VAT: changes for exempt, excluded and taxed goods

Fedesarrollo proposes to maintain the 19% rate and gradually raise to 8% the goods currently exempted, excluded or taxed at the differential rate of 5%.

The entity also indicates that the current VAT scheme could be replaced by a consumption tax scheme under a single rate of 8%. Much of the low productivity and efficiency of the VAT in Colombia is due to the erosion of its taxable base, which in turn is explained by the proliferation of goods and services subject to differential rates, especially those associated with exempt and excluded treatments. This has not only generated significant fiscal costs for the State, but has also exacerbated the regressivity of the tax by benefiting higher-income households to a greater extent.

To correct these problems, and thinking about the next tax reform, Fedesarrollo proposes in its document Reforms for a post-COVID-19 Colombia: towards a new social contract, several reform scenarios to the current VAT scheme, taking into account a common denominator: to increase the coverage of the tax.

For the entity, the current situation makes it necessary to simplify the VAT scheme and thus benefit the population that has been hardest hit by the pandemic. Taking into account the impact on collection, prices and income, and the amount of compensation required in each scenario, Fedesarrollo considers it reasonable to maintain the general rate of 19% and gradually raise to the rate of 8% those goods that are currently exempt, excluded or taxed at the differential rate of 5%.

This measure would imply an additional collection in a range between 0.7 % and 0.9 % of the GDP, and would require a VAT compensation to 40 % of the poorest population of the country of $63,000 per month. As analyzed by Fedesarrollo:

We consider that this measure could be carried out gradually over 3 years, such that exempt and excluded goods would be taxed at the rate of 2 % in 2022, 5 % in 2023, and 8 % in 2024 and thereafter. The resources generated by this new scheme would range between 0.2 % and 0.3 % of GDP in 2022, between 0.5 % and 0.6 % of GDP in 2023, and as mentioned above, between 0.7 % and 0.9 % in the medium term.

This new VAT scheme would be fulfilled with the purpose of considerably increasing tax collection and extending VAT compensation to deciles 3 and 4, strongly affected by the pandemic, and who currently pay VAT on their consumption in formal vending places.

“With the above proposed, there would be significant benefits in terms of efficiency and equity of the tax, while increasing the level of resources collected that could be used to finance a social policy”.

With the above proposed, there would be significant benefits in terms of efficiency and equity of the tax, while increasing the level of resources collected that could be allocated to the financing of a social policy more in line with the needs demanded by the country once the pandemic is overcome.

Replacing VAT with a generalized consumption tax

Fedesarrollo, among its proposals, indicates that the current VAT scheme could be replaced by a consumption tax scheme under a single rate of 8%. The study states:

‘Our micro simulations suggest an increase in tax revenues in the order of 10.4 trillion pesos versus a base scenario of collection of 58.9 trillion pesos.

Under this scenario, Fedesarrollo explains, the tax burden perceived by each sector can be broken down into a cascade effect and a coverage/tariff effect.

The first effect refers to the fact that, given the impossibility of deducting the tax paid on production inputs, intermediate actors in the production-distribution chain would be encouraged to recover such amount through an increase in final prices.

The second effect refers to the increase in coverage to 92.4% of market goods and services at a general rate of 8%, as well as the impact of the reduction in the rate for those currently taxed at the general rate of 19%.

In nominal terms, the sector that would experience the largest increase in its tax burden would correspond to the trade and transportation sector with 6.4 trillion pesos, while the information and communications sector would have the largest reduction in its burden with a decrease of 1.9 trillion pesos.

As a percentage of sectoral value added, the largest increase would be in the financial and insurance activities sector, while the largest reduction would correspond to the information and communications sector.

Source: Actualícese