A survey of potential GOP border tax compromises
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As lawmakers turn their attention to overhauling the tax code, many have resolved to not let the perfect be the enemy of the good. Strong opposition to the border-adjustment tax (BAT) in House Republicans’ business tax reform plan means it likely cannot be enacted lock, stock and barrel. Yet some insist the controversial tax on imports and exemption for exports is critical to the proposal, because it raises more than $1 trillion. Money like that is hard to find.

Can true tax reform happen without the destination-based cash flow tax’s (DBCFT’s) border adjustment? Lawmakers are seeking a compromise that makes the BAT less radical. A slew of modifications have been floated, and we expect more are on the way. We outline a few below:

1. Split the Pie

Split the Pie, as coined by Tax Analysts’ Mindy Herzfeld, would provide for partial implementation of the BAT — with 50 percent of import deductions disallowed and 50 percent of export receipts excluded.


Pros: It cuts in half expected appreciation of the dollar, which would be easier to achieve.


Cons: The DBCFT tax rate will need to be higher to make up for lost revenue; if the tax rate increased, then the dollar will have to appreciate even more to offset; and it preserves the income-shifting opportunities that our source-based system affords.

2. Insurance Compromise

The DBCFT with insurance in the form of an alternative (alt) tax — proposed by the authors in Forbes March 9 — would enable a business whose historic costs are made up of some threshold percentage of imports (for example, 25 percent) to get a tax answer similar to current law until the currency adjusts enough to cause the business to have a better after-tax U.S. operating profit margin under the DBCFT. It also contains a mechanism to curtail transfer pricing abuses.

Pros: It provides insurance for importers and consumers if the currency does not adjust; businesses with large dollar-denominated contracts (like oil) would get protection; it largely preserves the incentive for currency adjustment; alt tax firms will pay about as much tax as they pay today, so no large revenue loss; as the currency adjusts, the alt tax raises more money, not less, all else being equal; it limits abuse by denying import deductions for related-party profit markup; immediate expensing and effective “pure” territoriality may incentivize more businesses to locate production in the United States, spurring domestic growth; and the alt tax is only relevant if the currency does not adjust — it exists to generate support.

Cons: The profit margin cap in the alt tax may create a lot of theoretical complexity; and it effectively requires administering two different tax calculations.

3. Dollar-Denominated Commodities Compromise

One of the DBCFT’s trickier transition issues involves fixed dollar-denominated contracts. That problem is magnified for oil and wood pulp importers, because those commodities are priced in dollars. A stronger dollar may mean an oil importer will pay more for foreign oil plus the 20 percent tax. Providing a permanent exception to the BAT’s import exemption for commodities priced in dollars would address this concern.

Pros: It would prevent the double hit oil and wood pulp importers could face under the DBCFT.

Cons: If those importers are also exporters, they will benefit from a windfall; and the permanent exception would breach the integrity of the BAT, undermining the currency adjustment.

4. Formulary Apportionment

Under formulary apportionment (FA), a business’s tax base would be defined based on the location of its economic activity.

Reuven Avi-Yonah, Kimberly A. Clausing and Michael C. Durst developed the formulary profit split method, in which a business would effectively take its worldwide income minus its worldwide expenses and then use a formula (location of sales plus location of expenses) to allocate a portion of that as its base subject to taxation in the United States. Unlike the DBCFT, there would be no explicit denial of a full deduction for import costs.

A variant is the residual profit allocation method developed by the same group that refined the DBCFT — Alan Auerbach, Michael Devereux, Michael Keen, Paul Oosterhuis, Wolfgang Schön and John Vella.

Pros: FA is an income tax, is likely compliant with World Trade Organization (WTO) rules, and may be consistent with our tax treaties.

Cons: It may be unrealistic to think major countries could come to agreement on a formula.

5. Border-Adjusted VAT with Payroll Subsidy

Tax Analysts’ Lee Sheppard has remarked that the DBCFT is economically the same as a border adjusted value-added tax (VAT) plus repeal of the employer-level payroll tax. Although the DBCFT effectively repeals the corporate income tax and replaces it with what is essentially a subtraction-method destination-based VAT with a wage deduction, doing that explicitly is something with which lawmakers are uncomfortable.

Pros: Designed correctly, it definitely complies with the WTO.

Cons: Many Democrats assume VATs are regressive and many Republicans fear they will be used to boost government revenue; and to prevent regressivity, the payroll subsidy would have to be significant, which would present other challenges.

6. Add-On Border-Adjusted VAT with Lower Rate

This is the business tax system used by most of our major trading partners. It combines a source-based corporate income tax at a low rate with a border-adjusted VAT. One benefit of such a system is that it represents a more incremental move to consumption taxation that would enable the corporate income tax rate to be greatly reduced.

Michael Graetz’s Competitive Tax Plan is a 12.9 percent credit-invoice method VAT added onto a 15 percent corporate tax. Sen. Benjamin Cardin (D-MD) introduced the Progressive Consumption Tax Act, which has a 10 percent VAT added onto a 17 percent corporate tax.

Pros: It would likely withstand challenge by the WTO; and the Graetz plan has been well vetted and refined over the years to ensure that it is both revenue-neutral and will not be regressive.

Cons: Many Democrats assume VATs are regressive and many Republicans fear they will be used to boost government revenue; and it preserves the income-shifting opportunities that our source-based system affords.

These compromises all involve some form of a border adjustment. Solution-minded tax policy experts will likely be considering these and other ways to make the BAT palatable in an effort to save fundamental tax reform.

Stuart E. Leblang is a tax lawyer and previously was associate international tax counsel for the Treasury Department from 1995 to 1997. Amy S. Elliott is a tax lawyer and previously was a writer for Tax Analysts. Neither has lobbied on the border adjustment, but their clients may be benefited or harmed by the following proposals.

The views of contributors are their own and not the views of The Hill.