Israel’s Value Added (VAT) tax is set to increase from 17% to 18% starting Jan. 1, 2025. The tax applies to most products and services, excluding fruits and vegetables, and purchases in the resort city of Eilat, a duty-free zone.
It is part of the government’s effort to rein in a budget deficit that mushroomed to 8.1% of GDP due to the war.
The 1% increase will cost Israeli families an additional 1,000 to 2,000 shekels per year, according to estimates.
Israel’s Calcalist, a business news site, reported that the VAT will have a “significant impact” on housing prices, especially for those planning to purchase new apartments.
In the near term, the tax may lead to a rise in the purchase of big-ticket items in December before the VAT kicks in next month, followed by a drop-off in purchases and then a return to normal spending patterns.
As noted in a 2021 study published in the National Tax Journal on an increase in Japan’s VAT rate, “spending on a wide range of durables and storables surged in the months prior to the tax rate increase, fell sharply upon implementation, but returned to their previous long-run levels within a few months.”
Japan’s current standard VAT is 10%.
Israeli consumers may also complete monthly payments of major appliances purchased prior to the tax hike as the new VAT will be applied to outstanding payments.
Another phenomenon from past VAT increases is that of “rounding up,” Ynet reported. The cost of a six-shekel notebook, for example, given a 1% VAT increase, should rise to six shekels and six agorot, but instead will likely increase to six shekels and 10 agorot. (There are 100 agorot per shekel.)
VAT is a consumption tax, meaning a tax on a good or service. It’s essentially a sales tax, only unlike a sales tax, which is collected at the point of sale from the consumer, the VAT is paid at every point of the supply chain on retail goods.
Take, for example, the construction of a typical bed frame. It would be taxed all along its production line as each company dealing with each stage of production is taxed, from harvesting the wood, to processing it, to providing specialized components, like upholstery fabric, up to the frame’s primary manufacturer.
The advantage from the government’s point of view is that the VAT produces a large, stable revenue spread across all types of businesses. Tax revenue from consumption doesn’t swing like that from income. It’s also easier to administer and harder to evade.
Nobel-prize winning economist Milton Friedman called VAT “the most efficient way to raise revenue for the government” and also “the most effective way to increase the size of government.”
Critics say VAT is a hidden tax and that this is one reason governments like it.
They also say it’s a regressive tax, disproportionately hurting low-income families. For example, a family earning $80,000 will pay proportionately less of its income on VAT than one earning $40,000 as the lower-income family spends a higher percentage for goods and services.
VAT became popular very quickly. The International Monetary Fund’s Finance & Development magazine noted in 2002, “The rapid rise of the value-added tax (VAT) was the most dramatic—and probably most important—development in taxation in the latter part of the twentieth century.”
Sixty years ago, the tax was barely known outside theoretical treatises. First adopted by France in 1954, it is now used by 175 countries. The 1990s started with two African countries using VAT. Now 45 of 54 do.
Twenty-nine of the 30 members of the Organization for Economic Co-operation and Development (OECD), an international grouping of the world’s richest countries, employ VAT.
An important exception is the United States. This has to do with America’s federalist system of government, in which tax collection is delegated to the individual states. In 2020, there were over 11,000 sales tax jurisdictions in the United States; setting up a unified tax system would be more costly than raising revenues by existing means.
Nevertheless, there are those who have argued for introducing VAT in the United States, noting that VATs are the third-largest revenue producer for OECD countries. Discussions on the subject have gone on for decades.
Compared to Europe, where VATs range from 17% to 27%, Israel’s VAT falls on the low end. Hungary has the highest at 27%, and Luxembourg the lowest at 17%. The E.U. average in 2024 is 21.6%.
(JNS)