VAT: a back door money spinner that generates billions for the government

If conspiracy theorists turned their attention to the economy rather than, I don’t know, aliens or Hillary Clinton, surely it would not take long for them to notice the peculiar rise in the tax take from VAT.

VAT sounds innocuous enough, perhaps because no one really knows why it is there or what ‘Value Added’ actually means.

But it’s not really innocuous. To a government that makes much of its supposed generosity on income tax through, for example, increasing personal allowances, VAT is becoming the back door money spinner du jour.

VAT has all the hallmarks of a brilliantly unfair tax. Unlike income tax, it is often invisible or well hidden. It is complicated, with so many different rates for different things that only accountancy geniuses stand a chance of remembering them. And it is levied on an activity that, in a consumer-led society, is impossible to avoid; an activity that we are constantly being encouraged and manipulated to pursue through clever marketing and government policy, an activity that is basically our primary function in modern society – spending.

While we all pretty much know how much income tax we pay, we don’t have a clue how much VAT we pay in a typical year. Only the most fastidious would sit down to that particular spreadsheet after Christmas, over a sherry, as part of an annual appraisal of the past 12 months’ finances. Fag packet calculations about how much tax we pay, if we even bother with them, rarely include VAT, because in a world of highly disaggregated spending patterns of coffees here and takeaway pasties there, it is so blinkin’ difficult to work out.

Yet huge amounts of our money goes on VAT – £115 billion in 2015/16, compared with £168 billion of revenue from income tax and £113 billion from National Insurance Contributions. VAT overtook NICs in 2014/15 to become the second biggest form of revenue for the Government. Income tax revenue is also still rising, but VAT is currently rising faster. Not fast enough to overtake it any time soon, but it’s not impossible to imagine that, in our lifetimes, it could.

There has been a 58 per cent increase in the value of VAT receipts entering the Government’s coffers in the last 10 years, as per the table below (figures are expressed in millions). There was a particularly large jump in 2011, when the rate went up from 17.5 per cent to 20 per cent, but the trend was already upwards as the UK began to spend its way to recovery in the aftermath of the financial crisis, and money was pumped into the economy through Quantitative Easing.

(https://www.uktradeinfo.com/Statistics/Pages/TaxAndDutybulletins.aspx)

VAT is almost impossible to avoid. Who isn’t a spender? Who isn’t a consumer? Perhaps we would feel a bit more cross about it if anyone understood how often we pay it and on what.

So here’s a bit of background. VAT started life as a ‘purchase tax’, literally a tax on spending, before becoming VAT in 1973 when the UK entered the European Economic Community. It’s an indirect tax, meaning it is paid by the producer of the goods or service, although the actual cost is borne by consumers (another reason it’s a more slippery customer than income tax or stamp duty).

Originally, the more luxurious an item, the more VAT was added to it.

However, if VAT was first introduced to discourage excessive spending or at least to have some sort of redistributive effect, so that everyone could benefit from the extra spending at the top end produced by economic growth, we can certainly say it has failed to achieve this, as the classification of luxury and essential items has become increasingly confused.

It’s not just Mulberry bags and Bose sound systems that attract VAT. It is alcoholic drinks, confectionery, crisps, savoury snacks, hot food, sports drinks, hot takeaways, ice cream, soft drinks and mineral water – not considered luxuries by most of us.

Maybe they should be – maybe it is us greedy, have-it-all consumers who have got it wrong. But the conspiracy theorist in me says not. The conspiracy theorist says that those civil servants classifying which goods and services should and shouldn’t attract VAT have an agenda other than to truly determine the necessity of an item – and that agenda is to increase revenue.

A few things might have contributed to (or is that conspired to produce?) the increase in VAT tax revenue, besides the obvious hike in the rate in 2011:

• We are spending more. Household spending when compared with the same quarter a year ago has been showing positive growth each quarter since the fourth quarter of 2011. Here’s a graph from the Office for National Statistics most recent bulletin to prove it:
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• We are most likely spending more on supposed ‘luxury’ or non-essential items that attract higher VAT

• Quantitative Easing – the pumping of more money (which requires spending) into the economy in order to stave off recession
• Very low interest rates – with almost n0 reward for saving, the only alternative is to either invest or, you guessed it, spend
• The increased availability and use of credit

If interest rates rose, that would undoubtedly curb spending and reduce VAT tax take. As an amateur economic conspiracy theorist, I’d say that’s yet another reason we can expect interest rates to remain low for the time being.

And with wage growth remaining fairly poor, historically speaking, it seems unlikely that the Government will turn its attention back to income taxes as a key revenue driver. The amount people spend rather than the amount they earn seems a far better bet.

So it looks like VAT – complex, opaque, regressive and impossible to mitigate unless you are a subsistence farmer – is here to stay. Perhaps you don’t have to be a conspiracy theorist to see why after all.

Rebecca O’Connor is the founder of Good With Money and a former financial writer at The Times