The reduction of value-added-tax (VAT) can reduce tax evasion and improve competitiveness, according to a study by Nikolaos Artavanis from the Isenberg School of Management, University of Massachusetts, Amherst. The study comes in view of government talk concerning tax hikes in tourism and contains data following a VAT rate reduction in the Greek restaurant industry in August 2013.
Using large fast-food restaurants as a control sample, the report titled “The Effect of the VAT Rate on Tax Evasion: Evidence from the Restaurant Industry in Greece”, revealed that the fiscal cost of such measures should take into account the partial adjustment of VAT revenues by evaders and the effect on direct taxes that results from the uncovering of “hidden sales”.
The study found that depending on the incidence and distribution of under-reporting, accounting for these effects, the final fiscal cost can be minimal compared to benefits.
The paper, which examined the effect of VAT rate changes on tax evasion, stresses the importance for policy-making.
The findings indicate that the reduction of the VAT rate for non-alcoholic sales from 23 percent to 13 percent increased the reported sales-to-inputs ratio, which is used as a measure of hidden sales.
The VAT rate increase in September 2011 had the reverse effect, which was more pronounced for small enterprises and businesses with less alcoholic sales. Given the dominant role of these business units in the industry, the partial downward adjustment of VAT revenues and the higher direct taxes from the increase in reported sales can offset the fiscal cost from the rate reduction.
Previous reports found that the VAT rate reduction increased compliance, especially for smaller units and units with low dependence on alcoholic sales, which collectively account for over 75 percent of the industry’s turnover.
To sum up, the report found that reducing tax rates would lead to an increase in compliance at a small fiscal cost. Furthermore, tax rate reduction can increase competitiveness within the sector and with foreign competitors, which is bound to improve the long-term prospects of the industry and the economy.