Evaluation of the reduced VAT rate

In the Netherlands, there is a differentiated VAT rate. The general rate is 21% which applies to all goods and services, with the exception being the reduced rate of 9%. This evaluation focuses on the effectiveness and efficiency of the reduced VAT rate. To investigate this, the following research methods were employed: desk study, interviews, involvement of subject matter experts, data analysis, analysis of implementation information, and analysis of legal procedures. Background The reduced VAT rate was introduced in 1969, concurrently with the implementation of the VAT system, allowing member states to determine their rates and exemptions. The initial aim of the reduced VAT rate was to alleviate the tax burden on less affluent individuals. The selection of product categories subject to the lower rate in the Netherlands was largely influenced by the exemptions in the previous system. Over time, the product groups covered by the reduced VAT rate have changed, with the trend showing an increase in the number of product groups falling under this category. Some product groups currently under the reduced VAT rate include food and water, cultural goods and services, labor-intensive services (such as hairdressers and cleaners), horticultural products, and passenger transport. Since the inception of the reduced VAT rate, there have been several rate changes. In 1969, the reduced VAT rate was 4% and the general rate was 12%. These rates have evolved over the years to the current rates of 9% and 21%. The budgetary significance has increased from €7.2 billion in 2001 to an estimated €13.4 billion in 2023. Effectiveness The effectiveness of the reduced VAT rate varies between (1) integral goals and (2) product groups. From the perspective of integral goals, the following conclusions are drawn: - The reduced VAT rate reduces the tax burden on less affluent individuals, thus proving effective. The extent to which buyers benefit from the VAT reduction (and not the sellers) varies by product group and largely depends on the elasticity of supply and demand. - In certain cases, the reduced VAT rate leads to increased consumption of essential goods, thus partially effective. The extent of increased consumption varies among product groups. - In certain cases, the reduced VAT rate supports sectors, thus partially effective. The level of sector support varies among product groups. - In certain cases, the reduced VAT rate leads to increased employment, thus partially effective. It is observed to be effective for employment in the horticultural sector and possibly for certain labor-intensive services and the museum sector. Efficiency In general, the reduced VAT rate is not an efficient instrument for achieving the intended goals. From the perspective of integral goals, the following conclusions are highlighted: - The reduced VAT rate is not an efficient instrument for reducing the tax burden on less affluent individuals. A quantitative analysis reveals that the reduced VAT rate is highly inefficient in reducing the tax burden on less affluent individuals. The more affluent a household is, the more they benefit from the reduced VAT. The 50% most affluent households benefit twice as much from the reduced VAT as the 50% least affluent households. Only 10% of the support reaches the 20% least affluent households. To provide €1 to the 10% least affluent households, almost €20 must be spent in total. Product groups not involved in reducing the tax burden decrease efficiency in this context. - The reduced VAT rate is likely not an efficient instrument for increasing the consumption of essential goods. Quantifying this is not feasible. - The efficiency of supporting sectors through the reduced VAT rate cannot be assessed. Quantifying efficiency is not feasible here. Supporting certain sectors does not align well with policy efficiency from a broader perspective. - Creating more employment through the reduced VAT rate is probably not efficient. The costs of creating a job may be higher than the income associated with it. Implementation Costs The implementation costs for the Tax Authorities related to the reduced VAT rate range from €10 million to €30 million per year. The implementation burden of the reduced VAT rate varies among product groups. Particularly, pharmaceuticals & medical devices, accommodation services, and art objects have high implementation burdens. The administrative costs for businesses amount to €125 million to €150 million per year. Quantifying the legal procedures regarding the reduced rate was found to be unfeasible within this study. However, it can be indicated that there are at least dozens of judgments made annually by the Courts, Courts of Appeal, and the Supreme Court collectively. There is no clear trend in the number of published judgments. Policy Options and Recommendations There are usually better alternative instruments than reduced VAT rates to achieve the policy goals mentioned here: - More effective alternatives to reduce the tax burden on less affluent individuals include targeted allowances and/or reductions in income tax. - Targeted subsidies to producers and/or consumers appear to be a more efficient way to stimulate the consumption of essential goods than the reduced VAT rate. However, subsidies have their limitations and challenges. Information campaigns are also a means to achieve the goal. - For sector support, targeted subsidies to producers seem to be a more efficient option than the reduced VAT rate. - To create more employment, specifically lowering labor taxes is a more efficient instrument than the reduced VAT rate.