Ever noticed how different products attract different taxes?
Why are tampons and razors taxed differently in most countries? Why are condoms tax free? Why does it often cost more to eat in than to take away?
What is consumption tax?
Many of these questions can be answered by understanding consumption tax (CT). A consumption tax is just another kind of tax, and CT is applied where extra value is added to the production process. Most countries have some kind of CT. In the UK, Brazil or China it’s known as Value Added Tax (VAT), while in Australia it is called a Goods & Services Tax (GST), as it is in France and Canada.
If you buy a banana at the supermarket you usually pay no CT. But, if you buy a banana milkshake at a cafe you pay tax to account for the blending service, as well as the ice-cream being added. Pita is another example – in the UK if you buy it at the supermarket you pay 0% CT. This is because it is just another type of bread, and usually non-processed food doesn’t have CT applied, but as part of a hot takeaway meal (like a kebab) you pay the standard CT level. When an end-consumer makes a purchase, they are not only paying the CT for the product itself but for the entire production process.
What about companies?
VAT registered Companies are able to claim back the CT they pay in the process of conducting business. That’s because companies effectively act as tax collectors on behalf of the government. They charge CT on the goods or services they provide, and they pay CT on the goods and services they consume.
– If a business pays more CT than they collect, they could claim a refund from the appropriate government department
– If the business collects more CT than they pay, then the difference is paid to the appropriate government department
Is consumption tax “fair”?
CT is a flat tax and so mathematically regressive. This means that the impact of the tax is usually greater the less income you earn. This makes it quite a controversial tax as it tends to have a more negative impact on low and middle-income households than high-income earners.
There are two main reasons. First, low and middle-income earners tend to consume more of their income than high-income households do. Second, CT ends up being a higher proportion of spend in lower income households.
Example:
Consider two people buying the same laptop for $1,000 plus a CT of 20%. That means the total price paid is $1,200. For the higher earner on a monthly income of $4,000 the $200 represents 5% of that person’s outgoings that month. For an average earner on $2,000 per month, the $200 is 10% of monthly income. The higher earner is actually paying less tax as a percentage of their income than the lower earner. This is why CT is considered regressive.
So, next time you are purchasing an item, consider if there may be a way to avoid paying more for it by dodging that CT. It might be time to invest in a hand blender if you have developed an addiction to banana smoothies.