VAT and the services sector: FGV study points out mistakes in criticisms about taxation

The allegation that a consumption tax such as VAT (Value Added Tax) "discriminates" against the services sector, among other reasons because it does not generate payroll credits, arises from a misunderstanding of how this taxation system works — and also of the economic concept of added value.

This is one of the central aspects of a work by FGV Direito SP professor Leonel Cesarino Pessôa: "VAT and the services sector: a century of resistance and misinterpretations", published by the European tax law magazine Intertax.

Resistance to equal taxation between services and goods has resurfaced in discussions of Brazilian tax reform. Here, the result of the debate in Congress was the option to leave the majority of providers in favored taxation regimes (Simples Nacional), with exemption on sales (MEI and nanoempreendedor) or with reduced rates (liberal professionals, specific regimes, etc.).

There was also an attempt to create a credit on the payroll value. Pessôa states that this is an argument that in Brazil has also gained support from some academics and lawyers. "Even students in the master's program, who have degrees in Law, have graduated for ten years, are coming up with this unreasonable argument", says Pessôa in an interview with the blog.

VAT is a tax on consumption, not on productive activity. The generation of credits is linked to taxes paid in previous stages of the production chain. Salaries are part of the value added in the National Accounts concept and are not subject to VAT taxation in a previous stage. Therefore, there is nothing to be credited.

Pessôa also states that a possible increase in the burden on some service providers in relation to the current situation does not result from a VAT penalty. But from the fact that "these activities had been unfairly favored" in previous cumulative and fragmented regimes, both in Europe and in Brazil.

The work reconstructs the emergence of VAT based on the initial formulations in the works of Wilhelm von Siemens (Germany) and Thomas Adams (USA). Both were looking for a way to tax net income, instead of the gross income that was the basis of existing consumption taxes.

Another pillar of VAT were studies on measuring GDP (Gross Domestic Product) and the concept of added value — with emphasis on the work of Carl Shoup. According to national accounting, the value added by a company can be calculated in two identical ways: (sales - third-party inputs) or (salaries + interest + rent + profit).

The value that a company adds to the economy is the sum of the remuneration of the production factors (labor and capital) employed by it. Requiring payroll credit is the mathematical equivalent of demanding that profit also be excluded from value added.

Pessôa states that criticism of the services sector reached much greater proportions in Brazil, compared to those observed in European countries in the 20th century. The author's hypothesis — he highlights that this is a hypothesis to be developed — is that the intensity reflects a deeply rooted opposition in society to the most elementary standards of equality. "There will be a shift in the tax burden, which will fall more heavily on the richest", he states.