, however popular and well-intentioned the proposal might be, simply scrapping the Tampon Tax would not be the right approach for a number of reasons.

First, it’s worth tackling a prevailing myth around this particular levy. For example, it is often argued that charging VAT on tampons is sexist, because men’s razors do not attract VAT. And indeed that would be pretty sexist, if it was actually true. At the moment, men’s razors attract the standard 20% rate of VAT. There are problems with the Tampon Tax, but sexism is not really one of them.

The fact that VAT is levied on ‘luxuries’ is another, more justified, cause of consternation. Clearly, sanitary products are about as far from a luxury as you could imagine. But the whole ‘luxury’ designation is itself a throwback to the 1970s when we first brought in VAT. Back then, goods considered ‘essential’ were exempted from VAT and we have been unable to change things since, meaning we have retained what is in many ways an extremely inefficient, anachronistic set of consumption taxes.

It’s no accident that the UK’s consumption taxes were ranked bottom out of 35 developed countries in the Tax Foundation’s most recent International Tax Competitiveness Index.

This really need not be the case. Taxation can be damaging and is often unfair, but not all taxes are created equal. Indeed, VAT has the potential to be one of the least damaging taxes, if designed properly. It is a relatively efficient way of raising revenue and, unlike a great many others taxes, does not hamper economic growth by discouraging investment.

What’s more, as it’s a consumption tax, wealthier people generally pay a lot more VAT than those on lower incomes. While not progressive in a strict sense, VAT is a lot fairer than some of the other taxes we have.

The big issue lies in the smorgasbord of different rates and exemptions that are now part of our system.

A chocolate-covered cake is VAT-exempt, but a chocolate biscuit attracts the standard rate of 20% – a quirk of the system that came to public attention with the Jaffa Cake ruling of 1991. Again, this dates back to the 1970’s when cakes were seen as a staple good enjoyed by good and decent folk, whereas a chocolate biscuit was the height of decadence.

The absurdity doesn’t stop there. Chocolate buttons, for example, are subject to the standard rate. That is, unless they are to be used to decorate a cake, in which case they are zero-rated. Buying nuts still in their shells incur no VAT, but out of their shell the 20% charge applies.

Buying a book? Good news, no VAT — unless it’s an eBook, then you’ll have to pay more. It might make sense that a bike helmet is exempt, but it’s slightly more puzzling that a chocolate teacake from Marks & Spencer is also zero-rated.

All this creates extra work for businesses who have to spend time and money ensuring that their range of products comply with VAT legislation. What is more, as McVities can attest, it can lead to time-consuming and expensive battles with HMRC over the status of certain products.

As we have seen with the Tampon Tax, the current system leaves the Treasury open to lobbying from particular groups – though admittedly in this case one that comprises 50% of the population. Still, the problem is pretty apparent: grant an exemption or a lower rate to one group and others will start piling in – this is no way to conduct tax policy.

Rather than adding yet more complexity to an already convoluted VAT system by exempting yet another product from VAT, the Government should broaden the VAT base by bringing in a much broader tax, but at a lower rate.  Not only would this make compliance less of a hassle for businesses and enforcement easier for HMRC, it would also boost the Treasury’s coffers.

It would also allow free up room for the Government to cut taxes which are proven to deter investment, such as Capital Gains Tax, Stamp Duty and Corporation Tax. A flatter, more efficient system of consumption taxes would mean increased productivity, higher growth and more sustainable public finances.

Now, Labour are sure to argue that removing VAT exemptions would be regressive, as prices would go up, and the poorest would end up paying a higher proportion of their income in VAT. However, VAT is also an efficient way of taxing the highest earners, who currently pay approximately three times as much in indirect taxes as the poorest households – the Government can then use the extra money raised to fund the public services that the poorest need the most.

And it’s not as though the current VAT system is doing much to alleviate poverty. Rather than trying to help the poor through a panoply of inconsistent exemptions and lower rates, it would be much simpler to increase benefits, continue taking the lowest earners out of income tax and national insurance contributions, and perhaps, one day, introduce a Universal Basic Income.

Scrapping the tampon tax might be popular, but it would be a mistake. Rather than adding more exemptions, the chancellor should move in the opposite direction. He should abolish exemptions and the different rates and instead introduce a VAT system that is flat, broad, and low.

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Ben Ramanauskas a research economist at Oxford University