MORE THAN 50 YEARS OF TRADE RULE

DISCRIMINATION ON TAXATION:

HOW TRADE WITH CHINA IS AFFECTED

Trade Lawyers Advisory Group

Terence P. Stewart, Esq.

Eric P. Salonen, Esq.

Patrick J. McDonough, Esq.

Stewart and Stewart

August 2007
Copyright © 2007 by The Trade Lawyers Advisory Group LLC 

This project is funded by a grant from the U.S. Small Business Administration 

(SBA). SBA’s funding should not be construed as an endorsement of any 

products, opinions or services. All SBA-funded projects are extended to the public 

on a nondiscriminatory basis. 
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MORE THAN 50 YEARS OF TRADE RULE DISCRIMINATION ON TAXATION:

HOW TRADE WITH CHINA IS AFFECTED 

TABLE OF CONTENTS 

PAGE

EXECUTIVE SUMMARY.............................................................................................. iv 

INTRODUCTION ................................................................................................................ 1 

I. U.S. EXPORTERS AND PRODUCERS ARE COMPETITIVELY 

DISADVANTAGED BY THE DIFFERENTIAL TREATMENT OF DIRECT 

AND INDIRECT TAXES IN INTERNATIONAL TRADE .............................................. 2 

II. HISTORICAL BACKGROUND TO THE DIFFERENTIAL TREATMENT OF 

INDIRECT AND DIRECT TAXES IN INTERNATIONAL TRADE WITH 

RESPECT TO BORDER ADJUSTABILITY................................................................. 21 

A. Border Adjustability of Taxes ................................................................. 21 

B. 18th and 19th Century Examples of the Application of 

Border Tax Adjustments .......................................................................... 23 

C. 1946-1948 – Creation of the General Agreement on Tariffs 

and Trade (GATT) ...................................................................................... 26 

D. 1955 – Review of the GATT Adds Export Subsidy 

Provisions to GATT Article XVI.............................................................. 30 

E. 1960 – GATT Working Party on Subsidies – Illustrative 

List of Export Subsidies ........................................................................... 31 

F. Why the U.S. Agreed to the Existing GATT Rules on 

Border Tax Adjustments .......................................................................... 33 

G. 1963-1967 – Kennedy Round and Growing Concern 

Regarding Non-Tariff Barriers (including border tax 

adjustments)................................................................................................ 37 

H. 1967-68 – U.S. Balance of Payments Problem Grows; 

President Johnson Issues Statement on Balance-ofPayments Problem on January 1, 1968................................................. 44 

I. 1968-1970 – GATT Working Party on Border Tax 

Adjustments................................................................................................. 58 
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MORE THAN 50 YEARS OF TRADE RULE DISCRIMINATION ON TAXATION:

HOW TRADE WITH CHINA IS AFFECTED 

TABLE OF CONTENTS 

PAGE

J. 1969-1971 – Nixon Administration’s Concerns Regarding 

Border Tax Adjustments .......................................................................... 75 

K. 1970-1972 – Williams Commission Report............................................. 85 

L. 1968-73 – Reflections of U.S. Business Concerns Regarding 

the Trade Disadvantages Resulting from GATT Rules on 

Border Tax Adjustments .......................................................................... 88 

M. Trade Act of 1974 – For the Tokyo Round, Congress 

Identifies Reform of Border Tax Adjustment Rules as a 

U.S. Negotiating Objective....................................................................... 96 

N. Omnibus Trade and Competitiveness Act of 1988 – For the 

Uruguay Round, Congress Again Identifies Revision of 

Border Tax Adjustment Rules as a U.S. Negotiating 

Objective ...................................................................................................... 102 

O. Trade Act of 2002 – For the Doha Round, Congress Once 

More Identifies Reform of Border Tax Adjustment Rules 

as a U.S. Negotiating Objective............................................................... 105 

P. Multiple U.S. Efforts to Partially Compensate for the 

Inequity of GATT Border Tax Rules Have Been Thwarted 

by GATT and WTO Dispute Settlement Decisions ............................. 108 

III. LEGISLATIVE EFFORTS TO REFORM THE U.S. TAX SYSTEM TO 

ADDRESS THE DISCRIMINATORY TRADE EFFECTS OF THE 

DIFFERENTIAL TREATMENT OF INDIRECT AND DIRECT TAXES HAVE 

NOT BEEN SUCCESSFUL ........................................................................................ 113 

IV. CHINA’S TAX SYSTEM AND ITS USE OF DIRECT AND INDIRECT TAXES ............. 133 

A. Background ................................................................................................. 133 

B. Recent Amendments to the Chinese VAT System .............................. 136 

C. Concerns Regarding Chinese Manipulation of the VAT................... 142 

V. IMPACT OF THE CHINESE VAT SYSTEM ON U.S.-CHINA TRADE 

FLOWS...................................................................................................................... 143 
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MORE THAN 50 YEARS OF TRADE RULE DISCRIMINATION ON TAXATION:

HOW TRADE WITH CHINA IS AFFECTED 

TABLE OF CONTENTS 

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VI. DISPUTES AND ISSUES THAT HAVE ARISEN CONCERNING CHINA’S 

APPLICATION OF VALUE-ADDED AND OTHER INDIRECT TAXES ON 

SELECTED PRODUCTS............................................................................................ 146 

A. VAT on Semiconductors ........................................................................... 148 

B. VAT Treatment of Certain Fertilizers................................................... 153 

C. Consumption Taxes on Various Products............................................ 155 

D. Border Trade VAT Policy......................................................................... 157 

E. Assessment of VAT on Antidumping Duty ........................................... 160 

F. VAT Refund on Imported Capital Equipment Used for 

Production of Products for Export........................................................ 161 

G. VAT Rebate on Purchases of Domestic Machinery and 

Equipment by FIEs .................................................................................... 162 

H. VAT Rebate for Domestic Equipment Purchases by FIEs 

Engaged in Particular Projects .............................................................. 163 

I. Agricultural VAT Policies ........................................................................ 164 

VII. POTENTIAL UNILATERAL, BILATERAL AND MULTILATERAL ACTIONS 

THAT COULD BE TAKEN TO ELIMINATE BORDER TAX 

DISCRIMINATION OF U.S. EXPORTERS AND PRODUCERS................................... 166 
50 Years of Trade Rule Discrimination on Taxation: How Trade with China is Affected

EXECUTIVE SUMMARY 

iv

For more than 50 years, U.S. manufacturers and exporters have operated under 

GATT/WTO trade rules which distort trade through discriminatory treatment of different 

taxation systems. The global trading rules permit the imposition of certain forms of taxes on 

imports and the removal of certain forms of taxes on exports. The U.S. is the only major trading 

nation which has not modified its taxation system over time, with the result that U.S. exports 

face double taxation while U.S. manufacturers, agricultural producers and service providers 

compete in the U.S. with imports that have been relieved of a significant part of the taxation 

obligations of the exporting countries. Over this time, U.S. presidents, cabinet members, 

Congress, business leaders, and economists have sought to correct the discriminatory treatment 

of taxes which peculiarly distort trade to the disadvantage of the United States. The efforts to 

date, including in the current Doha Round, have failed to solve the problem. This is a problem 

not just with historical trading partners such as the EU, but also with new trading powers like the 

People’s Republic of China. 

Under GATT/WTO rules, indirect taxes, such as value-added taxes (VAT), excise taxes, 

and other types of consumption taxes, are treated more favorably than direct taxes, such as 

income taxes. In application, the differential treatment of direct/indirect tax systems means that 

countries that have indirect tax systems are permitted (1) to impose indirect taxes, such as the 

VAT, on incoming imports, and (2) are permitted to provide a rebate of the VAT on outgoing 

exports. However, the same treatment is not accorded to countries, such as the United States, 

that rely primarily on direct tax systems. In other words, under the GATT/WTO rules, indirect 

taxes are adjustable at the border, direct taxes are not. 
50 Years of Trade Rule Discrimination on Taxation: How Trade with China is Affected

EXECUTIVE SUMMARY 

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The consequence of the GATT/WTO disparate treatment of direct and indirect taxes is 

that U.S. producers and exporters suffer a competitive disadvantage due to double taxation -- 

U.S. exporters must pay both U.S. taxes, which are not rebated, and foreign VAT; U.S. 

producers must pay U.S. taxes and compete with imports that do not pay U.S. taxes and which 

have received rebates of VAT and other indirect taxes. 

Economists have found that the disparate border adjustability of direct and indirect taxes 

produces significant economic distortions. Currently, 137 nations have some form of VAT. 

Based on international VAT rates and U.S. import and export data, it can be estimated that the 

total VAT disadvantage to U.S. exporters and producers in 2006 was more than $300 billion. 

China is one of the 137 countries that imposes a VAT and allows rebates of VAT on 

exports. Given the size of U.S. trade with China, the VAT disadvantage to U.S. producers and 

exporters in 2006 as a result of China’s use and application of VAT is estimated to have been as 

high as $46 billion. 

The impact of the VAT disadvantage to U.S. exporters and producers is increasing and is 

likely to continue to increase. Trade liberalization has played a role in intensifying the VAT 

disadvantage. As countries have reduced import tariffs, the reduction of tariff revenue has led 

many countries to replace import tariffs with indirect taxes, such as VAT and other consumption 

taxes. Indeed, the International Monetary Fund and the OECD (and even the United States in the 

Doha negotiations), have encouraged developing countries to adopt this policy. A comparison of 

the European Union’s tariff reductions over time with VAT increases over the same period 

shows a close correspondence. So also, in the 1990s, as China reduced its import tariffs in 
50 Years of Trade Rule Discrimination on Taxation: How Trade with China is Affected

EXECUTIVE SUMMARY 

vi

preparation for WTO accession, it reformed its tax system and introduced a VAT which now 

provides more revenue than any other Chinese tax. 

The origin of the differential border treatment of indirect and direct taxes in international 

trade goes back to the 18th and 19th centuries. Following World War II, the VAT was virtually 

unknown and, to the extent that countries imposed indirect taxes at the border and rebated such 

taxes on exports, these border taxes were essentially inconsequential in their impact on 

international trade. The growth and impact of VAT and other indirect taxes was not foreseen by 

at least the U.S. negotiators in the 1940s when the GATT was developed. 

At the time that the GATT was adopted in 1947, it was commonly assumed that indirect 

taxes were fully passed to the ultimate buyer in the price of the good, but that direct taxes were 

not similarly passed. This economic assumption became embedded in the GATT’s application 

of the “destination principle” to taxation of indirect taxes and the “origin principle” to taxation of 

direct taxes with respect to border adjustability. Many economists no longer accept this 

assumption. However, all attempts so far to revise the GATT/WTO rules to provide equal 

treatment of direct and indirect taxes have not succeeded. 

U.S. concerns about the trade distortions caused by the differential treatment of border 

taxes came to the fore in the 1960s as European countries gradually introduced VAT in their tax 

systems and as the European Communities decided to harmonize its VAT. The U.S. viewed 

these actions as imposing an increased disadvantage on U.S. exporters and producers. In 

addition, in 1967-68, the United States experienced a negative balance of payments caused, in 

part, by the border tax adjustments disadvantage in trade with Europe. In 1968, the Johnson 
50 Years of Trade Rule Discrimination on Taxation: How Trade with China is Affected

EXECUTIVE SUMMARY 

vii

Administration decided to address the border tax distortions by calling for general review of the 

GATT rules. Although a working party on border tax adjustments was established in Geneva, 

the effort did not result in any revisions to the GATT rules after two years of work because of the 

consensus requirement within the GATT (and now the WTO). 

U.S. concerns about the border tax adjustment disparity, and efforts to address it, 

continued, however. These concerns were addressed by the Nixon Administration, the Williams 

Commission, by persistent statements to Congress by U.S. business leaders, and by Congress, 

which has repeatedly included in U.S. trade negotiating objectives (Tokyo Round, Uruguay 

Round and Doha Round) the reform of the GATT’s border tax adjustment rules. 

As another road to addressing border tax adjustment disparity, there have been repeated 

legislative attempts to revise U.S. tax law by enacting a VAT, sales taxes, or other taxes that 

would be border adjustable according to the current GATT/WTO rules. However, none of these 

efforts has so far succeeded. 

With respect to China, notwithstanding the VAT disadvantage to U.S. exporters and 

producers, the United States Trade Representative has identified a series of particular actions by 

China that are alleged to constitute present and continuing violations of WTO obligations 

regarding the application of VAT and consumption taxes. These actions by China include the 

VAT treatment of certain fertilizers, the unequal application of consumption taxes on various 

products, border trade policy with Russia, the assessment of VAT on antidumping duties, 

preferential treatment of VAT rebates, and agricultural VAT policies. Resolution of all of these 

issues could be addressed at the WTO now. 
50 Years of Trade Rule Discrimination on Taxation: How Trade with China is Affected

EXECUTIVE SUMMARY 

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With respect to eliminating the trade disadvantage of the current GATT/WTO border tax 

adjustment rules, there are a number of potential actions that the U.S. could take. Unilaterally, 

Congress could: (1) reform the U.S. tax system to include indirect taxes such as VAT that would 

be border adjustable, (2) enact the Border Tax Equity Act of 2007, (3) impose import taxes on 

services and allow rebates of the same on exports. Bilaterally, the U.S. could negotiate 

agreements with VAT countries that would cover border tax adjustments of direct and indirect 

taxes. Multilaterally, the U.S. could attempt to negotiate changes to the GATT/WTO agreements 

so as to treat direct and indirect taxes equally – that is, either allow imposition of direct taxes 

(such as income taxes) on imports and rebates of direct taxes on exports, or eliminate the 

preferential border adjustment treatment accorded to indirect taxes under current trade rules. 
MORE THAN 50 YEARS OF TRADE RULE DISCRIMINATION ON TAXATION:

HOW TRADE WITH CHINA IS AFFECTED

INTRODUCTION

Since the 1970s Congress has called for the elimination of the bias in GATT/WTO trade 

rules in the border adjustment of taxes which favor indirect tax systems (such as value-added 

taxes) to the detriment of countries like the U.S. which rely heavily on direct taxes (such as 

income taxes). Exporters and manufacturers in the United States have had long-standing 

concerns that the disparity in border treatment of direct and indirect taxes results in U.S. 

exporters being subject to double taxation while imports into the United States benefit from 

subsidies that are not reachable under WTO disciplines. China is one of the countries that has a 

VAT system which both taxes U.S. exports to China and subsidizes Chinese exports to the 

United States. This paper examines the discriminatory trade effects and economic impact that 

the differential and disparate treatment of direct and indirect taxes in international trade has on 

the competitive position of U.S. exporters and producers, reviews the contribution of U.S.-China 

trade to the indirect tax treatment disadvantage, and suggests potential ways to address this issue 

unilaterally, bilaterally, and multilaterally under the WTO. 

The paper first reviews the economic impact that differential tax treatment has on U.S. 

exporters and producers. There is then an examination of the historical background to the 

GATT/WTO distinctions regarding direct and indirect taxes and U.S. efforts to negotiate changes 

to the GATT/WTO rules. Next, congressional interest in the problem of competitive 

disadvantages occasioned by the disparate treatment of direct and indirect taxes, and attempts to 

address the issue legislatively, are reviewed. The paper then turns to a review of China’s tax 

system and the various indirect taxes, including VAT, which are applied and rebated. Based on
50 Years of Trade Rule Discrimination on Taxation: How Trade with China is Affected 

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U.S.-China trade flows in 2006, the paper estimates the economic effect that China’s valueadded tax system has on the competitiveness of U.S. goods. The problems and concerns that 

have arisen with respect to China’s application of discriminatory VAT and other indirect taxes 

on selected products are then examined. Finally, the paper concludes with a review of bilateral 

and multilateral actions that could be taken to eliminate the discrimination to U.S. producers and 

exporters from the disparate border adjustment of direct and indirect taxes. 

I. U.S. EXPORTERS AND PRODUCERS ARE COMPETITIVELY 

DISADVANTAGED BY THE DIFFERENTIAL TREATMENT OF DIRECT AND 

INDIRECT TAXES IN INTERNATIONAL TRADE

Let me give you an example of how U.S. exporters are at a 

disadvantage in the global market. The tax burden on a foreign 

product often consists mainly of a combination of income tax and 

Value Added Tax (VAT). A foreign exporting company that 

manufactures products in Country A typically receives a rebate of 

the 15 percent VAT when its goods are exported. The tax burden of 

a U.S. product consists mainly of income tax. An exporting NAM 

member (and around 80 percent do export) receives no tax rebate 

when its products are exported from the United States but finds that 

these products are subject to a 15 percent VAT when they are 

imported into Country A. In some cases, the 15 percent tax on the 

value of the goods may actually exceed the normal profit margin of 

the item. As the United States does not use a VAT and therefore 

does not impose such on imported goods, domestically produced 

goods that are exported sustain the full effect of the U.S. tax burden 

plus the VAT of Country A, while imported products sustain only a 

portion of this heavy tax burden. This has the effect of significantly 

favoring foreign products within the United States and discouraging 

U.S. exports.1

 

1

 Fundamental Tax Reform: Hearing Before the House Committee on Ways and Means, 106th Cong., 2d Sess. 

270 (2000) (Statement of James E. Rose, Jr., Senior Vice President, Taxes and Government Affairs, 

Tupperware Corporation, Orlando, Florida; and Board Member and Chairman, Tax and Budget Policy 

Committee, National Association of Manufacturers). 
50 Years of Trade Rule Discrimination on Taxation: How Trade with China is Affected 

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The foregoing statement succinctly describes the situation that U.S. producers and 

exporters face in competing with products from countries that assess, and rebate upon export, 

value-added taxes and other indirect-type taxes. U.S. exporters are at disadvantage because they 

are subjected to double taxation (i.e., U.S. income tax and foreign VAT) and U.S. producers are 

at a disadvantage because imports into the United States are not subject to U.S. taxes at the 

border and benefit from subsidies (in the form of rebates of value-added and other indirect taxes) 

that are not reachable under WTO disciplines. 

Under GATT/WTO rules, indirect taxes (such as value-added taxes) are border 

adjustable, that is, they may be rebated on exports and collected on imports, but the same 

treatment is not permitted for direct taxes (such as income taxes). Indeed, the rebate of direct 

taxes is considered a prohibited export subsidy under GATT/WTO rules. (The historical 

background to this distinction is reviewed in section II). Because the United States tax system 

relies primarily on direct taxes, the differential treatment of direct and indirect taxes under 

international trade rules puts U.S. exporters and producers at a profound competitive 

disadvantage with countries that rely to a greater extent on indirect taxes (e.g., value-added 

taxes). 

Indirect Tax Countries 

(e.g., VAT countries) Direct Tax Countries (e.g., U.S.) 

Exports: exempt from, or receive 

rebates of, indirect taxes 

Imports: indirect taxes are imposed 

Exports: no exemption from, and no 

rebates of, direct taxes 

Imports: no direct taxes are imposed 
50 Years of Trade Rule Discrimination on Taxation: How Trade with China is Affected 

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The following table illustrates the price effects of the disparate treatment of direct and 

indirect taxes upon U.S. exports to VAT countries. The table makes the following assumptions: 

(1) a product with a pre-tax price of $100; (2) 10% VAT; (3) 10% direct taxes passed on to the 

buyer; and (4) 5% duties and movement charges. 

Price Effects of Disparate Treatment of Direct and Indirect Taxes on U.S. Exports 

Product of VAT Country Product of United States

Exported to 

VAT country 

Exported to 

U.S. 

Consumed 

domestically 

Exported to 

VAT country 

Exported to 

Non-VAT 

country 

Consumed 

domestically 

Pre-Tax Price, 

FOB Port of 

Export 

$100 $100 $100 $100 $100 $100 

Taxes in Country 

of Origin 0 0 10% 10% 10% 10% 

Duties and 

Movement 

Charges 

5% 5% 0 5% 5% 0 

Border Taxes in 

Destination 

Country 

10% 0 0 10% 0 0 

Total Price to 

Consumer $115.50 $105 $110 $127.05 $115.50 $110 

The foregoing table shows that there is no price effect on exports from one VAT country 

to another VAT country or from one non-VAT country to another non-VAT country. However, 

for exports from a non-VAT country, such as the United States, to a VAT country and from a 

VAT country to a non-VAT country, the price effects are striking – both U.S. exporters and U.S. 

producers are substantially disadvantaged vis-à-vis competition with products of VAT countries. 

The scope and effect of the disadvantage to U.S. exporters and producers from the border 

treatment of indirect taxes is broad. 137 countries and territories have tax systems that include 

value-added taxes. All of these countries assess a VAT on imports and virtually all exempt 

exports from the VAT. Countries applying a VAT account for 94% of U.S. exports and imports. 
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One can broadly estimate the impact of the differential border treatment of direct and 

indirect taxes on U.S. exporters and producers by reviewing annual U.S. trade in goods data. If 

one multiplies the standard VAT rates for all VAT countries in 2006 by the amount of U.S. 

goods exports to and imports from those countries in 2006, it can be estimated that foreign goods 

exported to the United States from VAT countries received subsidies (i.e., VAT rebates) 

approximating $217 billion, and that exports of U.S. goods to VAT countries were burdened 

with VAT assessments approximating $110 billion. In sum, the border treatment of VAT 

competitively disadvantaged U.S. exporters and producers of goods by an estimated total of $327 

billion in 2006.2

VAT Disadvantage in U.S.-World Trade3

U.S. 2006 Exports 

FAS value ($) 

U.S. 2006 Imports 

Customs value ($) 

VAT Collected on 

U.S. Exports ($) 

VAT Subsidy to 

U.S. Imports ($) 

Total for VAT 

Countries 884,099,555,944 1,778,103,137,964 110,291,982,671 217,107,460,940 

Total VAT Disadvantage in 2006 $327,399,443,611

 

2

 This estimate both overcounts and undercounts the VAT effects as it does not account for lesser rates and 

exemptions or account for a higher VAT rate on U.S. exports due to assessment on a landed duty cost basis. It 

should be noted also that this estimate is based only on traded goods data. As many VAT countries also apply 

indirect taxes to services (e.g., a GST, or goods and services tax), U.S. exporters and providers of services are 

also disadvantaged with respect to services to the extent of their trade with such countries. 

3

 Data sources for the table are: Import and export statistics from U.S. Census Bureau, Foreign Trade Statistics 

(domestic exports and imports for consumption); VAT rates for world from U.S. Agency for International 

Development, VAT Revisited (October 2005); Deloitte Touche Tomatso, “Global Indirect Tax Rates,” at 

http://www.deloitte.com; World Trade Organization, Trade Policy Reviews, at http://www.wto.org; 

International Monetary Fund, Article IV Reviews, at http://www.imf.org; World Bank, “Doing Business,” at 

http://www.doingbusiness.org; U.S. Trade Representative, 2007 National Trade Estimate Report on Foreign 

Trade Barriers, at http://www.ustr.gov; U.S. Department of Commerce, “Country Tariff and Tax Information,” 

at http://www.export.gov. 
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Economists have found that the differential treatment of direct and indirect taxes with 

respect to border adjustability results in significant economic effects on U.S. exporters and 

producers. A recent study by Jerry Hausman, Professor of Economics at the Massachusetts 

Institute of Technology, in May 2006 entitled An Economic Analysis of WTO Rules on Border 

Adjustability of Taxes, found that the “current situation leads to extremely large economic 

distortions.”4

 Professor Hausman posits the following hypothetical: 

Consider the case of a semiconductor chip model made by a 

producer such as AMD using identical technology in 2 countries: 

the US, and Germany with possible exports to China. If the chip is 

produced in the US AMD must pay US corporate income taxes to 

help fund the government. If AMD attempts to sell the chip in 

Germany, the chip is subject to 16% VAT so the price is 1.16 

(using 1.00 as the base price in the US). However, if the price is 

1.00 (in the same units in Germany) after the export rebate the 

price is 0.86 for export to the US. The price of the US produced 

chip in China is 1.17 after payment of China’s 17% VAT, while 

the price of the German chip in China is 1.01. 

Thus, US exports pay both US taxes and the German tax for 

exports to Germany, while German exports to the US pay neither. 

This situation leads to large economic distortions in both trade and 

investment decisions. For exports to a third country, German 

exporters are receiving a subsidy while US exporters are receiving 

no subsidy. For products such as computer chips which have high 

value to weight ratios and are readily transported, choice of tax 

system by the origin country can have very large effects on 

competitiveness of different industries. Further, both investment 

and production decisions will be affected by these tax and 

adjustment differences given the importance of international trade 

in these high-technology industries.5

 

4

 Jerry Hausman, An Economic Analysis of WTO Rules on Border Adjustability of Taxes (May 2006); available at 

http://www.standupforsteel.org/news_releases_detail.php?page=05-10-2006_full_study. 

5

 See Jerry Hausman, An Economic Analysis of WTO Rules on Border Adjustability of Taxes (May 2006) 

(emphasis added). 
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Professor Hausman also found that the effect of the differential treatment of direct and 

indirect taxes on investment decisions could exacerbate and spread its economic impact by 

encouraging relocation of manufacturing facilities and lowering U.S. living standards. 

Once the dynamic effects of the distortions on investment are 

analyzed, the magnitude of the problem increases greatly. 

Countries that adjust their VAT policies to subsidize exports and 

tax imports will cause a longer term decrease in investment in the 

US, decreasing manufacturing capacity and leading to a worsening 

of the trade balance. A further problem arises if the ability to 

improve manufacturing processes and innovate in terms of R&D is 

influenced by proximity to manufacturing. Especially in high 

technology manufacturing industries where output yield is a crucial 

variable for profitability, process innovations are an extremely 

important economic factor. If tax distortions cause “excess” 

location of US manufacturing capacity to “VAT favorable” 

countries, over the longer term increases in US productivity gains 

and innovation are also likely to be distorted and be lower than 

otherwise if the distortion did not exist. Economists generally 

agree that over the longer term these increases in US productivity 

gains and innovation are among the economic factors that 

determine the US standard of living. 

The decreased investment in the US that arises from the distortion 

on investment returns will lead to a lower US capital stock, which 

will lead to decreased wages to workers. This lower wage effect as 

well as reduced wages from decreased productivity will harm US 

workers. Since wages and return to capital employed are the two 

major factors that determine the US standard of living, the 

distortions created by differential treatment of taxation can have 

important economic effects. 

As the US economy increasingly competes in world markets these 

tax difference become increasingly important.6

In his study, Professor Hausman estimated the effect of the current differential treatment 

of direct and indirect taxes on U.S. exports and imports by reviewing the 2004 trade data for the 

20 largest trading partners of the United States. With respect to exports, using export elasticities

 

6

 See Jerry Hausman, An Economic Analysis of WTO Rules on Border Adjustability of Taxes (May 2006). 
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of 1.50 or 1.36, Professor Hausman estimated that, if a VAT was not imposed by U.S. trading 

partners, U.S. exports would increase by 15.3% or 13.9%, respectively.7

 Professor Hausman 

concluded: “Both of these estimated effects are substantial and would lead to an increase in the 

dollar value of US exports of approximately $100 billion in 2004. . . . These results demonstrate 

the economic significance of current distortions created by disparate border tax adjustments.”8 

Similarly, with respect to imports, using import elasticities of 0.30 or 0.23, Professor 

Hausman estimated that, if U.S. trading partners did not rebate VAT on exports, U.S. imports 

from such countries would decrease by 3.7% or 2.8%, respectively, amounting to a reduction in 

imports ranging from $30-$41 billion based on 2004 import levels.9 In sum, Professor Hausman 

concludes that quantification of the disparate treatment of direct and indirect taxes demonstrates 

that “the economic implications for the United States are very large.”10

Other economists have reached similar conclusions about the economic effects of the 

disparate border adjustability of direct and indirect taxes on U.S. exporters and producers. For 

example: 

European countries (and many others) routinely exempt their 

exports from value added tax. This saves European exporters 

about $100 billion a year of tax payments on export sales. . . . 

Parallel tax savings are not available to U.S. exporters.11

____________________ 

 

7

 See Jerry Hausman, An Economic Analysis of WTO Rules on Border Adjustability of Taxes (May 2006). 

8

 See Jerry Hausman, An Economic Analysis of WTO Rules on Border Adjustability of Taxes (May 2006). 9

 See Jerry Hausman, An Economic Analysis of WTO Rules on Border Adjustability of Taxes (May 2006). 

10 See Jerry Hausman, An Economic Analysis of WTO Rules on Border Adjustability of Taxes (May 2006). 

11 See Gary Hufbauer, Ernest Christian and Harold Adrion, Springing Tax Reform From a Bad WTO Case (Tax 

Notes, April 17, 2000); available at http://www.cstr.org/commentaries/taxreform/taxnotes-springing2000.html. 
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As the only OECD nation without border-adjusted taxation, the 

United States is the most profitable market for foreign competitors, 

including their home markets. In effect, their exports to the United 

States are incentivized to the extent of their VAT rebate (on 

average 17.7 percent) for either higher profit, unfair competitive 

advantage, or a combination of the two. At the same time, they 

enjoy the same advantage in their home markets versus U.S. 

competition as a consequence of the VAT added to U.S. income 

taxes contained in imports.12

In addition, a recent paper issued by the Manufacturers Alliance/MAPI in March 2007 

entitled U.S. Exporters Beware: European Countries Pressured To Raise Value Added Taxes

found that U.S. companies were at a competitive disadvantage due to two long-term tax trends -- 

increases in value added taxes (VATs) that are imposed by other countries and ever-less 

competitive U.S. corporate income taxes.13 With respect to VAT, the MAPI paper finds that, 

when border adjusted, value-added taxes are harmful to U.S. companies because, as they enable 

governments to collect more tax revenue, U.S. firms bear a “larger share of the heavier tax 

burden” relative to their foreign rivals.14 In addition, the MAPI report notes that many VAT 

countries use their additional VAT revenue to finance government-provided health care and 

retirement benefits, “benefits that U.S. exporters are expected to provide without government 

assistance.”15 As a result, “U.S. exporters pay twice for worker benefits: once for their own 

 

12 See David A. Hartman, The Urgency of Border-Adjusted Federal Taxation (Tax Notes, September 6, 2004) at 

1080; available at http://www.americanproducers.org/hartmantaxnotes.pdf. 13 See Garrett A. Vaughn, U.S. Exporters Beware: European Countries Pressured To Raise Value Added Taxes 

(Manufacturers Alliance/MAPI, February 2007) at 1-2. The MAPI report is available for purchase at 

http://www.mapi.net/AM/Template.cfm?Section=News_Archive1&TEMPLATE=/CM/ContentDisplay.cfm&C

ONTENTID=3604. 14 See Garrett A. Vaughn, U.S. Exporters Beware: European Countries Pressured To Raise Value Added Taxes 

(Manufacturers Alliance/MAPI, February 2007) at 1. See also Manufacturers Alliance/MAPI news release, 

MAPI International Tax Analysis: Border Adjusted Value Added Taxes Harm U.S. Firms, March 15, 2007; 

http://www.mapi.net/AM/Template.cfm?Section=News_Archive1&TEMPLATE=/CM/ContentDisplay.cfm&C

ONTENTID=3604. 

15 See id.
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workers and once more for the workers employed by their foreign rivals.”16 Thus, the MAPI 

report concludes, “Border adjustment’s role in shifting tax burdens means real economic harm 

for U.S. manufacturers will follow from the fiscal trends pushing European countries toward 

heavier VATs” and “higher VATs will curb imports substantially – including imports from the 

United States.”17

Some economists discount the economic effect of the disparate border treatment of direct 

and indirect taxes by arguing that any negative trade effects that may result from borderadjusting indirect taxes are balanced by exchange-rate adjustments. However, other economists 

respond that while this may be what economic theory predicts, in fact exchange rates do not 

offset the real disadvantages experienced by U.S. exporters and producers. Two examples 

cogently express this response. First, Professor Hausman: 

Of course, it has been claimed that in the long run changes in 

exchange rates or other economic variables will happen in the 

market to eliminate many of these problems. But economic 

experience has demonstrated that exchange rates may not fully 

adjust or take extremely long periods to adjust so that the price 

adjustment then occurs through domestic prices and wages. * * * 

Thus, waiting for economic adjustment through exchange rate 

adjustment is unlikely to solve the distortions that arise from 

differential tax and subsidy treatment of exports and imports. 

Instead, adjustment of domestic prices and wages are more likely 

to be affected by the distortions created by differential rebate and 

subsidy policies of imports and exports.18

 

16 See id. 17 See Garrett A. Vaughn, U.S. Exporters Beware: European Countries Pressured To Raise Value Added Taxes 

(Manufacturers Alliance/MAPI, February 2007) at 2. See also Manufacturers Alliance/MAPI news release, 

MAPI International Tax Analysis: Border Adjusted Value Added Taxes Harm U.S. Firms, March 15, 2007. 

18 See Jerry Hausman, An Economic Analysis of WTO Rules on Border Adjustability of Taxes (May 2006). 

Professor Hausman also points out that China, one of the largest trading partners of the United States, does not 

have a freely floating currency. See id. 
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Second, Gary Hufbauer: 

In economic theory, border adjustments for uniform businesses 

{sic} taxes are equivalent to exchange rate adjustments of 

approximately the same magnitude. So given that theoretical 

equivalence, the classic answer to national differences in business 

tax systems is that exchange rate adjustments will eventually offset

any tax differences, . . . and wash away any permanent effect on 

business location, decisions or competitive disadvantage. 

So according to the classic logic, business firms in neither the 

exporting country nor the importing country should care where 

their business taxes are adjusted at the border. But there we have 

the theory. On the other hand, we have the practice, and the 

practice is they do care, and they care a lot. 

No country has imposed a VAT, or at least no country of any 

significance, without adjusting at the border. If they believe their 

classic theory, they would say, hey, the exchange rate will take 

care of it, no need to adjust. They do not believe it, and they have 

adjusted instead.19

In addition, there is an important, but overlooked factor, which is exacerbating the 

competitive disadvantage and discriminatory impact of VAT on U.S. exporters and producers. 

That factor is trade liberalization and the trend to replace lost tariff revenue with value added 

taxes. Over the last 40 years, as countries have agreed to reduce their import tariffs they have 

turned increasingly to value-added and other indirect domestic taxes to make up for reduced 

import tariff revenue. This trend is an observable fact. For example, as demonstrated in the 

table and chart below, a comparison of tariff reductions agreed to, and VAT rates imposed by, 

the EU over time shows that the reduction in tariffs corresponds almost precisely with an 

increase in VAT rates. 

 

19 See The Rebate of Value-Added Taxes at the Border and the Competitive Disadvantage for US Small 

Businesses, Hearing before the House Committee on Small Business, 108th Cong., 2d Sess. 3 (July 7, 2004) 

(statement of Gary C. Hufbauer, Institute for International Economics). 
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EU Tariff Rates and VAT Rates: 1968 – 200120

1968 1973 1988 1996 2001 

Tariff Rates 10.4% 6.6% 5.8% 5.4% 4.5% 

VAT Rates 13.44% 15.01% 18.54% 19.11% 19.24% 

EU-25 Countries with VAT 3 11 15 24 25 

0

5

10

15

20

25

1968 1973 1988 1996 2001

Percent

Avg EU Tariff

Rate

Avg EU VAT Rate

 

20 Data sources for Table and Chart: 

Tariff Rates: For 1968 & 1973: simple average MFN tariff rates on industrial products applied by EU countries. 

See P. Hoeller, N. Girouard & A. Clecchia, The European Union’s Trade Policies and Their Economic Effects, 

OECD Economics Department Working Papers No. 194, OECD ECO/WKP(98)7 (1998) at 22. For 1988, 1996 

& 2001: simple average MFN tariff rates applied by EU countries on imports of non-agricultural and non-fuel 

products in 1996. See UNCTAD Handbook of Statistics; available at http://stats.unctad.org/

Handbook/TableViewer/tableView.aspx. 

VAT Rates: simple averages of standard VAT rates in effect in EU countries in the relevant year. See European 

Commission, VAT Rates Applied in the Member States of the European Community, DOC/1829/2006 (Sept. 1, 

2006); available at http://stats.unctad.org/Handbook/TableViewer/tableView.aspx. 

EU-25 Countries with VAT: based on the year of VAT adoption for each of the EU-25 countries. See R.M. 

Bird & P. Gendron, VAT Revisited: A New Look at the Value Added Tax in Developing and Transitional 

Countries, USAID (2005) at pp. 167 – 169. 
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The widening gap in the EU between tariff rates and VAT rates is only likely to increase; indeed, 

Germany recently raised its VAT rate from 16% to 19%, effective January 1, 2007. 

China has followed this trend as well. As China prepared for accession to the WTO over 

the 1990s, it liberalized its trade regime by, inter alia, reducing tariffs. 

The pace of tariff reform in China has also been rapid. While 

average tariffs were high in the early 1990s, they fell sharply after 

1994. Significant tariff reform was implemented in October 1997, 

reducing average tariffs below 20 per cent. . . . Progressive 

reductions in tariffs since1992 have reduced average tariffs by 

more than half and even more in the manufacturing sector.21

During the 1990s, China’s simple mean import tariff for all products declined from 

42.9% (1992) to 39.9% (1993) to 36.3% (1994) to 23.6% (1996) to 17.6% (1997) and to 17.5% 

(1998).22 Over the same period, China undertook major reform of its tax system in 1994, and in 

particular, introduced a value-added tax, which has become China’s main indirect tax, 

accounting for about 37% of total tax revenue in 2004.23 Since 1994, China’s VAT has been 

“levied at a standard rate of 17%, with a reduced rate of 13% on some items, and exemptions for 

others.”24

As part of its WTO accession commitments, China has continued to reduce its import 

tariffs. 

 

21 Elena Ianchovichina & Will Martin, Trade policy reform and China’s WTO accession, in China and the World 

Trading System (eds., D.Z. Cass, B.G. Williams, & G. Barker) (Cambridge, 2003) at 97-98. 22 See World Bank: 1999 World Development Indicators at p. 340 (Table 6.6). 23 See Trade Policy Review – People’s Republic of China; Report by the Secretariat, WT/TPR/S/161/Rev.1 (26 

June 2006) at p. 115-116, paras. 189, 191. China’s VAT was introduced pursuant to the Provisional 

Regulations on Value Added Tax, adopted by the State Council on 26 November 1993 and effective 1 January 

1994. See id. at 116, para. 191.

24 See Trade Policy Review – People’s Republic of China; Report by the Secretariat, WT/TPR/S/161/Rev.1 (26 

June 2006) at p. 116, para. 191.
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China’s simple average 2001 2002 2003 2004 2005 

applied rate (%) 15.6 12.2 11.1 10.2 9.7 

Source: Trade Policy Review – People’s Republic of China; Report by the Secretariat, 

WT/TPR/S/161/Rev.1 (26 June 2006) at p. 65 (Table III.1). 

The Trade Policy Review of China conducted in 2006 noted: 

China has progressively lowered its MFN tariff and reduced nontariff barriers to trade. Nonetheless, the tariff remains one of 

China's main trade policy instruments and a significant source of 

tax revenue (accounting for some 4.3% of total taxes collected). In 

2005, the overall average MFN tariff was 9.7%; the averages for 

agricultural and non-agricultural products were 15.3% and 8.8%, 

respectively.25

* * * 

The average applied MFN rate in 2005 is 9.7%, (9.8% including 

the AVEs based on the authorities' data) down from 17.6% in 

1997, 15.6% in 2001 before China became a Member of the WTO, 

and 12.2% in 2002 just after it acceded to the WTO.{Footnote 

omitted} The tariff is higher for agricultural products, 15.3% 

(15.2% including AVEs), according to the WTO definition of 

agriculture, although it has declined from 23.1% in 2001 and 

18.2% in 2002. The average tariff for non-agricultural products is 

8.8% (8.9% including AVEs), declining from 14.4% in 2001 and 

11.2% in 2002 (Table III.1); 15.6% of tariffs exceed 15% 

(international tariff peaks), down from 40.1% in 2001.26

Interestingly, the referenced footnote that is omitted in the foregoing excerpt states: 

Tariffs tend to be a relatively "expensive" type of tax distortion. 

Hence, a tariff cut, financed by raising indirect taxes to compensate 

the Government for the lost revenue would increase welfare. More 

specifically, for each dollar of tax revenue raised in China, the 

welfare gain could be as much a US$0.29 if the Government 

 

25 See Trade Policy Review – People’s Republic of China; Report by the Secretariat, WT/TPR/S/161/Rev.1 (26 

June 2006) at p. 60, para. 2. 

26 See Trade Policy Review – People’s Republic of China; Report by the Secretariat, WT/TPR/S/161/Rev.1 (26 

June 2006) at p. 68, para. 26.
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switched from tariffs to output taxes as the revenue collecting 

policy instrument.27

This footnote by the WTO Secretariat in China’s Trade Policy Review Report reflects the fact 

that the trend of tariff reductions with corresponding increases in VAT or other indirect domestic 

taxes is not just an incidental or inevitable consequence of trade liberalization. In fact, the policy 

has been actively promoted and advanced by major international economic development 

organizations such as the International Monetary Fund (IMF) and the Organisation for Economic 

Co-operation and Development (OECD). The following selected excerpts from publications by 

these organizations illustrate how the VAT-for-tariffs policy is being promoted. 

 From IMF publications: 

Standard policy advice for countries facing a loss of trade tax 

revenue as a consequence of trade liberalization emphasizes 

increasing domestic consumption taxes, both excises and (the 

particular concern here) the VAT. More specifically, a 

conventional prescription is to respond to a cut in the tariff on 

some good by increasing the consumption tax on the same item by 

the same amount (or slightly less). This evidently preserves the 

gain in production efficiency from the tariff cut itself; for a small 

economy, it leaves the consumer price unchanged (or slightly 

lower), so that consumer welfare increases; and, since tax is now 

levied on domestic production as well as imports, government 

revenue increases. This simple strategy thus enables a welfare gain 

to be realized from trade liberalization without any reduction in 

aggregate tax revenue. Note too that this strategy is equivalent, in 

the simplest case, to one of combining a tariff cut with whatever 

increase in the consumption tax is needed to keep the consumer 

price constant ....28

 

27 See Trade Policy Review – People’s Republic of China; Report by the Secretariat, WT/TPR/S/161/Rev.1 (26 

June 2006) at p. 68, para. 26, fn. 16 (citing Erbil, Can (2004), Trade Taxes are Expensive, mimeo). 

28 See Michael Keen, VAT, Tariffs, and Withholding: Border Taxes and Informality in Developing Countries, IMF 

Working Paper WP/07/174 (July 2007) at 18 (emphasis added); available at http://www.imf.org/external/

pubs/ft/wp/2007/wp07174.pdf. 
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____________________ 

Trade tax revenue has become less important over the past 20 

years as countries have reduced tariffs, but it continues to be a 

major source of government finance in many low and middleincome countries, commonly accounting for one-fifth of total tax 

revenue, and often more. To the extent that trade liberalization cuts 

tariff revenues, these countries may have to develop other sources 

of government finance. . . . {S}ome low-income countries—

including Malawi, Senegal, and Uganda—have succeeded in 

recovering their lost trade tax revenues. In all of these cases, a 

significant part of the revenue recovery came from strengthening 

domestic consumption taxes— excises and, typically, a VAT 

(value-added tax). . . . These success stories demonstrate that the 

difficulties are not so much technical as political: policymakers 

need to have a strong commitment to reforming domestic tax 

systems. Their experience offers useful lessons. Liberalization 

itself can limit revenue loss and even increase net revenue to the 

extent that it spurs growth and imports—especially if nontariff 

barriers, whose elimination raises revenues, are cut. But with 

deeper tariff reform, revenue recovery also requires a committed 

and continuous effort, over several years, to broaden tax bases, 

purge exemptions, simplify rate structures, and improve revenue 

administration. Strengthening the domestic consumption tax 

system through excises and, especially, through a simple, broadbased VAT, can have a crucial role to play in this regard, ....29

____________________ 

The formal theory of policy reform offers little guidance on what is 

in practice one of the more pressing reform issues facing many 

developing countries: how to secure the efficiency gains from 

eliminating remaining tariff barriers--often still considerable--

while preserving the public (tax plus tariff) revenues. This paper 

has developed and explored one very simple strategy for doing so: 

simply offset tariff reductions, point-for-point, with increases in 

destination-based consumption taxes, thereby leaving consumer 

prices unchanged. For a small open economy, it has been shown, 

coordinated reforms of this kind are certain to increase both 

welfare and public (tax plus tariff) revenues, so long as the 

underlying tariff reform improves production efficiency. 

 

29 See IMF, Integrating Poor Countries into the World Trading System, Economic Issues No. 37 (2006) at 9-11 

(emphasis added); available at http://www.imf.org/external/pubs/ft/issues/issues37/ei37.pdf. 
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This result provides a clear rationale for the importance commonly 

attached to the development of domestic sales taxes, notably the 

value-added tax, as an accompaniment to tariff reform.30

____________________ 

Reform of tax policy and of tax and customs administration, by 

protecting the revenue base, provide essential support to trade 

liberalization. Successful trade liberalization can be greatly 

facilitated if steps are taken to strengthen domestic taxes, 

especially at the earliest stages of the process, because it takes time 

for tax and customs administrations to improve revenue collection. 

* * * 

The best tax systems are those that cause a minimum of distortion 

in the allocation of resources, are equitable, and are relatively easy 

to administer. In practice, comprehensive tax and tariff policy 

reforms typically include most or all of the following: 

• A broad-based consumption tax, notably a VAT, should be 

introduced or strengthened, preferably with a single rate, 

minimal exemptions, and a threshold to exclude smaller 

enterprises from taxation. Although VATs are often initially 

applied to manufactures and imports, they are typically 

subsequently extended to the distribution sector and to 

agricultural inputs. Experience suggests that excise taxes 

should be restricted to a limited list of products, principally 

petroleum products, alcohol, and tobacco. VATs and excises 

should be applied equally to imports and domestic products.31

 From OECD publications: 

The complementarity of a sound macroeconomic framework and 

trade policy reform is illustrated by the use of tax policy in 

compensating for tariff revenue loss resulting from trade 

liberalisation. 

* * * 

 

30 See Michael Keen & Jenny E. Ligthart, Coordinating Tariff Reduction and Domestic Tax Reform, IMF Working 

Paper WP/99/93 (July 1999) at 18; available at http://www.imf.org/external/pubs/ft/wp/1999/wp9993.pdf. 

31 See Liam Ebrill, Janet Stotsky, & Reint Gropp, Revenue Implications of Trade Liberalization, IMF Occasional 

Paper No. 180 (1999) at 7-8 (emphasis added). 
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The degree of reliance on import duties as a source of government 

revenue differs considerably among countries and so will the 

adjustment requirements. A recent OECD study demonstrates that 

where tariff revenue losses are replaced with a consumption tax, 

there is significant scope for obtaining positive welfare gains from 

a joint package of tariff and tax reform without compromising 

government revenue.32

____________________ 

The recent policy advice in the area of fiscal implications of trade 

liberalisation stresses the use of other taxes as a compensating 

measure. A shift away from trade taxes towards other forms of 

taxation such as income, sales or value added taxes has already 

been taking place for some time in many countries. In fact, the 

need to offset revenue losses from trade liberalisation by 

strengthening domestic taxation has in many cases been a key 

consideration in the adoption of the VAT. . . . 

The recommendation to shift away from trade taxes towards 

domestic consumption and income taxes reflects the consensual 

view that trade taxes are a relatively inefficient way of raising 

revenue. . . . 

This has formed the basis for the policy advice by the IMF and the 

World Bank that have, for some time now, been advocating and 

supporting a move towards more broadly-based tax systems in 

developing countries. . . .33

Moreover, even the United States has encouraged other nations to consider adopting the 

policy of using indirect taxes like the VAT to replace lost tariff revenue resulting from trade 

liberalization. In the Doha trade negotiations, the United States submitted a paper to the 

Negotiating Group on Non-Agricultural Market Access (NAMA) entitled Revenue Implications 

for Trade Liberalization. The paper notes that during discussion of NAMA modalities a number 

 

32 See OECD, Trade and Structural Adjustment (2005) at 11, 21 (emphasis added); available at 

http://www.oecd.org/dataoecd/58/40/34753254.pdf. 33 See Przemyslaw Kowalski, Impact of Changes in Tariffs on Developing Countries' Government Revenue, 

OECD Trade Policy Working Paper No.18, TD/TC/WP(2004)29/FINAL (18 April 2005) at 24-25 (emphasis 

added); available at http://www.olis.oecd.org/olis/2004doc.nsf/7b20c1f93939d029c125685d005300b1/05d329f

09bb681ecc1256fe700484717/$FILE/JT00182548.PDF. 
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of developing countries were concerned about the “revenue implications of trade liberalization” 

because they rely on tariffs as an important source of government revenue and the “elimination 

of tariffs could have serious consequences for their fiscal stability.”34 To address these concerns, 

the U.S. paper reviews favorably the “tariff revenue trends in the context of ongoing programs of 

fiscal and tax reform.”35

Trade liberalization, when accompanied by sound macroeconomic 

and fiscal policies, including reform of domestic tax regimes, 

provides a significant opportunity for developing countries to 

stimulate growth and reduce poverty.36

____________________ 

With the proliferation of free trade agreements in all regions, many 

governments are already facing the revenue issue and are 

responding positively by eliminating tariffs and improving taxes. 

Most developing countries in Latin America, the Middle East, and 

Europe already rely primarily on other revenue sources. Asian 

countries, which in many cases are more reliant on import duties, 

have already demonstrated a capacity to expand revenue through 

non-trade taxes such as value-added taxes, other taxes on goods 

and services, and income taxes. 

* * * 

The revenue effects of trade liberalization can be mitigated by 

building on the domestic tax reforms that are already underway, 

with the advice and assistance of the international financial 

institutions. 

* * * 

For those countries that need assistance, the international financial 

institutions, particularly the IMF and World Bank, can provide 

 

34 Market Access for Non-Agricultural Products, Revenue Implications of Trade Liberalization, Communication 

from the United States, TN/MA/W/18/Add.2 (11 April 2003) at para. 2. 35 Market Access for Non-Agricultural Products, Revenue Implications of Trade Liberalization, Communication 

from the United States, TN/MA/W/18/Add.2 (11 April 2003) at para. 3. 

36 Market Access for Non-Agricultural Products, Revenue Implications of Trade Liberalization, Communication 

from the United States, TN/MA/W/18/Add.2 (11 April 2003) at para. 4. 
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advice and assistance for countries willing to undertake tax and 

trade reform efforts in the context of sound economic programs. 

* * * 

Virtually all developing countries already have income tax systems 

in place, and most developing countries have value-added taxes 

(VATs), including almost half of the least developed countries. 

For developing countries as a group, there generally appears to be 

an inverse relationship between a country's dependence on a valueadded tax (VAT) for revenue and its dependence on import duties. 

This suggests that there may be substantial capacity to shift from 

import duties to other taxes, even among the least developed 

countries.37

____________________ 

The IMF has outlined a number “best practices” for implementing 

comprehensive tax and tariff reforms.38 The best tax systems are 

those that cause a minimum of distortion in the allocation of 

resources, are equitable, and are relatively easy to administer. In 

practice, comprehensive tax and tariff policy reforms typically 

include most of the following: 

• A broad-based consumption tax, such as a value-added tax 

(VAT), should be introduced or strengthened. Such taxes 

should be applied equally to imports and domestic production, 

preferably with a single rate, minimal exemptions, and a 

threshold to exclude smaller enterprises from taxation. These 

taxes may have the greatest potential to replace tariffs as a 

source of revenue and would envision a continuing role for 

customs services.39

Whether knowingly or not, the United States’ support of the VAT-for-tariffs policy 

undermines the express congressional trade negotiating objective directed at correcting the 

disparate treatment of border taxes under WTO rules. Moreover, in practical terms, encouraging 

 

37 Market Access for Non-Agricultural Products, Revenue Implications of Trade Liberalization, Communication 

from the United States, TN/MA/W/18/Add.2 (11 April 2003) at para. 6. 38 Market Access for Non-Agricultural Products, Revenue Implications of Trade Liberalization, Communication 

from the United States, TN/MA/W/18/Add.2 (11 April 2003) at para. 16 (citing Ebrill, Stotsky, and Gropp, 

Revenue Implications of Trade Liberalization, IMF Occasional Paper 180 (1999)). 

39 Market Access for Non-Agricultural Products, Revenue Implications of Trade Liberalization, Communication 

from the United States, TN/MA/W/18/Add.2 (11 April 2003) at para. 16. 
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this policy fosters the VAT disadvantage. As U.S. exporters and producers theoretically benefit 

from tariff cuts by other countries, if those same countries then impose a new VAT or increase 

an existing VAT to compensate for the reduction in tariff revenue, the U.S. exporter and 

producer faces the same charges on importation. While domestic product also pays the VAT, it 

may be accompanied by reductions in direct taxes and in any event is not assessed (or is rebated) 

on exports. 

In sum, while trade liberalization is a worthy goal of U.S. trade policy, the trend of tariff 

reductions with corresponding VAT introduction or increases works to intensify the longstanding discrimination and competitive disadvantage that U.S. exporters and producers have 

endured as a result of the GATT/WTO rules imposing differential border adjustability of direct 

and indirect taxes. 

II. HISTORICAL BACKGROUND TO THE DIFFERENTIAL TREATMENT OF 

INDIRECT AND DIRECT TAXES IN INTERNATIONAL TRADE WITH 

RESPECT TO BORDER ADJUSTABILITY

A. Border Adjustability of Taxes

The effect of border tax adjustments on international trade has been a controversial issue 

for at least four decades. The controversy stems from the fact that the international trade rules 

established by the General Agreement on Tariffs and Trade (GATT) and continued by the World 

Trade Organization (WTO) treat direct taxes and indirect taxes differently. As one scholar has 

noted, the GATT/WTO rules are “deliberately asymmetric: they permit adjustment for indirect 

taxes (such as sales and value-added taxes) but not for direct taxes (such as corporate or
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individual income taxes).”40 The United States relies primarily upon a direct tax system, and 

direct taxes are not adjustable at the border. The rest of the world relies to a significant degree 

upon indirect tax systems, and indirect taxes are adjustable at the border. Thus, the United States 

has complained for many years that the GATT/WTO rules on the border adjustability (or not) of 

indirect and direct taxes has worked to the disadvantage of U.S. businesses. 

At the time that the GATT was adopted in 1947, it was a common economic belief that 

indirect taxes were fully passed along to the ultimate buyer in the price of the good, but that 

direct taxes were not passed on to the price of goods. In an attempt to achieve tax neutrality in 

the trade of goods, the drafters of the GATT decided to apply the “destination principle” of 

taxation to the treatment of indirect taxes and the “origin principle” of taxation to the treatment 

of direct taxes. 

The “destination principle” of taxation holds that products should be taxed according to 

where they are used or consumed, regardless of the place of production. Thus, under the 

“destination principle,” domestic taxes paid on products that are exported would be rebated while 

imported products would be subject to the same domestic taxation as domestic products in the 

importing country. In contrast, the “origin principle” holds that products should be taxed 

according to where they originate or are produced, regardless of where they are consumed. 

Thus, under the “origin principle,” products would be subject to domestic taxation but upon 

exportation would not receive any rebates of domestic taxes nor would imported products be 

subject to domestic taxes. Again, as this differential treatment flowed from the economic

 

40 Gary C. Hufbauer, Fundamental Tax Reform and Border Tax Adjustments (Institute for International 

Economics, 1996), at vii. 
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assumptions of the time that indirect taxes were fully pushed forward into the price of a product 

but that direct taxes were not, it seemed equitable to apply the destination principle to indirect 

taxes in order to achieve tax neutrality. 

B. 18th and 19th Century Examples of the Application of 

Border Tax Adjustments

The application of the destination principle to the border adjustability of indirect taxes 

has a long history. For example, in 1791, the First Congress passed an excise tax on distilled 

spirits that provided for the remission of the excise tax when the product was exported. 

Sec. 15 And be it further enacted, That upon all spirits which 

after the said last day of June next, shall be distilled within the 

United States, from any article of the growth or produce of the 

United States, in any city, town or village, there shall be paid for 

their use the duties following: . . . 

* * * 

And for the encouragement of the export trade of the United 

States: 

Sec. 51 Be it further enacted, That if any of the said spirits 

(whereupon any of the duties imposed by this act shall have been 

paid or secured to be paid) shall, after the last day of June next, be 

exported from the United States to any foreign port or place, there 

shall be an allowance to the exporter or exporters thereof, by way 

of drawback, equal to the duties thereupon, according to the rates 

in each case by this act imposed, deducting therefrom half a cent 

per gallon, . . . .41

Later in the 19th century, when the United States enacted excise taxes on alcohol (1868) 

and tobacco (1872), it provided for remission of such taxes upon the export of those products.42 

 

41 Act of March 3, 1791 (“An Act Repealing, after the last day of June next, the duties heretofore laid upon 

Distilled Spirits imported from abroad, and laying others in their stead; and also upon Spirits distilled within the 

United States, and for appropriating the same”), 1 Cong. Ch. 15, March 3, 1791, 1 Stat. 199, 203, 210. 

42 See Gary C. Hufbauer, Fundamental Tax Reform and Border Tax Adjustments (Institute for International 

Economics, 1996), at 37. 
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Also, in the early 19th century, the economist David Ricardo articulated both the idea that 

indirect taxes are pushed forward into the price of a good and the rationale of the destination 

principle. 

The rise of wages, a tax on income, or a proportional tax on all 

commodities, all operate in the same way; they do not alter the 

relative value of goods, and therefore they do not subject us to any 

disadvantage in our commerce with foreign countries. We suffer 

indeed the inconvenience of paying the tax, but from that burthen 

we have no means of freeing ourselves. 

A tax, however, which falls exclusively on the producers of a 

particular commodity tends to raise the price of that commodity, 

and if it did not so raise it the producer would be under a 

disadvantage as compared with all other producers; he would no 

longer gain the general and ordinary profits by his trade. By rising 

in price, the value of this commodity is altered as compared with 

other commodities. If no protecting duty is imposed on the 

importation of a similar commodity from other countries, injustice 

is done to the producer at home, and not only to the producer but to 

the country to which he belongs. It is for the interest of the public 

that he should not be driven from a trade which, under a system of 

free competition, he would have chosen, and to which he would 

adhere if every other commodity were taxed equally with that 

which he produces. A tax affecting him exclusively is, in fact, a 

bounty to that amount on the importation of the same commodity 

from abroad; and to restore competition to its just level, it would 

be necessary not only to subject the imported commodity to an 

equal tax, but to allow a drawback of equal amount, on the 

exportation of the home-made commodity. 

The growers of corn are subject to some of these peculiar taxes, 

such as tithes, a portion of the poors’ rate, and, perhaps, one or two 

other taxes, all of which tend to raise the price of corn, and other 

raw produce, equal to these peculiar burthens. In the degree then 

in which these taxes raise the price of corn, a duty should be 

imposed on its importation. If from this cause it be raised ten 

shillings per quarter, a duty of ten shillings should be imposed on 

the importation of foreign corn, and a drawback of the same 

amount should be allowed on the exportation of corn. By means of 

this duty and this drawback, the trade would be placed on the same 

footing as if it had never been taxed, and we should be quite sure
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that capital would neither be injuriously for the interests of the 

country, attracted towards, nor repelled from it. 

The greatest benefit results to a country when its Government 

forbears to give encouragement, or oppose obstacles, to any 

disposition of capital which the proprietor may think most 

advantageous to him. By imposing tithes, &c. on the farmer 

exclusively, no obstacle would be opposed to him, if there were no 

foreign competition, because he would be able to raise the price of 

his produce, and if he could not do so he would quit a trade which 

no longer afforded him the usual and ordinary profits of all other 

trades. But if importation was allowed, an undue encouragement 

would be given to the importation of foreign corn, unless the 

foreign commodity were subject to a duty, equal to tithes or any 

other exclusive tax imposed on the home-grower. 

But the home-grower would still have to complain, if he was 

refused a drawback on exportation, because he might then say, 

“Before your duty, and before the price of my produce was raised 

in consequence of it, I could compete with the foreign grower in 

foreign markets; by making the remunerating price of my corn 

higher, you have deprived me of that advantage, therefore give me 

a drawback equal to the duty, and you, in every respect, restore me 

to the position, as it regards both my own countrymen, as 

producers of other commodities, and foreign growers of raw 

produce, in which I was before placed.” On every principle of 

justice, and consistently with the best interests of the country his 

demand should be acceded to.43

Moreover, 19th century treaties between European countries have been cited as examples of the 

long-standing application of the destination principle in international trade.44 

 

43 David Ricardo, Works and Correspondence of David Ricardo (Liberty Fund Inc., 2004), Vol. IV at 217-219, On 

Protection to Agriculture, 1822; available at http://olldownload.libertyfund.org/EBooks/Ricardo_0687.04.pdf. 

44 See Gary C. Hufbauer, Fundamental Tax Reform and Border Tax Adjustments (Institute for International 

Economics, 1996), at 47. Hufbauer states: “A treaty drafted in 1862 between France and the Zollverein 

provided for the remission of consumption taxes on exports; a convention in 1882 between Great Britain and 

France contained the corollary provision that imported goods would be taxed no more heavily than domestically 

produced goods.” Id.
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C. 1946-1948 – Creation of the General Agreement on Tariffs 

and Trade (GATT)

The General Agreement on Tariffs and Trade (GATT) does not contain a unified or 

comprehensive provision that addresses the treatment of border taxes. Rather, the GATT rules 

on the border adjustability of direct and indirect taxes are found in several articles. With respect 

to taxes on imports, the relevant provisions of GATT 1994 are articles II and III. 

Article II: Schedules of Concessions

2. Nothing in this Article shall prevent any contracting party from 

imposing at any time on the importation of any product: 

(a) a charge equivalent to an internal tax imposed consistently 

with the provisions of paragraph 2 of Article III in respect of 

the like domestic product or in respect of an article from 

which the imported product has been manufactured or 

produced in whole or in part; 

Article III: National Treatment on Internal Taxation and Regulation

2. The products of the territory of any contracting party imported into 

the territory of any other contracting party shall not be subject, 

directly or indirectly, to internal taxes or other internal charges of

any kind in excess of those applied, directly or indirectly, to like 

domestic products. . . . 

With respect to the remission or exemption of taxes on exports, the relevant provisions of 

GATT 1994 are articles VI and XVI. 

Article VI: Anti-dumping and Countervailing Duties

4. No product of the territory of any contracting party imported 

into the territory of any other contracting party shall be 

subject to anti-dumping or countervailing duty by reason of 

the exemption of such product from duties or taxes borne by 

the like product when destined for consumption in the country 

of origin or exportation, or by reason of the refund of such 

duties or taxes. 
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Article XVI: Subsidies

Interpretative Note Ad Article XVI

The exemption of an exported product from duties or taxes borne 

by the like product when destined for domestic consumption, or 

the remission of such duties or taxes in amounts not in excess of 

those which have accrued, shall not be deemed to be a subsidy. 

The provisions of the General Agreement on Tariffs and Trade (GATT) (Article II, III, 

VI, and XVI) that relate to the border treatment of direct and indirect taxes have their origin in 

documents drafted by the United States following World War II. In December 1945, the United 

States government published a document titled Proposals for Expansion of World Trade and 

Employment which proposed establishment of an International Trade Organization of the United 

Nations and suggested “rules to govern trade barriers, restrictive business practices, 

intergovernmental commodity arrangements, and the international aspects of domestic 

employment policies.45 In February 1946, the Economic and Social Council of the United 

Nations, at the first meeting, called for an international conference on trade and employment to 

consider the proposal to create an International Trade Organization. It also established a 

Preparatory Committee to draft a Charter for the Organization. In advance of the conference, 

held in London in the fall of 1946, the U.S. government elaborated on its earlier proposals and 

prepared, as a basis for discussion, a Suggested Charter for an International Trade Organization 

of the United Nations.

46 

With respect to national treatment, Article 9 of the Suggested Charter provided: 

 

45 U.S. Department of State, Suggested Charter for an International Trade Organization of the United Nations 

(September 1946), at Foreword. 

46 See U.S. Department of State, Suggested Charter for an International Trade Organization of the United Nations 

(September 1946). 
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1. The products of any Member country imported into any 

other member country shall be exempt from internal taxes and 

other internal charges higher than those imposed on like products 

of national origin, and shall be accorded treatment no less 

favorable than that accorded like products of national origin in 

respect of all internal laws, regulations or requirements affecting 

their sale, transportation or distribution or affecting their mixing, 

processing, exhibition or other use, * * *.47

With respect to antidumping and countervailing duties, Article 11 of the Suggested 

Charter provided: 

3. No product of any Member country imported into any other 

member country shall be subject to antidumping or countervailing 

duty by reason of the exemption of such product from duties or 

taxes imposed in the country of origin or exportation upon the like 

product when consumed domestically.48

With respect to export subsidies, Article 25 of the Suggested Charter provided: 

2. Except as provided in paragraph 3 of this Article, no 

Member shall grant, directly or indirectly, any subsidy on the 

exportation of any product, or establish or maintain any other 

system which results in the sale of such product for export at a 

price lower that the comparable price charged for the like product 

to buyers in the domestic market, due allowance being made for 

differences in conditions and terms of sale, for differences in 

taxation, and for other differences affecting price comparability. 

The preceding sentence shall not be construed to prevent any 

Member from exempting exported products from duties or taxes

 

47 U.S. Department of State, Suggested Charter for an International Trade Organization of the United Nations

(September 1946), at Article 9.1. 

The national treatment principle with respect to internal taxes and charges was a provision included in various 

U.S. bilateral trade agreements entered into in the 1930s pursuant to the Reciprocal Trade Agreements Act of 

1934 (Tariff Act of 1930, tit. III, as amended by Act of June 12, 1934, 48 Stat.943 (1934). One such example is 

the U.S.-Canada Reciprocal Trade Agreement, Nov. 15, 1935, art. V and VI, 49 Stat. at 3950, 3960, 3963 

(1936). See Roger W. Rosendahl, Border Tax Adjustments: Problems and Proposals, LAW & POL'Y INT'L BUS., 

Vol. 2, at 85, 93-94, 144-145 (1970). 

48 U.S. Department of State, Suggested Charter for an International Trade Organization of the United Nations, at 

Article 11.3 (September 1946). 
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imposed in respect of like products when consumed domestically 

or from remitting such duties or taxes which have accrued. * * *49

Thus, the concepts of national treatment for imports with respect to internal taxes, and 

that the exemption or remission of domestic duties or taxes on products exported should not be 

considered within the realm of export subsidies or be a basis for imposing countervailing duties, 

were present in the suggested charter initially put forward by the United States. 

In the series of draft texts (i.e., Geneva and Havana texts) that followed the London 

conference, these concepts were carried forward. The provisions respecting national treatment of 

import-related taxes and charges (articles II and III) were included in the final General 

Agreement on Tariffs and Trade that was adopted in 1947 and entered into force on January 1, 

1948. So also, the provision that antidumping and countervailing duties shall not be imposed by 

reason of the exemption or rebate of domestic taxes on exports (article VI) was contained in the 

final GATT 1947. However, because at the final stage the negotiators were not able to agree on 

the prohibition of export subsidies, all of the proposed language dealing with export subsidies 

was omitted from the GATT 1947, including the provision that excluded from the scope of 

export subsidies the exemption or remission of duties or taxes on exported products that had 

been included in each prior draft text. As adopted, article XVI of GATT 1947 required only 

notification and consultation if a subsidy operated to increase exports or decrease imports, as 

follows: 

If any contracting party grants or maintains any subsidy, including 

any form of income or price support, which operates directly or 

indirectly to increase exports of any product from, or to reduce

 

49 U.S. Department of State, Suggested Charter for an International Trade Organization of the United Nations, at 

Article 25.2 (September 1946) (emphasis added). 
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imports of any product into, its territory, it shall notify the 

CONTRACTING PARTIES in writing of the extent and nature of 

the subsidization, of the estimated effect of the subsidization on the 

quantity of the affected product or products imported into or 

exported from its territory and of the circumstances making the 

subsidization necessary. In any case in which it is determined that 

serious prejudice to the interests of any other contracting party is 

caused or threatened by any such subsidization, the contracting 

party granting the subsidy shall, upon request, discuss with the 

other contracting party or parties concerned, or with the 

CONTRACTING PARTIES, the possibility of limiting the 

subsidization. 

D. 1955 – Review of the GATT Adds Export Subsidy 

Provisions to GATT Article XVI

In the 1954-1955 Review Session of GATT, various proposals were made to amend 

GATT article XVI regarding subsidies. In particular, it was proposed to incorporate the export 

subsidy provisions of the draft texts that had been omitted from the GATT 1947. After 

negotiations, it was agreed to amend article XVI by including a prohibition of export subsidies 

provided to manufactured goods (section B to GATT article XVI). The draft provision that 

excluded from the scope of export subsidies the exemption or remission of duties or taxes on 

exported products was not incorporated in GATT article XVI but, rather, was included as an 

interpretive note to article XVI which provided that the “exemption of an exported product from 

duties or taxes borne by the like product when destined for domestic consumption, or the 

remission of such duties or taxes in amounts not in excess of those which have accrued, shall not 

be deemed to be a subsidy.”50 These amendments to GATT article XVI were given effect by the

 

50 General Note Ad Article XVI (emphasis added). 
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1955 Protocol Amending the Preamble and Parts II and III of the General Agreement, which 

entered into force on October 7, 1957.51

E. 1960 – GATT Working Party on Subsidies – Illustrative 

List of Export Subsidies

In 1960, a GATT Working Party on Subsidies considered what steps should be taken to 

implement the provisions of paragraph 4 of GATT article XVI. In the course of their review, 

France made a proposal to draw up a list of prohibited export subsidies based on a previous 

OEEC (predecessor to OECD) list. This list provided that the remission or exemption of direct 

taxes (and excessive rebates of indirect taxes) on exports were prohibited but that remission or 

exemption of indirect taxes on exports was permitted. 

At its meeting in September 1960 the Council examined the 

proposal of the French Government (L/1260) that full effect be 

given to the prohibition of export subsidies as envisaged in 

paragraph 4 of Article XVI (C/M/1). 

* * * 

In formulating their proposal the French Government indicated that 

it would favour an instrument listing a certain number of practices 

which would be prohibited under paragraph 4 of Article XVI, 

provided such an enumeration were not considered exhaustive. 

They suggested that the CONTRACTING PARTIES could draw 

up a list on the basis of the list annexed to Decision C(59)202 of 

the OEEC Council. The following are the practices enumerated in 

that Decision: 

* * * 

(c) The remission, calculated in relation to exports, of direct 

taxes or social welfare charges on industrial or commercial 

enterprises. 

(d) The exemption, in respect of exported goods, of charges 

or taxes, other than charges in connexion with importation 

or indirect taxes levied at one or several stages on the same

 

51 2 U.S.T. 1767, T.I.A.S. No. 3030, 278 U.N.T.S. 168. The Protocol was adopted at Geneva on March 10, 1955. 
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goods if sold for internal consumption; or the payment, in 

respect of exported goods, of amounts exceeding those 

effectively levied at one or several stages on these goods in 

the form of indirect taxes or of charges in connexion with 

importation or in both forms.52

The Working Party issued its report in November 1960. The Report listed the proposed 

export subsidy measures put forward by France and further stated: 

The Working Party agreed that this list should not be considered 

exhaustive or to limit in any way the generality of the provisions of 

paragraph 4 of Article XVI. It noted that the governments 

prepared to accept the Declaration {i.e., the Declaration of 19 

November 1960 Giving Effect to the Provisions of Article 

XVI:453} ... for the purpose of that Declaration, these practices 

generally are to be considered as subsidies in the sense of Article 

XVI:4 ....54

Thus, in 1960, those GATT members accepting the Declaration Giving Effect to the Provisions 

of Article XVI:4, which included the United States, agreed that the remission of direct taxes or 

social welfare charges in relation to exports would be considered a prohibited export subsidy, but 

that the exemption or rebate of indirect taxes not in excess of the amount levied would not be 

considered an export subsidy, or indeed as a subsidy at all, and was therefore recognized as a 

permissible practice. 

 

52 Subsidies, Action under Article XVI:4, W.17/3 (2 November 1960), W.17/3/Corr.1 (4 November 1960) 

(emphasis added). 53 Declaration of 19 November 1960 Giving Effect to the Provisions of Article XVI:4, L/1381 at Annex A 

(November 1960); 9 BISD 32-33 (1961). 

54 Report of the Working Party on Subsidies, Provisions of Article XVI:4, L/1381 at para. 5 (November 1960), 

adopted on 19 November 1960; 9 BISD 185, 186 (1961). 
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F. Why the U.S. Agreed to the Existing GATT Rules on 

Border Tax Adjustments

Given the concerns expressed by U.S. business about the disadvantageous trade effects 

resulting from the differential treatment of direct and indirect taxes with respect to border tax 

adjustments and the long-standing efforts of the U.S. Government to change the GATT rules on 

border tax adjustments (discussed infra), many have asked why the U.S. agreed to the adoption 

of the GATT Agreement and the 1955 and 1960 amendments thereto that established the border 

tax adjustment rules. The general consensus of observers and government officials is that, at the 

time the GATT was adopted in 1947, as well as in 1955 (when Article XVI was amended to 

include the interpretive note that exemption from, or remission of, indirect taxes for exported 

products is not considered to be a subsidy) and in 1960 (when the first illustrative list of 

prohibited export subsidies was agreed to), the United States accepted the then common 

economic belief that indirect taxes were always pushed forward into the price of goods and that 

direct taxes were absorbed in the cost of production. Thus, the U.S. apparently did not recognize 

in 1947, 1955 or 1960 that the border adjustability of indirect taxes posed a problem, nor did the 

U.S. anticipate or foresee that a significant trade disadvantage would develop with the increased 

use by other countries (such as European Community) of indirect taxes (including value added 

taxes) over time. 

In hindsight, it was, as the Senate Finance Committee observed, a “major blunder” for the 

United States to allow, first in 1955, the exemption and rebate of indirect taxes on exports to be 

excluded from the definition of a subsidy, and then, in 1960, both to allow the exemption and 

rebate of indirect taxes on exports to be excluded from the definition of a subsidy and to allow
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the exemption and rebate of direct taxes on exports to be included in an illustrative list of export 

subsidies. 

The following is sampling of observations on why the U.S. agreed to the existing GATT 

rules on border tax adjustments. 

Senate Finance Committee Staff: 

In 1960, the contracting parties adopted a Working Party 

Report which listed a number of practices construed to be 

subsidies. Among these were the remission of direct taxes or 

social welfare chares on industrial or commercial enterprises and 

“the exemption in respect of exported goods, of charges or taxes, 

other than charges in connection with importation or indirect taxes 

levied at one or several stages on the same goods if sold for 

internal consumption.” The implications of practices listed . . . 

were not fully appreciated by the United States. They, in effect 

permitted the European countries to impose border taxes on 

imports and rebate indirect taxes on exports in accordance with 

their value added or cascade turnover taxes. 

In the late forties and early fifties it is not surprising that U.S. 

trade officials were willing to incorporate existing commercial 

practices on border tax adjustments into the GATT agreement. 

There were much larger problems in international trade than border 

tax adjustments, which at that time were low—in the range of 2-4 

percent and limited to around one-sixth of the goods traded—and 

then only in the case of a few nations. The United States {had} a 

$10 billion trade surplus in 1947 which must have had an effect on 

our negotiators' attitudes. 

But the failure to appreciate the consequences of excluding the 

so-called “indirect tax” rebates in 1960 from the general 

prohibition against export subsidies while including a specific 

prohibition against rebating “direct taxes”, was a major blunder. 

The United States by that time had run into serious balance of 

payments difficulties. Western Europe had become a prosperous 

“third force.” Giving away commercial advantages to prosperous 

Europe for the sake of their own internal tax harmonization 

objectives was an unwise and costly move, in which vague
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political objectives out-weighted clear commercial 

considerations.55

________________________ 

John R. Petty, Assistant Secretary of Treasury: 

By indirection, this {i.e., the 1960 Working Party Report and 

Declaration} extended the interpretive note to Article XVI by 

excluding from the definition of an export subsidy the rebating or 

exemption of multi-stage indirect taxes. Clearly, the implications 

of this Declaration were not adequately considered by the United 

States. . . . 

{T}here is no consistent rationale behind the GATT rules on 

border tax adjustments, nor clear-cut guidance on the meaning of 

the GATT provisions. Article II and III were incorporated almost 

in their entirety from existing practices, probably modeled after a 

U.S.-Canadian commercial treaty. The separate treatment of the 

import duties and the history of clarifying the status of export 

remissions confirms that no consistent consideration was given to 

this subject; certainly no specific economic theory was used as the 

underpinning for the treatment of border tax adjustments. Instead, 

it would appear that the matter of “border tax rules” was not even a 

contentious issue. Rather, these rules simply codified certain 

practices. 

It is not surprising that the drafters of the GATT were willing 

to accept the status quo. Problems quite apart from the question of 

border tax adjustments demanded the attention of the drafters. In a 

postwar, exchange-control world, where fixed exchange rates were 

at best approximations of reality, concern voiced about the 

discrimination that would arise if the world shifted to a buyer’s 

market would probably have been met by some retort such as 

“we’ll worry about that problem if and when it ever arises.” Little 

wonder! In the late 1940’s and early 1950’s, border tax rates were 

low—in the range of 2% to 4%—and limited to around one-sixth 

of the goods trade—and only in the case of a few nations. 

Furthermore, a seller’s market existed in which demand was highly 

unresponsive to small price variations. Finally, the $10 billion

 

55 Staff of Senate Committee on Finance, Staff Analysis of Certain Issues Raised by the General Agreement on 

Tariffs and Trade, 91st Cong., 2d Sess. 8-9 (December 19, 1970). The same text is included in Senate Finance 

Committee Print, Summary and Analysis of H.R. 107810 – The Trade Reform Act of 1973, 93d Cong., 2d Sess. 

106-107 (February 26, 1974).
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commercial trade surplus of the United States in 1947 must have 

had an effect on the attitude of the United States’ negotiators. This 

is best illustrated by the then-prevalent and understandable United 

States’ policy of deliberately encouraging a transfer of financial 

assets to Western Europe in order to facilitate European 

reconstruction.56

________________________ 

U.S. Representative to GATT: 

When the present GATT language was drawn up more than 

two decades ago, the question of border taxes did not appear to be 

a major one. Levels of indirect taxes were much lower. Under 

these circumstances, overlying simple and sweeping assumptions 

about tax shifting seemed acceptable, and already existing 

practices were incorporated without searching examination. The 

rules were drafted in very general terms. The United States at that 

time had no pressing reasons for seeking more elaborate provisions 

which provided more equitable safeguards for its trading position. 

On the contrary, at that time the United States was conscious of the 

need to assist other countries in relieving the pressures of the socalled dollar gap and the requirements for postwar reconstruction. 

Little detailed attention was paid to a problem which might 

hypothetically arise which would be harmful to our then strong 

payments position. 

* * * 

When the current practices were in their early stages of 

development principally after World War I, indirect taxation 

tended to be confined to sumptuary taxes on a limited number of 

goods or to low-rate general taxes. Border tax problems were then 

simpler and relatively little attention was paid to the border tax 

issue.57

________________________ 

 

56 John R. Petty, Assistant Secretary of Treasury for International Affairs, Paper prepared for the Twenty-first 

Annual Conference of the Canadian Tax Foundation (November 20, 1968), reprinted in Appendix (at 122-123) 

to Brief of Petitioner Zenith Radio Corporation in Zenith Radio Corp. v. United States, U.S. Supreme Court 

Appeal No. 77-539, filed March 23, 1978.

57 Working Party on Border Tax Adjustments, Secretariat Note on Meeting of 30 April to 2 May 1968, L/3009 (17 

May 1968) at Annex (Statement by Representative of United States). 
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Professor John Jackson: 

It is doubtful that at the time the GATT was drafted the ultimate 

consequences of Articles II and III, as applied to border tax 

adjustments were understood. In comparison to the then existing 

tariffs or other restrictive measures, the border tax adjustments 

probably seemed relatively inconsequential. But over the decades, 

as tariffs came down and quotas on manufactures were eliminated, 

other protection devices became more prominent. The border tax 

adjustment took on new significance and finally has emerged as a 

headline item and an issue of political attention.58

________________________ 

Noel Hemmendinger: 

In the period after World War II the United States accepted, in 

some cases in the GATT itself and in other cases on a de facto

basis, the existence of many illiberal practices because the U.S. 

economy was so far stronger than any other that these obstacles to 

trade were equilibrating and not disequilibrating factors. In the last 

several years, when the United States has had balance of payments 

difficulties, it has quite properly been pounding away at many of 

these restrictions that continue to exist, on the ground that they are 

now disequilibrating.59

G. 1963-1967 – Kennedy Round and Growing Concern 

Regarding Non-Tariff Barriers (including border tax 

adjustments)

John R. Petty, Assistant Secretary of Treasury, observed that “{a}s early as 1953 there 

began to be some recognition of the fact that border tax adjustments could create advantages for 

nations using them ... as other barriers to trade fell, and the adjustments were substantially

increased.”60 This recognition came in the OEEC Working Party on Artificial Aids to Exporters 

 

58 John H. Jackson, World Trade and the Law of GATT (1969) at 297-98. 

59 Noel Hemmendinger, Non-Tariff Trade Barriers, 63 AM. SOC'Y INT'L. L. PROC. 204, 206 (1969). 60 John R. Petty, Assistant Secretary of Treasury for International Affairs, Paper prepared for the Twenty-first 

Annual Conference of the Canadian Tax Foundation (November 20, 1968), reprinted in Appendix (at 124) to
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which “discussed the possible trade-diversionary effect of the introduction of the French valueadded tax.”61

In 1961, the negative effects that might result from rebates of indirect taxes on European 

exports were noted by Professor Roy Blough of Columbia University in testimony before 

Congress. He stated: 

So I think that as we go into the trade program -- which, as I 

say, I am very strongly in favor of -- one of the things which will 

need to be done, either through negotiations in connection with the 

trade program, or in some other way, is to remove hidden 

subsidies, or hidden burdens, or to make an effort to secure 

substantial equalization of them, so that it will not be Government 

action which is responsible for an industry in one country being 

able to produce some product at a substantial advantage over that 

of another country. 

As I understand the situation in Germany, for example, a 

substantial part of the tax on German business is in the form of a 

turnover tax, a sort, of a sales tax. And this turnover tax, as I 

understand it, is not applicable to exports, although it is applicable 

to internal sales of products. 

Now, we have no such tax. But we have a corporation income 

tax. It would be comparable, for example, if we were to grant 

several percentage points of exemption or reduction in the Federal 

income tax on profits from exports. I am not suggesting we do 

this. I do not consider it desirable. But this is about what 

Germany is doing. And this is what I am talking about when I say 

there are certain hidden subsidies. There may also he hidden 

penalties. For example, some people say our international

competitiveness is impaired because our tax system is more 

burdensome on business than are the tax systems of Europe. I do 

 Brief of Petitioner Zenith Radio Corporation in Zenith Radio Corp. v. United States, U.S. Supreme Court 

Appeal No. 77-539, filed March 23, 1978. 61 John R. Petty, Assistant Secretary of Treasury for International Affairs, Paper prepared for the Twenty-first 

Annual Conference of the Canadian Tax Foundation (November 20, 1968), reprinted in Appendix (at 124) to 

Brief of Petitioner Zenith Radio Corporation in Zenith Radio Corp. v. United States, U.S. Supreme Court 

Appeal No. 77-539, filed March 23, 1978.
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not know whether this is the case, or not, but I think it is a matter 

that deserves study.62

The concern identified by Professor Blough was heightened in 1963 when the EEC 

decided to harmonize their tax systems and the U.S. raised the issue at the OECD. 

In 1963, United States’ concern about the trade effects of 

border taxes was further aroused by the decision of the member 

states of the EEC to harmonize their tax systems, by adopting the 

value-added tax (TVA). The United States’ government requested 

the OECD to undertake a careful and comprehensive study of 

border tax adjustments. In making the proposal, the United States 

stated: “A study of this subject is particularly timely at the present 

moment. A number of countries which impose turnover tax 

adjustments at the border are contemplating changes in the level of 

such compensatory adjustments, others are considering a change in 

the method of applying the tax (e.g., a change from the cascade to 

a value-added type) and some countries which heretofore have not 

employed a general sales tax by the central government are 

considering introducing it ...”63

At the OECD, the U.S. sought a standstill agreement concerning border tax adjustments but the 

EEC opposed the proposal, “arguing that agreement on a standstill would interfere with their 

objective of attaining a harmonized tax system by 1970.”64 As a result, the OECD was only able

to agree on a notification procedure to keep member countries informed about any changes in 

border tax adjustments. 

 

62 Foreign Economic Policy: Hearings before the Subcommittee on Foreign Economic Policy of the Joint 

Economic Committee, 87th Cong., 1st Sess. 175 (1961) (Statement of Prof. Roy Blough, Professor of 

International Business, Columbia University Graduate School of Business). 63 John R. Petty, Assistant Secretary of Treasury for International Affairs, Paper prepared for the Twenty-first 

Annual Conference of the Canadian Tax Foundation (November 20, 1968), reprinted in Appendix (at 125) to 

Brief of Petitioner Zenith Radio Corporation in Zenith Radio Corp. v. United States, U.S. Supreme Court 

Appeal No. 77-539, filed March 23, 1978.

64 John R. Petty, Assistant Secretary of Treasury for International Affairs, Paper prepared for the Twenty-first 

Annual Conference of the Canadian Tax Foundation (November 20, 1968), reprinted in Appendix (at 125) to 

Brief of Petitioner Zenith Radio Corporation in Zenith Radio Corp. v. United States, U.S. Supreme Court 

Appeal No. 77-539, filed March 23, 1978.
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At the GATT, as it entered into the Kennedy Round of multilateral trade negotiations in 

1963, the United States also attempted to raise the issue of border tax adjustments. One of the 

Kennedy Round negotiating groups was a Subcommittee on Non-Tariff Barriers. In 1963, the 

United States proposed that the Subcommittee should consider a number of non-tariff barriers, 

including “border tax adjustments.”65 Ultimately, the Kennedy Round did not address non-tariff 

barriers, as the U.S. Special Trade Representative explained. 

Because of the complexity of the issues involved and other 

reasons, it was not possible to negotiate on the question of border 

taxes applied by certain countries to compensate for internal taxes. 

Nevertheless, against the possibility that changes in these taxes 

may nullify or impair tariff concessions or other benefits of the 

agreement, the United States has reserved the right to initiate 

action under the GATT to seek compensation for such nullification 

or impairment.66

In 1964, the Joint Economic Committee issued a report on the U.S. balance of payments. 

The Committee noted that the U.S. balance of payments had been in deficit in 13 of the past 14 

years. Among its recommendations to address this problem, the Committee noted the following 

with respect to border tax adjustments. 

(3) Certain international practices must be 

reexamined in view of the urgency of restoring 

balance in international payments. 

The committee believes that there is a strong case for the 

proposition that the United States is adversely affected by the 

GATT rules which permit the rebate on exports of indirect taxes 

but not the remission in relation to exports of direct taxes where 

 

65 See Non-Tariff Barriers, TN.64/NTB/5 (12 November 1963) at 2. See also Non-Tariff Measures to be Brought 

Within the Scope of the Negotiations, TN.64/NTB/8 (15 November 1963) at 1; Stage Reached by the SubCommittee on Non-Tariff Barriers, TN.64/22 (30 April 1964) at 2. 

66 Office of the Special Representative for Trade Negotiations, GATT 1964-67 Trade Conference: Report on 

United States Negotiations (1967), at 167. 
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the result is a lower foreign than domestic price for the same 

product. The United States derives a greater proportion of its tax 

revenues from direct taxes than do other countries, and present 

rules may consequently place it at a substantial competitive 

disadvantage in world markets. The committee recommends that 

this matter be studied within the administration and in consultation 

with other nations, and that appropriate steps be taken to eliminate 

such disadvantages to the United States as may be inherent in 

current practices.67

The expressions of concern by U.S. businessmen and the government about the 

competitive disadvantages resulting from the GATT rules on border tax adjustments increased 

and began to gather momentum after the conclusion of the Kennedy Round. In June 1967, at a 

meeting of the Trade Negotiations Committee discussing the conclusion of the Kennedy Round, 

the United States raised the issue of border tax adjustments. With the prospect of the EEC 

moving toward tax harmonization and value-added tax systems, the United States stated that 

changes in border tax adjustments, notwithstanding their consistency with the GATT, could 

nullify or impair concessions and benefits that the United States had negotiated in the Kennedy 

Round. Although Canada and Japan agreed with the U.S. statement, the EEC rejected it, as is 

reflected in the notes of the meeting: 

4. The representative of the United States also said that 

changes in border tax adjustments, whether or not accompanied by 

internal tax changes and irrespective of their consistency with the 

provisions of the General Agreement on Tariffs and Trade, may 

have trade effects that nullify or impair concessions or other 

benefits provided in the Kennedy Round Protocol. In this

connexion the United States declared that, given the absence of 

sufficient detailed information, it was unable to determine, and 

therefore unable to anticipate, in which specific ways particular 

changes in border tax adjustments may nullify or impair individual 

 

67 Joint Economic Committee Report No. 965, The United States Balance of Payments, 88th Cong., 2d Sess. 16 

(March 19, 1964). 
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concessions or other individual benefits provided for in the 

Protocol. The representatives of Canada and Japan associated 

themselves with this declaration. 

5. The representative of the European Economic Community

said that the Community was harmonizing the legislation of the 

various member States with respect to turnover taxes. The 

European Economic Community was carrying out this 

harmonization in full conformity with the letter and spirit of the 

provisions of the General Agreement. It could not accept a 

statement implying that compensatory charges applied in 

conformity with the letter and spirit of the General Agreement 

could in any way have, within the meaning of Article XXIII, trade 

effects that nullified or impaired benefits accruing to its partners 

directly or indirectly from the concessions granted by it in the 

Kennedy Round. It was in the context of this same interpretation 

of the rules of the General Agreement that the member States and 

the Community had undertaken and undertook their obligations 

pursuant to that Agreement; and had, from the outset, taken part in 

all the work undertaken under the Agreement.68

In 1967, following the conclusion of the Kennedy Round, Congress took stock and 

looked forward to those trade issues that still needed to be addressed in future negotiations. In a 

submission to the Joint Economic Committee, William Diebold of the Council on Foreign 

Relations noted that the economic assumptions underlying the GATT rules on border tax 

adjustments were increasingly being questioned by economists. 

Nontariff barriers are nothing new. . . . Now major reductions 

in tariffs are making other nontariff barriers more prominent. 

Maintaining an attack on them should be a major feature of the next 

phase of American foreign trade policy. . . . 

* * * 

. . . Any number of taxes and other kinds of charges may in one 

way or another impede trade, including perhaps some which for 

generations economists said were neutral in their impact. 

* * * 

 

68 Proceedings of the Sixteenth Meeting, Held at the Palais des Nations, Geneva on 28 June 1967, TN.64/W/17 

(18 July 1967) at 2, paras. 4 and 5. 
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Taxes . . . that are plainly subterfuges for tariffs will of course 

not pass muster under GATT or any other sensible international 

agreements about trade barriers. But as tariffs fall, many kinds of 

once-innocent taxes begin to look suspicious, especially for the 

discrimination they may hide. In recent years, long-established 

principles about the effect of “indirect” taxes on international trade 

have been called into question. Economists are questioning the facts 

and theories on which the rules about taxes in GATT and in other 

agreements are based. Their doubts coincide to a considerable 

degree with the businessman’s commonsensical and untutored 

reaction that if his goods have to pay a tax on entry into a country 

while his competitor’s goods are exempted from the same tax when 

they are exported, he is at a disadvantage. After years of work, the 

six countries of the European Community have decided to 

harmonize at least the systems of their turnover taxes – and an 

aligning of the rates will probably follow. In England and the 

United States questions are being asked as to whether it would not 

be helpful to the international competitive positions of those 

countries if part of the corporation income taxes were turned into 

this kind of transaction tax which would be forgiven on exports and 

levied on imports. The border tax issue may well be the most 

important of the nontariff barriers to be fought over in the next few 

years.

69

In its report on the future of U.S. foreign trade policy, the Subcommittee on Foreign 

Economic Policy of the Joint Economic Committee stated that the U.S. needed to squarely face 

the discrimination to U.S. exports from border tax adjustments. 

The European Common Market practice of rebating their own 

indirect taxes on their exports and levying these same taxes on 

imports – a practice sanctioned, incidentally, by the rules of the 

GATT – constitutes a conspicuous form of discrimination against 

U.S. exports. Moreover, similar border adjustments by the United

States would be an ineffective weapon, neither mitigating nor 

offsetting the discriminatory process, because the tax structure of 

the United States places relatively small emphasis on indirect 

 

69 Issues and Objectives of U.S. Foreign Trade Policy: A Compendium of Statements submitted to the 

Subcommittee on Foreign Economic Policy of the Joint Economic Committee, 90th Cong., 1st Sess. 7-9 (1967) 

(Statement of William Diebold, Jr., Senior Research Fellow, Council on Foreign Relations) (emphasis added). 
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taxes. This issue is one that the United States will have to 

resolve.70

In November 1967, five months after the completion of the Kennedy Round, , in a review 

of the GATT’s future work program, the United States again raised the prospect of adverse 

effects on U.S. exports from an increase in border tax adjustments due to European tax 

harmonization. In particular, the Special Trade Representative, Ambassador William M. Roth, 

indicated the need for GATT members to address the issue multilaterally. 

The work of the GATT will not, however, be confined only to the 

issues we can now foresee. New problems will undoubtedly arise 

from time to time and we shall have to work together on them. 

One possible difficulty may arise out of the plan of some of the 

important trading countries in Europe to make significant changes 

in their tax systems. These will increase their border tax 

adjustments. We are seriously concerned as we have indicated 

before, that these adjustments in certain cases adversely affect our 

exports. Should these fears prove, in fact, to be justified, we would 

expect to take up this matter in accordance with normal GATT 

procedure. If it becomes evident, in the coming months, that there 

is a general multilateral problem here, it might then become 

advisable for the CONTRACTING PARTIES to give this kind of 

problem their attention.71

H. 1967-68 – U.S. Balance of Payments Problem Grows; 

President Johnson Issues Statement on Balance-ofPayments Problem on January 1, 1968

One of the underlying reasons that the competitive disadvantages of border tax 

adjustments became an important issue to the U.S. government in the late 1960s was its negative 

 

70 The Future of U.S. Foreign Trade Policy: Report of the Subcommittee on Foreign Economic Policy of the Joint 

Economic Committee, 90th Cong., 1st Sess. 5 (1967). 

71 Review of the Work of the Contracting Parties and Future Programme, Statement of the Hon. Mr. William M. 

Roth, Special Trade Representative, Executive Office of the President of the United States, on23 November 

1967, W.24/40 (24 November 1967) at 2, 4. 
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impact on the country’s balance of payments. At this time, the United States still adhered to the 

gold standard and the monetary system established by Bretton Woods. 

Between 1958 and 1971, the primary objective of U.S. foreign 

economic policy was to find a way to control the American 

balance-of-payments deficit and stem the loss of gold from the 

U.S. Treasury. Many of the policies that were enacted or 

considered in order to solve the payments problem and ease the 

gold drain conflicted with the larger goals of American foreign 

policy, strategy, and domestic economic policy. This clash created 

enormous tensions within both the U.S. government and the 

Western alliance, and affected a whole range of policies, from 

American troop deployments overseas to U.S. investment in 

Europe. Despite these political tensions, American policy makers 

feared an economic catastrophe if the payments deficit was not 

reduced and the gold outflow ended.72

In the second half of 1967, the Johnson Administration’s concern about the worsening 

balance of payments came to the fore. In August 1967, Treasury Secretary Fowler informed 

President Johnson of measures under consideration to improve the BOP situation. 

At the same time we call upon industry for real short-term 

sacrifices on the direct investment front, we should offer them an 

attractive and appealing long-term package of export assistance 

and incentives. Here is where we stand in this area: 

* * * 

--We are analyzing the impact of proposed EEC tax harmonization 

(and border tax adjustments) on our trade position. 

--We have discussed a broad variety of tax and non-tax incentives 

with industry and believe the following, properly presented, can 

help our national export effort with minimal risk of retaliation: 

* * * 

--rebate of local excise and perhaps property taxes

 

72 Francis J. Gavin, Gold, Dollars, and Power: The Politics of International Monetary Relations, 1958-1971

(University of North Carolina Press, 2003) at Introduction; available at http://uncpress.unc.edu/chapters/

gavin_gold.html. 
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* * * 

In connection with tax incentives, a commitment--in the postKennedy Round world—to re-examine GATT rules, to study 

proposed changes in European tax systems, and to negotiate, if 

necessary, tax "harmonization" for U.S. exporters. We would refer 

specifically to the proposed change in German border taxes (which 

German authorities themselves say amounts to a 2-3 percent export 

price cut and which, in effect, is a D mark devaluation of that 

amount) as a source of immediate and particular concern.73

In November 1967, a Department of Commerce memorandum described the status of 

proposals for the 1968 balance of payments program. The memo noted that a series of tax 

incentives for exports had been rejected due to opposition from the Departments of Treasury and 

State but that a review of GATT rules was favored. 

3. Tax Incentives for Exports 

The following have been rejected, principally because of Treasury 

and State opposition. 

(1) A credit against total income tax liability calculated as a flat 

percentage of export sales. 

(2) A lower rate of corporate income tax for profits derived from 

exporting. 

(3) A credit against income tax liability based on accelerated 

depreciation of plant and equipment used in the production of 

export goods. 

(4) An investment tax credit applicable to plant and equipment 

used for the production of export goods. 

(5) Exemption from income tax of remitted income of U.S. sales 

subsidiaries abroad. 

(6) Rebate of property tax and indirect taxes for exported goods. 

(7) Overexpensing for increases in export promotion expenditures.

* * * 

 

73 Memorandum From Secretary of the Treasury Fowler to President Johnson, August 8, 1967; U.S. Department 

of State, Foreign Relations, 1964-1968, Volume VIII, International Monetary and Trade Policy (Document 

137); available at http://www.state.gov/www/about_state/history/vol_viii/131_139.html. 
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8. Reexamination of GATT rules 

Concerning the treatment of direct and indirect taxes, subsidies, 

and countervailing duties. This proposal emerges as an alternative 

to a strong tax incentive for exports. All agencies agree that 

reexamination is desirable, but tactics remain to be worked out.74

Also in November 1967, Treasury Secretary Fowler sent a balance of payments 

memorandum to the President to which was attached a background memo. The background 

memo described why a GATT review of border tax rules was desirable: 

--The GATT. It is time for a positive and outward looking reexamination of those provisions of the GATT which are trade 

restrictive in their nature. These provisions may be trade restrictive 

in the sense of (1) what a country can do when it is in balance of 

payments deficits, and they may be trade restrictive; (2) in the area 

of non-tariff barrier practices; as well as (3) the permissible 

subsidies which act preferentially for one tax system (EEC, Japan, 

United Kingdom) and discriminate against a country using another 

tax system (U. S.). 

A review of this type is totally in keeping with the 20th 

anniversary of GATT and falls in perfect stride with the postKennedy Round situation. This would provide another occasion to 

demonstrate to the world at large and to our protectionists at home 

that we will use trade expansive and not trade restrictive measures

and the rules of the game must be brought up to date to assure 

this.75

As Cabinet discussions regarding the balance of payment program for 1968 entered 

December 1967, the focus of the debate was whether the United States should impose its own 

border tax adjustments on imports and rebate the same on exports based on the amount of 

 

74 Department of Commerce Paper, November 7, 1967; U.S. Department of State, Foreign Relations, 1964-1968, 

Volume VIII, International Monetary and Trade Policy (Document 148); available at http://www.state.gov/

www/about_state/history/vol_viii/140_149.html. 75 Background Memorandum, attachment to Memorandum From Secretary of the Treasury Fowler to President 

Johnson, November 9, 1967; U.S. Department of State, Foreign Relations, 1964-1968, Volume VIII, 

International Monetary and Trade Policy (Document 149); available at http://www.state.gov/www/about_state/

history/vol_viii/140_149.html. 
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indirect taxes that U.S. manufacturers pay. The Cabinet Committee on Balance of Payments met 

on December 21, 1967. The minutes to that meeting reflect a lengthy and robust back-and-forth 

regarding the various proposals before them to address the disadvantages of border tax 

adjustments by other countries, particularly the EEC. 

Secretary Fowler commenced the discussion and said this meeting 

was basically a reporting session although he would welcome 

comments. In general, the balance-of-payments figures for 1967 are 

grim. He emphasized the need of holding closely all information in 

this meeting and to impart it only on a "need-to-know" basis. 

* * * 

Border Taxes 

Ambassador Roth introduced his portion of the "package" which 

concerned trade. He argued that he is primarily concerned with the 

retaliation which the imposition of a U.S. border tax would 

probably involve, pointing out that our surplus makes us uniquely 

vulnerable. It is the net benefit which we must seek. He agreed that 

something must be done in order to show a complete package but 

he emphasized that other areas, especially capital flows, must be 

covered: if the restrictions in the area of capital flows are strong it 

is possible to go further in the area of trade. 

Both the Dutch and Germans will increase their border taxes on 

January 1, 1968. The Dutch will go up 1-2 percent and the 

Germans, moving from their present cascade indirect tax system to

the added-value system, will move from about 4 percent to about 

10 percent. In considering what we might do in this area we must 

be mindful of the limitations of GATT. Can we put together our 

own border tax based upon our own tax structure that gives us 

something similar to the advantage the Europeans enjoy? Treasury 

has compiled the secondary indirect taxes in this country; a figure 

of 2-2.5 percent represents various state and local taxes, customs 

duties and some federal excise taxes. This figure is increased to 4.3 

percent if property taxes are included. If these secondary indirect 

taxes were rebated on a product-by-product basis they could be 

considered legal under GATT. However, it is true that five 

European countries rebate these "hidden" taxes and compensate at 

the border on a basis somewhat closer to a national average basis 

than to a product-by-product basis. 
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Ambassador Roth pointed out that the basic question was not one 

of legal niceties but one of retaliation. We all agree that Canada, 

the U.S., Japan and maybe some EFTA countries would have to 

adjust with us. There are two basic proposals. The Treasury 

approach which would announce the legislation and seek 

discussions subsequently and the Roth approach which reverses the 

procedure. 

The key issue is whether the Europeans will retaliate or not. The 

second approach is designed to reduce this possibility without 

sacrificing more than two or three weeks of time. Assistant 

Secretary Solomon pointed out that the proposal reduces the 

chances of retaliation, compared to the U.S. Treasury proposal. He 

indicated that it was necessary to consult with the nations which 

would probably follow our action; moreover, the request for a 

GATT waiver would make it difficult for the Common Market 

countries to retaliate. 

* * * 

Ambassador Roth questioned whether the difference was really 

one of only 2.5% and 4%. If we are to make trade gains in the use 

of the border tax other countries must exercise restraint. Normally, 

in trade negotiations others would say, "What would you pay to 

achieve these trade gains?" Would you pay an injury clause in your 

countervailing duty law? Would you amend Section 22 of your 

Agricultural Assistance Act? 

Under Secretary Rostow said that it was important for the 

President's statement to be firm and effective. The statement could 

say that legislation is being considered. He reminded the 

Committee of the recent OECD ministerial resolution that the

balance-of-payments positions of member countries are "a matter 

of common concern". The risk of retaliation is great and therefore 

pursuant to this resolution and through negotiations perhaps the 

risk of retaliation can be minimized. Concerned as he was with 

retaliation he seemed to be favoring Alternative Two. 

Chairman Ackley pointed out that we needed retroactivity in 

announcing our border tax and it was also necessary to specify an 

exact rate to avoid anticipatory imports and a delay in exports 

waiting for the rebate. We must be mindful of the impact of the 

President's statement upon the exchange markets. If we get a big 

boost from the border tax announcement will the props be knocked 

out of it when the retaliation starts? 
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Secretary Fowler referred to the visit today of an old friend who 

was familiar with the border tax area. Secretary Fowler read from 

Weir Brown's memorandum, dated December 21, on the border 

tax. 

"The draft now under consideration in the Treasury is built on a 

good central principle. This central idea is that we could adopt 

a tax adjustment for imports and exports without introducing a 

new sales tax on domestic sales. 

"My (Weir Brown) modifications to the present plan would be 

as follows: 

"1. We should state that the U.S. has been aware that many of 

its major trading partners have for years made tax adjustments 

to their imports and exports. They have justified this essentially 

on the grounds that imported goods had not been subject to 

their domestic tax system and that exported products were to be 

consumed abroad. 

"2. These countries are now in the process of making further 

increases in the levels of these border adjustments, having a 

still further impact on trade of other countries. The U.S. 

Government has questioned the wisdom of these increases, and 

in fact of the border adjustment system as a whole. We 

recognize, however, that Europeans have their own special 

reasons for their actions, including the objective of 

harmonization among the Six. 

"3. The U.S. Government has now determined that--given the 

prevalence of border adjustments by certain other countries and 

given the need to correct its balance of payments deficit--it will 

adopt its own form of border adjustment. While it is impossible 

to identify exactly the tax component of prices for any country,

our Government has determined that a suitable rate for us to 

adopt would be 8 per cent (or 6), and this figure would be used 

in calculating a rebate on exported goods and in applying a 

levy to imports. 

"4. The foregoing border adjustment would be applied by the 

United States to imports coming from and exports going to all 

those countries which themselves now practice a system of 

border adjustments. (This would have the effect of excluding 

the applicability of the border adjustment from trade with 

Canada and Japan. I believe it would be possible also, by legal 

interpretation, to declare that the British purchase tax is not an 

across the board system and that the U.S. adjustment would not 
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apply in the U.K. case.) Although many LDC's would 

automatically be covered by the foregoing provision, we could 

make a specific exemption for LDC's." 

Governor Daane asked if the program would be adequate and 

convincing without the border tax? It seemed to him that we must 

go more in the direction of the Treasury alternative because we are 

concerned about the actions Germany and Holland are taking and, 

therefore, we are entitled to respond. Responding to a question 

from Under Secretary Nitze, Secretary Fowler said the program 

might achieve $1.5 billion improvement without the border tax and 

the border tax might contribute an additional $1.5 billion to 

perhaps $2-1/2 billion. Ambassador Roth said that he thought the 

State Department estimated net trade gain figure, after retaliation, 

might be in the $800 million range. 

The Vice President commented that anything you can do under 

alternative number 2 you can do under alternative number 1. The 

basic issue is how do you best get into a negotiating position. No 

one can tell me the Germans are easy to negotiate with, they may 

be more stubborn than de Gaulle. Alternative number 2 says that 

there will be time enough; but in his judgment the time has gone 

by. They will not change their January 1 implementation date; nor 

will Congress wait. If you are going to be asking for a tax bill from 

Congress you have to offer them something like this. Why don't 

you admit that you are the world's biggest cowards? The 

Europeans are feeling their oats and we should show some of our 

muscles. It is time to treat a crisis like a crisis. We need a package 

and one without cosmetics. It must be firm; it must be creditable; 

and it must have muscle. We must also take administrative action. 

The Europeans do not think we have the guts to do it and let's be 

frank; the President cannot have Vietnam and the dollar crisis at

the same time next summer! We need a program and we need to 

show that we mean it. The balance-of-payments position of the 

United States is worse than the public knows and we cannot have 

this creditability issue coming up again by us appearing to sweep 

something under the rug. Remember this, there are no votes in 

Germany. That is the Humphrey message for the day. 

Ambassador Roth pointed out that alternative 2 did not involve 

long negotiations; just two weeks.76

 

76 Minutes of Meeting of the Cabinet Committee on Balance of Payments, December 21, 1967; U.S. Department of 

State, Foreign Relations, 1964-1968, Volume VIII, International Monetary and Trade Policy (Document 161); 

available at http://www.state.gov/www/about_state/history/vol_viii/160_169.html. 
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On December 22, 1967, Special Assistant Califano prepared a memorandum for the 

President which laid out “the present balance of payments problem, the program that Fowler is 

proposing, the extent of disagreement in the government and some of the questions that you {the 

President} should consider in determining whether to go forward with it.”77 Regarding the 

issues of export incentives and border taxes, the memo stated: 

6. Joe Fowler is firming up a program to announce before New 

Year's Day. In addition to a number of minor elements, it includes 

the following major items, the first 3 of which are particularly 

controversial: 

--A 'border tax adjustment'--a tax of 2 percent (or more) on imports 

and an equal subsidy on exports. 

* * * 

7. The border tax adjustment would add 2 percent (or more) to the 

cost of our imports and would rebate 2 percent of foreign sales to 

our exporters. It would be designed to make up for the cost of 

"hidden" excise taxes such as those on gasoline, freight, and 

telephones. 

--A few other nations are doing this under GATT rules now, and 

many are doing things equally dubious under the rules. 

--Fowler is particularly enthusiastic about this proposal because 

--it will cost very little in revenues; 

--in his judgment, it will sail through Congress and at the same 

time head off the quota drive; 

--it shows toughness with the Europeans. 

--The disadvantages and dangers are 

--it is an obvious devaluation of the dollar in trade, despite our big 

export surplus; 

--it looks like a move toward protectionism; 

 

77 Telegram From the President's Special Assistant (Califano) to President Johnson in Thailand, December 22, 

1967; U.S. Department of State, Foreign Relations, 1964-1968, Volume VIII, International Monetary and Trade 

Policy (Document 162); available at http://www.state.gov/www/about_state/history/vol_viii/160_169.html. 
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--it will surely be countered by Canada, Japan, the U.K., and 

perhaps others, either by similar action or by outright devaluation; 

--if it provoked retaliation by continental Europe, we would lose 

all the potential trade gains, possibly trigger off a trade war, and 

stir up financial markets badly. 

--Everyone agrees that we are being hurt under existing GATT 

practices. But some of your advisers (STR, State, and CEA) would 

prefer not to announce the action until we have a hard and quick (2 

or 3 weeks) negotiation with the Europeans, either persuading 

them to reverse their own border tax practices or else to accept 

ours. This is intended to minimize the risk of retaliation (if we 

have to move), and to preserve our long-standing leadership in 

trade liberalization.78

On December 23, 1967, Special Assistant Califano sent a telegram to the President and 

indicated that all of the Cabinet Committee was in basic agreement on going forward with an 

“import tax/export subsidy program (border tax).” The telegram noted: 

Ackley, Trowbridge, Boyd, Martin, Fried, Solomon, Gene Rostow, 

Fowler, Deming, Okun, Clark Clifford, Schultze, Rusk (for part of 

the meeting), Goldstein and I met today on the balance of payment 

program. The Vice President and Secretary McNamara had left 

town for Christmas, but they are in agreement. Except as indicated 

below all the above individuals are in agreement on the following 

program: 

1. Import tax/export subsidy program (border tax). 

--A 2 to 4 percent export subsidy, under which exporters would be 

given somewhere between 2 and 4 percent of the sales price of 

their exports as a cash rebate and the same percentage would be 

applied as a tax on imports. 

--The less-developed countries would be exempt from the import 

tax and there would be some sectoral differentials among product 

categories. 

There is some disagreement on the precise percentage but that can 

be worked out. There is also some disagreement on the tactics: 

 

78 Telegram From the President's Special Assistant (Califano) to President Johnson in Thailand, December 22, 

1967; U.S. Department of State, Foreign Relations, 1964-1968, Volume VIII, International Monetary and Trade 

Policy (Document 162); available at http://www.state.gov/www/about_state/history/vol_viii/160_169.html. 
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Whether you should announce that you will be sending a bill with 

specific percentages forward when you announce a general balance 

of payment program next week (the Fowler view), or whether you 

should indicate that you intend to work out a program, which 

would include a border tax with the other countries (the Rusk 

view). 

The issue revolves around the tone in any public announcement 

and Rusk, Rostow and Fowler believe they can straighten out the 

State- Treasury differences. Schultze, Martin and Trowbridge lean 

toward the Fowler view. Roth and Ackley lean toward the Rusk 

view. Rusk is concerned about an increase in imports due to 

anticipation of the tax and retaliatory actions if the tax is too 

specifically announced before it goes to Congress and before some 

negotiation and consultation with our allies. Fowler believes there 

will be some anticipatory imports in any case and a specific, firm 

announcement will assist negotiations with our allies. 

As far as the percentage of import tax and export cash rebate is 

concerned, the trick is to pick the percentage which will get us the 

best net effect--to avoid or minimize retaliation.79

In response to the foregoing telegrams from Special Assistant Califano, however, 

President Johnson indicated that he did not favor going forward with border tax measures at that 

time. 

Point 6--The Fowler program-- 

A. I don't like the "border tax adjustment" at all except as a 

bargaining point in GATT which is, of course, of no use for the 

present immediate requirement. It will stimulate speculators as a 

step toward devaluation. It will damage our international image in 

many areas. It hits at an area which is not the root of the problem. 

* * * 

Point 7--The border tax adjustment--in addition to my own points 

as stated I agree entirely with the disadvantages listed: 

1. Devaluation of dollar in trade despite export surplus, 

 

79 Telegram From the President's Special Assistant (Califano) to President Johnson, December 23, 1967; U.S. 

Department of State, Foreign Relations, 1964-1968, Volume VIII, International Monetary and Trade Policy 

(Document 163); available at http://www.state.gov/www/about_state/history/vol_viii/160_169.html. 
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2. Protectionism, 

3. Will be countered by others, 

4. In the end retaliation by Europe might make U.S. worse off.80

One commentator has described the intense Cabinet activity of the last weeks of 1967 as 

the balance of payments problem reached a crisis. 

Three days before the 1967 Christmas holiday, presidential aide 

Joseph Califano sent a telegram to Lyndon B. Johnson 

summarizing the findings of an emergency study produced by the 

cabinet committee on the balance of payments. This committee 

had been told to produce a serious and far-reaching program to 

bring the ballooning payments deficit of the United States down to 

equilibrium. Since 1958, when the payments deficits had first 

caught the attention of the Eisenhower administration, countless 

committees and high-level officials had crafted proposals to arrest 

the outflow of American dollars and gold. But this task became 

urgent when Great Britain, in the face of massive speculation on

the currency markets, was forced to devalue sterling on 17 

November 1967. The president's closest advisers believed that 

unless the American deficit was drastically reduced, speculators 

would attack the dollar next. A run on the dollar could force the 

United States to suspend its promise to convert dollars into gold, 

ending the commitment that had served as the cornerstone of the 

postwar international monetary regime. If the pledge to redeem 

dollars for gold was not honored, many economists feared that 

forces of economic disorder would be unleashed, producing a 

worldwide depression equal to the economic collapse of the 

1930s.81

In the closing days of December 1967, at the end of the discussions on the balance of 

payments problem and what to do about border taxes, the course of action finally decided upon 

 

80 Telegram From President Johnson to the President's Special Assistant (Califano), December 23, 1967; U.S. 

Department of State, Foreign Relations, 1964-1968, Volume VIII, International Monetary and Trade Policy 

(Document 166); available at http://www.state.gov/www/about_state/history/vol_viii/160_169.html. 

81 Francis J. Gavin, Gold, Dollars, and Power: The Politics of International Monetary Relations, 1958-1971

(University of North Carolina Press, 2003) at Introduction; available at http://uncpress.unc.edu/chapters/

gavin_gold.html. 
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by President Johnson was not to have the United States impose its own border tax measures but 

to seek negotiations on border tax rules at the GATT. 

On January 1, 1968, President Johnson responded to the balance of payments crisis by 

issuing a statement on the balance of payments problem and outlining a program to address it.82 

He noted that the U.S. international balance of payments position was “a subject of vital concern 

to the economic health and well-being of this Nation and the free world.”83 He first set out the 

urgency of the issue and the need for action: 

For 17 of the last 18 years we have had such {balance of 

payments} deficits. For a time those deficits were needed to help 

the world recover from the ravages of World War II. They could 

be tolerated by the United States and welcomed by the rest of the

world. They distributed more equitably the world's monetary gold 

reserves and supplemented them with dollars. 

Once recovery was assured, however, large deficits were no 

longer needed and indeed began to threaten the strength of the 

dollar. Since 1961, your Government has worked to reduce that 

deficit. 

* * * 

Preliminary reports indicated ... a 1967 balance of payments 

deficit in the area of $3.5 to $4 billion – the highest since 1960. 

* * * 

The time has now come for decisive action designed to bring 

our balance of payments to--or close to--equilibrium in the year 

ahead. 

The need for action is a national and international 

responsibility of the highest priority.84

 

82 Public Papers of the Presidents of the United States: Lyndon B. Johnson, 1968-69, Book I, at 8-13; also 

available at http://www.presidency.ucsb.edu/ws/index.php?pid=28804&st=&st1=. 83 Public Papers of the Presidents of the United States: Lyndon B. Johnson, 1968-69, Book I, at 8. 84 Public Papers of the Presidents of the United States: Lyndon B. Johnson, 1968-69, Book I, at 8-9. 
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President Johnson then proposed a program of both short and long-term measures to 

correct the payments problem. The temporary measures included restraints on direct investment 

abroad, curbs on foreign lending by banks, taxes on foreign travel, and efforts to alleviate 

government expenditures overseas.85 The long-term measures included export incentives and 

reducing the negative impact of nontariff barriers, particularly border tax adjustments.

86 In this 

regard, President Johnson sought “prompt cooperative action” with U.S. trading partners. 

In the Kennedy Round, we climaxed three decades of intensive 

effort to achieve the greatest reduction in tariff barriers in all the 

history of trade negotiations. Trade liberalization remains the basic 

policy of the United States. 

We must now look beyond the great success of the Kennedy 

Round to the problems of nontariff barriers that pose a continued 

threat to the growth of world trade and to our competitive position. 

American commerce is at a disadvantage because of the tax 

systems of some of our trading partners. Some nations give across

the-board tax rebates on exports which leave their ports and 

impose special border tax charges on our goods entering their 

country. 

International rules govern these special taxes under the General 

Agreement on Tariffs and Trade. These rules must be adjusted to 

expand international trade further. 

In keeping with the principles of cooperation and consultation 

on common problems, I have initiated discussions at a high level 

with our friends abroad on these critical matters--particularly those 

nations with balance of payments surpluses. 

These discussions will examine proposals for prompt 

cooperative action among all parties to minimize the disadvantages 

to our trade which arise from differences among national tax 

systems.87

 

85 Public Papers of the Presidents of the United States: Lyndon B. Johnson, 1968-69, Book I, at 10-11. 86 Public Papers of the Presidents of the United States: Lyndon B. Johnson, 1968-69, Book I, at 11-12. 

87 Public Papers of the Presidents of the United States: Lyndon B. Johnson, 1968-69, Book I, at 12. The 

President’s reference to the initiation of discussions at a high level with “friends abroad” is to U.S. efforts to 

have the issue of border tax adjustments reviewed by GATT members. 
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I. 1968-1970 – GATT Working Party on Border Tax 

Adjustments

In March 1968, at a meeting of the GATT Council, the United States brought its concerns 

about the problems of border tax adjustments to the GATT and formally requested that a GATT 

working party be established to examine the issue. In making this request, the U.S. noted that it 

had become “increasingly concerned with the adjustments made at the frontier by some 

contracting parties in respect of certain kinds of indirect taxes” and that a review was warranted 

in that border tax adjustments had “come to have relatively greater importance” for a number of 

reasons: (1) “tax systems had changed considerably since the GATT provisions on border tax 

adjustments had been drafted and a more sophisticated view of the effects of these would be 

taken today”; (2) “border tax adjustments had been expanded and developed in response to 

changes in tax systems at a time when tariffs and other barriers to trade were being progressively

reduced”; and (3) “there were in prospect changes in tax systems in several countries which 

would raise further the adjustments made at frontiers.”88

Pursuant to the U.S. proposal, it was agreed to establish a GATT Working Party with the 

following terms of reference: 

1. To examine: 

(a) the provisions of the General Agreement relevant to 

border tax adjustments; 

(b) the practices of contracting parties in relation to such 

adjustments; 

(c) the possible effects of such adjustments on international 

trade; 

 

88 Minutes of GATT Council Meeting Held at the Palais des Nations, Geneva on 28 and 28 March 1968, C/M/46 

(5 April 1968) at 8. 
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2. In the light of this examination, to consider any proposals and 

suggestions that may be put forward; and 

3. To report its findings and conclusions on these matters to the 

Council or to the CONTRACTING PARTIES.89

At the first meeting of the Working Party, a number of countries expressed a range of 

initial views. Japan, for example, was supportive of the U.S. position, stating that it shared the 

concerns of the U.S. about the border tax adjustment rules and that the Working Party should 

seek a cooperative result. 

6. The representative of Japan said that his delegation shared 

the concern of the delegation of the United States regarding the 

problem of border taxes. They recognized the need for 

international co-operation in the reduction of non-tariff barriers. 

The matter for discussion in the Working Party was not, however, 

to determine whether or not the border tax adjustments made by 

each country were justified but to examine the essential character 

of such taxes in the context of the GATT rules. The discussion

should be oriented towards finding a rational solution, rather than 

toward a confrontation of national interests. 

7. The Japanese Government attached special interest to the 

strict distinction which was made n the application of the GATT 

rules between direct and indirect taxes. The assumption that all 

indirect taxes were fully passed forward and that all direct taxes 

were fully passed back seemed to them unrealistic and resulted in 

some disequilibrium in the trade effects on individual countries, 

depending on whether their systems were based on direct or 

indirect taxes. . . . The Working Party must therefore endeavor to 

find a procedure for the imposition of border tax adjustments 

which was acceptable to all contracting parties . . . .90

In contrast, the European Communities was not supportive of any changes to the existing 

GATT rules. While the EC agreed with the U.S. that the questions before the Working Party 

 

89 Minutes of GATT Council Meeting Held at the Palais des Nations, Geneva on 28 and 28 March 1968, C/M/46 

(5 April 1968) at 11-12. 

90 Working Party on Border Tax Adjustments, Secretariat Note on Meeting of 30 April to 2 May 1968, L/3009 (17 

May 1968) at paras. 6-7. 
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involved the fundamental rules and practices of GATT, and while it said that it was willing to 

participate in the work of the Working Party, the EC pointed out that the questions before the 

Working Party 

also involved an examination of universally accepted rules dating 

back to the inception of indirect taxes. From the outset the 

contracting parties have considered that these taxes should be {sic} 

principle affect only national consumption. In general, his 

delegation considered that, in this world where perfection was not 

the rule, the rules adopted in GATT, OECD and numerous 

integration treaties had operated in a relatively satisfactory way.91

The EC delegation further noted that “they were far from sharing the view that countries relying 

predominantly on direct taxes were at a disadvantage compared with those for which these taxes 

are less important,” and that it did not agree that border tax adjustments could nullify or impair

negotiated tariff concessions.”92 Other countries, such as Sweden, took a more neutral and 

objective stance toward the work of the Working Party, noting that as the issue “had been 

discussed for a long time in international bodies and in bilateral discussions,” but unanimity had 

not yet been achieved, the Working Party should first seek common ground.93

The United States presented the argument for change. In its initial statement to the 

Working Party, the United States comprehensively outlined the reasons why it believed that it 

 

91 Working Party on Border Tax Adjustments, Secretariat Note on Meeting of 30 April to 2 May 1968, L/3009 (17 

May 1968) at para. 11. 

92 Working Party on Border Tax Adjustments, Secretariat Note on Meeting of 30 April to 2 May 1968, L/3009 (17 

May 1968) at para. 12. 

The EC expressed a similar attitude in other meetings. For example, at the fourth meeting of the Working 

Party, the EC representative “noted the desire of the United States that the GATT rules should be amended. 

That desire was based on a hypothesis – that border tax adjustments were arbitrary – which in fact still remained 

to be proved, and that was precisely the task of the Working Party. The problem had been studied in the OECD 

which had not reached any conclusions that such adjustments were arbitrary.” Working Party on Border Tax 

Adjustments, Secretariat Note on Meeting of 8 to 11 October 1968, L/3125 (23 November 1968) at 1. 

93 Working Party on Border Tax Adjustments, Secretariat Note on Meeting of 30 April to 2 May 1968, L/3009 (17 

May 1968) at para. 8. 
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was time to reexamine and revise the GATT rules on border tax adjustments. As the U.S. 

statement cogently summarized the border tax adjustment problem, the U.S. statement at the first 

meeting of the Working Party is presented below in full. 

Statement by Representative of United States 

Before GATT Working Party on Border Tax Adjustments 

April 30, 1968 

The United States welcomes the convening of this Working 

Party. We realize that the examination we are about to embark 

upon will be complex, and that fundamental policy issues 

regarding governmental intervention in trade will be raised. 

Nonetheless, we believe that it is essential at this time that the 

entire question of border tax adjustments be re-examined, and we 

hope that the appearance of such strong delegations is an indication 

of the desire of all of us to deal with this problem constructively 

and expeditiously. 

When the present GATT language was drawn up more than 

two decades ago, the question of border taxes did not appear to be 

a major one. Levels of indirect taxes were much lower. Under 

these circumstances, overlying simple and sweeping assumptions 

about tax shifting seemed acceptable, and already existing 

practices were incorporated without searching examination. The 

rules were drafted in very general terms. The United States at that 

time had no pressing reasons for seeking more elaborate provisions 

which provided more equitable safeguards for its trading position. 

On the contrary, at that time the United States was conscious of the 

need to assist other countries in relieving the pressures of the socalled dollar gap and the requirements for postwar reconstruction. 

Little detailed attention was paid to a problem which might 

hypothetically arise which would be harmful to our then strong 

payments position. 

Times have changed, and the United States must now pay very 

careful attention to rules and practices which are unfairly 

prejudicial to our trading interests. As President Johnson stated in 

his 1 January statement on this issue, “We must now look beyond 

the great success of the Kennedy Round to the problem of nontariff barriers that pose a continued threat to the growth of world 

trade and to our competitive position.” 
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More generally, the effect on trade of border tax adjustments 

and other nontariff barriers is relatively much more important 

multilaterally now than when the GATT was drawn up. Since that 

time, tariffs have become considerably less of a hinderance to 

trade, and quantitative restrictions have been substantially reduced 

in number and scope. Border tax adjustments have been placed in 

sharper focus by these developments particularly since there has 

been a steady increase in the rates and coverage of indirect taxes in 

many important trading countries. Most of this increase has been 

reflected in higher border tax adjustments. In some cases these 

rates are very high and cover almost all traded products. 

Consequently, in some countries the border tax adjustments on 

many items are well in excess of the tariff rate, and changes in 

border tax rates may often dwarf recently negotiated trade 

concessions. 

When the current practices were in their early stages of 

development principally after World War I, indirect taxation 

tended to be confined to sumptuary taxes on a limited number of 

goods or to low-rate general taxes. Border tax problems were then 

simpler and relatively little attention was paid to the border tax

issue. Now, the general growth of indirect taxes has made 

prominent the issue of border tax adjustments, and a major reexamination is essential. But the problems have recently been 

further accentuated by the series of upward changes in border tax 

adjustments which have taken place in the past few months, and by 

the variety of new changes contemplated by various member 

countries of this Working Party. These changes, coming as they 

have at a time when the international balance-of-payments 

adjustment process is already under strain, have exacerbated a 

serious multilateral trade and payments adjustment problem. 

For some time now, both in international organizations and in 

bilateral consultations, United States representatives have indicated 

a growing concern over the present arrangements on border tax 

adjustments and their effects on trade. As early as July 1963, the 

United States proposed in the Organization for Economic Cooperation and Development a comprehensive study of the 

problems of border tax adjustments and their effect on trade. Our 

concerns are well-documented in the various discussions and 

consultations held in that Organization. Also, in the GATT during 

the past several years, United States representatives have at various 

times suggested that this problem needed to be explored more 

fully. Since these adjustments are governed principally by the 

GATT, under Articles II, III and XVI in particular, we believe that 
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a GATT review of its own rules is now in order. We believe that 

the Working Party should review the relevant rules in these articles 

with a view toward amending them or reaching new agreement on 

their interpretation and application in light of the current world 

trade and payments situation and of the need to improve the GATT 

in our continuous search for fairer trading rules and practices. 

We have not come to this Working Party with fixed and 

inflexible views as to the results it must achieve. We wish the 

discussion to be a wide-ranging one. There will undoubtedly be 

other members of the Working Party who will wish to raise aspects 

of the problem which have not yet occupied us, or to present 

substantive argumentation to develop points that we have made. 

We shall welcome such contributions. 

There are several general problem areas with which we should 

like to deal in this Working Party. 

First, we should like to have a serious comprehensive 

discussion of whether there should in fact be border adjustments to 

compensate for national differences in taxation. There are no 

adjustments for a wide range of government measures which 

directly affect prices, nor for many forms of taxation which affect 

prices. Why then should governments make specific border 

adjustments for certain types of taxes? When governments adopt 

new domestic economic policies which have side effects on trade 

or payments, domestic action is not necessarily accompanied by 

offsetting action to neutralize the balance-of-payments effect. 

Many government actions, for example, affect general price levels. 

But only in the case of indirect tax measures is there an 

institutionalized provision for such offsets. What is the 

characteristic of indirect taxation that makes it uniquely qualified 

for automatic border adjustments? 

If there are to be border adjustments, then they should be 

designed to allow no more adjustment at the border than is 

warranted by the impact on prices caused by taxes. From this 

point of view, we doubt that the current GATT rules and border tax 

practices are a good approximation of reality. The underlying 

assumption of the current rules is that certain kinds of indirect 

taxes are always fully passed forward in prices to the ultimate 

buyers of those goods, but that direct taxes and other indirect taxes 

are never passed forward to the buyers of those goods. Several 

issues arise out of this theoretical distinction. 
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Under present rules, it is unclear whether certain border tax 

adjustments are legal or not. In the first place, the definitions of 

direct and indirect taxes are by no means unanimously agreed. The 

GATT itself does not refer to the distinction, and the report of the 

Experts Group on this question is ambiguous in many respects. 

This is not surprising. Even today, economists have difficulty in 

defining direct and indirect taxes, depending upon the conceptual 

framework within which they are working and the purpose for 

which they wish to find definitions. The distinction between taxes 

which are shifted and those which are not is generally considered 

insufficient for analytical purposes and distinctions are often made 

between taxes which are meant to be shifted (whether they are or 

not) and those not so meant; between taxes on expenditures and 

taxes on receipts, and taxes on business enterprise as opposed to 

taxes on individuals. There are many examples: some authorities 

consider property taxes as direct, and others consider them 

indirect; some authorities consider employer contributions to social 

security as direct and some as indirect. In the second place there is 

wide diversity of opinion of just which taxes are “levied on” or 

“borne by” goods. The practice of certain countries varies 

significantly from the practice of other countries on this point. In 

the third place, under current rules, countries have had difficulty in

assigning precise border adjustments to products in relation to 

taxes on those products. Averaging has often been used to 

determine the precise amount of adjustment at the border for some 

taxes removed from the last stages of production. The averages, 

because of the nature of the problem, have sometimes been based 

on sweeping and dubious calculations. The current system allows, 

and perhaps even encourages, imprecise arithmetic to determine 

the amount of adjustments. In these cases, imprecision often can 

mean continuous pressure for upward adjustments as a result of 

protectionist desires. 

Putting aside these problems of classification and impression, 

there is a fundamental issue. Even when one is talking about 

relatively easily classifiable taxes, such as income and sales taxes, 

the economic validity of the distinction implied by the GATT 

between direct and certain indirect taxes is open to serious 

question. We think it is a fair statement to say that economists 

generally believe that indirect taxes are neither always nor fully 

shifted forward, and that direct taxes are seldom borne fully by the 

producer. There are differences of view on the extent of forward 

shifting of direct and indirect taxes but the extreme assumptions 

underlying the present GAIT provisions are patently wrong. 
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Therefore, a border adjustment equivalent to the full internal 

indirect tax has the same effect on international trade as an export 

subsidy or an additional customs duty on imports. Similarly the 

failure to make border adjustments for that portion of direct taxes 

shifted forward into prices penalizes the domestic producer vis-àvis his foreign competition, both at home and in export markets. 

This handicaps countries relying primarily on direct taxation. 

Well-known economists and fiscal experts brought together in 

a symposium organized by the Secretary-General of the 

Organisation for Economic Co-operation and Development in 

September 1964 reached conclusions along these lines. In brief, 

the conclusions of the exports were: 1. “In practice indirect taxes 

are not fully shifted into product prices ...” and 2. “Certain direct 

taxes, and particularly the corporation profits tax, may be partially 

shifted into product prices although the degree of shifting may vary 

from country to country.” 

Similarly, the Business and Industry Advisory Committee to 

the OECD (BIAC) in a report on the problem of tax shifting stated: 

“In a strongly competitive situation the prices obtainable—and 

hence the degree of tax shifting—are substantially determined by 

the market itself.” The BIAC study on tax shifting found that

while producers normally try to shift all taxes, their ability to do so 

is determined by a range of factors, including the state of the 

business cycle the producer’s control over his market, and 

institutional factors which vary from country to country. 

Thus, it appears to my delegation that the GATT rules create 

the inequitable situation where indirect taxes which are not fully 

shifted forward to the consumer can be rebated on export but 

corporate income taxes which are shifted forward to the consumer 

cannot be rebated on export. The inequity also exists with respect 

to the use of compensatory import charges. 

In summary, the present GATT provisions on border tax 

adjustments do not neutralize the effects of taxes on trade. Instead, 

they are export promoting and import restricting for the indirect tax 

countries. The basic assumptions underlying the GATT provisions 

are not realistic. The full border tax adjustment provided for with 

respect to indirect taxes constitutes both an export subsidy and an 

import surcharge. Adjustments for indirect taxes should be 

eliminated or they should be reduced under carefully 

circumscribed conditions, or some comparable advantage should 

be granted to countries who do not have heavy indirect taxes to 

balance the advantages now granted to the indirect tax countries. 
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This brings me to the second basic, general problem area which 

we wish to have examined. That is the question of changes—that 

is to say, increases—in rates of border tax adjustments. Many 

countries have made or are making increases in their border tax 

adjustment rates. Some of the same countries, as well as a number 

of other countries, are planning to increase their border tax rates in 

the near future. These changes will raise obstacles to exports into 

their markets and give price advantages to their products in export 

markets. We are particularly concerned in cases where tariff 

concessions which we had obtained by reciprocal bargaining have 

been offset, or are currently threatened by new or increased 

compensatory import charges and by export rebates affecting other 

markets where we have received concessions. 

These changes take two different forms, although they are 

sometimes mixed together: sometimes, changes are made on the 

argument that an adjustment from undercompensation to full 

compensation at the border is allowed. Sometimes changes are 

made in relation to a changeover from one system of indirect 

taxation to another system of indirect taxation. 

Quite apart from the question of price shifting, changes raise 

fundamental problems. Once a country has established its rate of 

domestic taxation, its rates of border tax adjustment, its tariff rates, 

and its exchange rates, then any increase in the rates of border tax 

adjustment will create new advantages for the country's trade. 

Clearly, a change from so-called undercompensation to some 

higher, so-called full compensation level has markedly favourable 

effects on the trade of the country making such a change. 

The changes which have recently taken place and which are 

soon to take place have intensified the balance-or-payments 

problem of my country. We believe that these changes have a 

fundamental adverse effect on the balance-of-payments adjustment 

process. The changes have been made even by countries which are 

in substantial payments surplus, and who ought to be seeking ways 

to avoid exacerbating balance-of-payments difficulties of other 

countries. The United States Government, in the framework of 

international co-operation, is presently seeking to achieve 

equilibrium in its balance of payments in a manner conducive, in 

the long term, to an increased flow of world trade. Increases in the 

level of border tax adjustment operate directly against these efforts. 

There is understandable interest in harmonization of their tax 

systems by the members of the European Communities. The shift 

from a turnover to a value-added system may be applauded as a tax 
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simplification measure, but the increases in border tax adjustments 

which accompany such action can be harmful to the process of 

achieving a better pattern of multilateral payments balances. 

In saying this we recognize the right of each country or group 

of countries to adopt any tax system it chooses. But, I repeat: the 

concurrent increases in border tax adjustments by surplus countries 

can be disequilibrating and contrary to the balance-of-payments 

adjustments which are needed internationally. Taking into account 

the basic problems which require new examination, and mindful of 

the urgencies brought about by the present and planned changes in 

the border tax adjustments of some countries, the United States 

Government respectfully requests that all countries contemplating 

changes in border tax adjustments refrain from increasing the level 

of their adjustments pending completion of the work of this 

Working Party. This is a difficult request to meet. We recognize 

the awkwardness it may create for certain countries. But we 

believe that these planned changes will very seriously exacerbate 

an already very difficult international trade and balance-ofpayments situation, and that a standstill for the time being is a

modest step compared with the general difficulties further rate 

changes may create for the United States, and for all countries. 

A third general problem area which we believe requires careful 

and detailed examination is the ambiguity in present rules and the 

need for a more precise code of practices relating to present rules 

and any changes which might eventually be contemplated by this 

Working Party. We are concerned with the ambiguities already 

referred to regarding distinctions between direct and indirect taxes. 

An attempt must be made to clear up what is legitimate and what is 

not. The question of what is meant by the terms “levied on” must 

be reexamined. Averaging and allocating practices should be 

examined. The valuation bases for assessment of border 

adjustments should be examined. Where a product is not produced 

in the home market, serious doubt exists that border adjustments 

should be made. Cases where production at home may be 

provided with special exemptions or escapes from taxes while at 

the same time requiring border tax adjustments on similar foreign 

goods should be examined. The broad scope for abuse of turnover 

tax systems, because of the ambiguity in them, should be 

examined. Ultimately, the question of what is “levied on” a 

product must be re-examined. New tax systems which might be 

adopted should be caught up in this basic review. 
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In order to assist other delegations in assessing the significance 

of present practices and the scope and dimension past, present, and 

projected developments in border tax practices in a number of 

countries, we shall make available to other delegations some 

descriptive information we have collected on border tax practices 

in a number of countries. We would welcome comments upon and 

additions to this compilation. Its purpose is to provide background 

as to why we believe the problems are growing in number, and 

why the work of this Working Party is a matter of urgency. 

We would hope that in due course certain OECD documents 

can be released generally to members of this Working Party. 

Eventually, the documentation of this Working Party itself may 

grow large. The subject, as I said at the outset, is extremely 

complex. We believe, however; that it is extremely important, and 

that new approaches must be found, in spite of the great burden of 

work which it will place upon us. 

The Working Party will in due course reach conclusions. We 

hope these conclusions will take the form of recommendations to 

change certain aspects of the GATT rules, and new interpretations 

of existing rules which might, perhaps, take the form of a Code, or

a multilateral agreement of some kind. As I stated earlier, our 

ideas are not fixed. We would welcome suggested approaches by 

other countries. We are guided by certain broad considerations. 

We question whether there is a sound conceptual basis for any 

general border tax adjustments. If, however, it is a widely held 

view that some forms of border tax adjustments should continue, 

we believe that these border adjustments should not act in such a 

way as to give an unfair advantage to countries with one type of 

tax system and to penalize countries with other types of tax 

systems. If border tax adjustments are to serve the purpose of 

neutralizing the effect on trade of price and resource distortions, 

caused by taxation systems, the rules should not have the effect of 

encouraging countries to adopt one sort of tax system over another 

sort of tax system, merely because the GATT rules on border taxes 

give trade advantages to one system over the other. We believe 

that a country generally should be able to choose its tax system 

primarily because of domestic considerations without regard to 

trade advantages conferred by GATT rules on certain tax systems. 

Finally, we believe that the border tax adjustments, and changes in 

them, should not be set or operated in such a way that they 
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exacerbate the international balance-of-payments adjustment 

process.94

From April 1968 to October 1970, the GATT Working Party conducted a detailed study 

of the tax systems of twenty-two countries and the relevant GATT rules on border tax 

adjustments.95 In November 1970, the Working Party issued its report.96 In the end, however, 

the Working Party failed to reach consensus to revise the GATT rules. At best, the Working 

Party report presented the differing viewpoints regarding the border adjustability of direct and 

indirect taxes, and noted where there was either convergence or divergence of views. The result 

of the Working Party was that the status quo with respect to the GATT rules was maintained. 

The only concrete results of the Working Party were that GATT member countries agreed to

“keep one another informed of major changes in their tax adjustment legislation and practices 

involving international trade, and to hold consultations on these changes if requested.”97

Excerpts from the Working Party report, illustrating the issues addressed and the 

differing views expressed, are set out below. 

With regard to the provisions of the GATT relevant to border tax adjustments, the 

Working Party Report said: 

4. For the purpose of its examination, ... border tax adjustments 

were regarded "as any fiscal measures which put into effect, in 

whole or in part, the destination principle (i.e. which enable 

exported products to be relieved of some or all of the tax charged 

 

94 Working Party on Border Tax Adjustments, Secretariat Note on Meeting of 30 April to 2 May 1968, L/3009 (17 

May 1968) at Annex (Statement by Representative of United States). 

95 GATT Activities in 1970/71 (Geneva 1972) at 38. 

96 Report by the Working Party on Border Tax Adjustments, L/3464 (20 November 1970), adopted on 2 December 

1970; 18 BISD 97 (1972). 97 GATT Activities in 1970/71 (Geneva 1972) at 37. 
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in the exporting country in respect of similar domestic products 

sold to consumers on the home market and which enable imported 

products sold to consumers to be charged with some or all of the 

tax charged in the importing country in respect of similar domestic 

products)". 

* * * 

7. The Working Party agreed that the main articles it should 

consider were, on the import side, Articles II and III and, on the 

export side, Article XVI. Other relevant articles included Articles 

I, VI and VII. 

8. There was general agreement that the main provisions of the 

GATT represented the codification of practices which existed at 

the time these provisions were drafted, re-examined and 

completed. Some members of the Working Party considered, 

however, that the main provisions of the GATT relevant to tax 

adjustments represent an attempt at the codification of a wide 

range of past practices based on assumptions which are not now 

universally accepted. In particular, they felt the assumption of full 

shifting of direct taxes is not a reflection of economic reality. 

They considered that the present GATT rules favour countries 

which rely heavily on indirect taxes and discriminate against 

countries which rely predominantly on direct taxes. Further, in 

their view, the present rules are ambiguous and lead to differing

tax adjustment practices for similar types of taxes. They 

concluded that the current GATT provisions and tax practices are 

not trade neutral. 

9. Most members argued that there seemed to have been a 

coherent approach when the relevant articles of the GATT were 

drafted and that there were no inconsistencies of substance 

between the different provisions even if the question of tax 

adjustments was dealt with in different articles. They added that 

the philosophy behind these provisions was the ensuring of a 

certain trade neutrality. It was noted that the rules of the GATT 

had also been agreed upon by those countries predominantly 

relying on direct taxes. They recalled the fact that the rules of the 

GATT had been in force for more than twenty years and had 

proved fairly adequate and easy to administer. They were also of 

the opinion that the present rules served the purpose of trade 

neutrality of tax adjustment appropriately and that no motive could 

be found to change them. * * * Some countries thought that the 

Working Party should not go further than a discussion on the 
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possibilities of improvements of a technical character that could 

facilitate the practical handling of the GATT rules. 

10. * * * It was agreed that GATT provisions on tax adjustment 

applied the principle of destination identically to imports and 

exports. 

11. It was further agreed that these provisions set maxima limits 

for adjustment (compensation) which were not to be exceeded, but 

below which every contracting party was free to differentiate in the 

degree of compensation applied, provided that such action was in 

conformity with other provisions of the General Agreement. 

12. One delegation stressed that the question of the degree of 

compensation, regardless of its consistency with GATT rules, was 

relevant to the issue in terms of the actual or potential effect on 

trade. For instance, trade distortions were likely to result from a 

country changing from consistent under-compensation to full 

compensation. 

13. Some delegations did not share this view. GATT provisions 

on tax adjustments did not provide for any form of protection but 

rather for the possibility for governments to create equality in 

treatment between imported and domestically-produced goods. 

The various degrees of compensation practised in different 

countries were applied for fiscal revenue or budgetary reasons;

there were no known cases of deliberate manipulation of 

compensation on selected products. 

14. On the question of eligibility of taxes for tax adjustment 

under the present rules, * * * The Working Party concluded that 

there was convergence of views to the effect that taxes directly 

levied on products were eligible for tax adjustment. Examples of 

such taxes comprised specific excise duties, sales taxes and 

cascade taxes and the tax on value added. It was agreed that the 

TVA, regardless of its technical construction (fractioned 

collection), was equivalent in this respect to a tax levied directly - 

a retail or sales tax. Furthermore, the Working Party concluded 

that there was convergence of views to the effect that certain taxes 

that were not directly levied on products were not eligible for tax 

adjustment. Examples of such taxes comprised social security 

charges whether on employers or employees and payroll taxes. 

15. The Working Party noted that there was a divergence of 

views with regard to the eligibility for adjustment of certain 

categories of tax and that these could be sub-divided into 
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(a) "Taxes occultes" which the OECD defined as 

consumption taxes on capital equipment, auxiliary materials 

and services used in the transportation and production of 

other taxable goods. Taxes on advertising, energy, 

machinery and transport were among the more important 

taxes which might be involved. It appeared that adjustment 

was not normally made for taxes occultes except in countries 

having a cascade tax; 

(b) Certain other taxes, such as property taxes, stamp duties 

and registration duties ... which are not generally considered 

eligible for tax adjustment. * * *98

With regard to the possible effects of border tax adjustments on international trade, the 

Working Party Report said: 

21. In examining the possible effects of tax adjustments on 

international trade, a study has been made of the nature of indirect 

taxes and also to some extent of direct taxes, and their eligibility 

for adjustment. The question was raised by some members why 

only indirect taxes should be eligible for adjustment since the

economic basis for such a clear distinction between indirect and 

direct taxes for adjustment purposes has not been demonstrated. 

Most delegations stated, however, that in their opinion such a 

distinction was already justified by the fact alone that indirect taxes 

by their very nature bear on internal consumption and were 

consequently levied, according to the principle of destination, in 

the country of consumption, while direct taxes - even assuming 

that they were partly passed on into prices - were borne by 

entrepreneurs' profits or personal income. On the other hand, some 

members stated that while forward shifting of selective excise 

taxes could take place under most circumstances according to 

micro-economic approach, forward shifting in the case of general 

consumption taxes was, according to macroeconomic approach, 

not possible unless one assumes either a sufficient increase in 

money supply or in velocity of money. Some further argued that 

market conditions including, for example, monopoly or imperfect 

competition, influenced the degree to which the shifting of taxes 

both direct and indirect could take place. Other members 

expressed their doubts about this thesis. They pointed out that 

 

98 Report by the Working Party on Border Tax Adjustments, L/3464 (20 November 1970) at paras. 4-15. 
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forward shifting of indirect taxes is the rule and that in any case the 

relative importance of the degree of forward shifting of these 

indirect taxes in the light of the economic conditions does not 

constitute a determining criterion for the application of tax 

adjustments. 

22. The Working Party recognized that the problem of structural 

differences in taxation and the question as to what extent indirect 

taxes and direct taxes were shifted into commodity prices was full 

of difficulty and of a very complex nature. No conclusions were 

reached. Some members felt that this part of the Working Party's 

examination made it clear that present tax adjustment based on 

GATT provisions did not ensure trade neutrality and that it was 

important that solutions be found to this problem. Most other 

members of the Group, however, were of the opinion that the 

discussion rather tended to confirm that the current practices of tax 

adjustments were as consistent as possible with the objectives of 

trade neutrality. Still some others were of the opinion that the 

work done in the Working Party was not such as to permit 

definitive conclusions to be drawn regarding the objective truth in 

the two opposing contentions. 

23. The Working Party examined whether and to what extent 

changes in tax systems could affect international trade. The 

Working Party paid special attention to changes in tax adjustments 

unaccompanied by changes in domestic rates of taxes and changes

from cascade taxes or sales taxes to a tax on value added. In this 

connexion, special studies were made of Denmark, France, the 

Federal Republic of Germany, the Netherlands, Sweden and 

Norway, which had moved from a cascade or single-stage tax 

system, to a system of tax on value added (TVA). 

24. The Working Party recognized that there were serious 

difficulties in the way of quantifying the possible effects of tax 

adjustments on international trade, it being difficult to determine 

what the trade figures would have been if tax adjustments had not 

been made. 

25. It was nevertheless admitted that changes in tax adjustments 

could in certain conditions have a favourable effect on the trade 

balance. Some members shared that view only with respect to 

changes that put an end to undercompensation. For instance, the 

substitution of a TVA for a cascade tax could well be 

advantageous to the balance of trade, if border taxes under the 

cascade system did not fully reflect the turnover tax paid on similar 
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products in the home market. However, those effects would 

depend on the conditions in which the changes were made. * * * 

26. Some members of the Working Party expressed the view that 

tax adjustments could have a disequilibrating impact on the world 

economy, if, for example, tax adjustments which would improve a 

particular country's trade position were in future to be made when 

that country was already in a sustained balance-of-payments 

surplus position. The members who held this view suggested that 

there was a need to take this aspect into account rather than simply 

adopting tax adjustments as a logical consequence of internal tax 

policy decisions. It was asked by these members of the Working 

Party whether it was correct for countries to change in all 

circumstances tax adjustments to allow for fuller compensation. 

Several countries pointed out that the rules of the GATT permitted 

tax adjustments for certain indirect taxes, which was entirely 

justified since in the absence of full compensation, national 

enterprises were at a disadvantage from the aspect of international 

competition.99

In conclusion, the Working Party Report said: 

40. The Working Party does not feel that any useful purpose 

would be served by pursuing the examination under its present

terms of reference in the present circumstances. The Working 

Party recognizes the continuing interest of contracting parties in 

the subject and in particular in future changes in taxation systems. 

The Working Party recommends that a notification procedure be 

introduced, on a provisional basis whereby contracting parties will 

report changes in their tax adjustments. * * * 

43. The Working Party recommends that a consultation 

procedure be established whereby, upon request by a contracting 

party, a multilateral consultation could take place on changes in tax 

adjustments, whether notified or not. Such consultations would be 

held within the scope of the relevant GATT provisions. Upon 

request, contracting parties should be prepared to justify the 

reasons for adjustment, the methods used, the amount of 

compensation and to furnish proof thereof.100

 

99 Report by the Working Party on Border Tax Adjustments, L/3464 (20 November 1970) at paras. 21-26. 100 Report by the Working Party on Border Tax Adjustments, L/3464 (20 November 1970) at paras. 40-43. 
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J. 1969-1971 – Nixon Administration’s Concerns Regarding 

Border Tax Adjustments

The border tax issue continued to be a controversial and pressing topic as the Nixon 

Administration took control of the government in 1969. The concerns in the early years of the 

Nixon Administration are reflected in the following chronology of selected Nixon 

Administration memos and other background papers from the 1969-1970 time period. 

In the first month of the Nixon Administration, a task force on foreign trade policy, 

chaired by Alan Greenspan, prepared a report for the new administration. Included in its 

recommendations was one respecting the ongoing GATT discussion on border taxes. 

We are concerned here with a number of concrete issues that will 

arise--or ought to be acted on--in the first six or eight months of 

the new administration. 

* * * 

(7) The United States should continue to discuss with European 

countries their border taxes and to take part in the re-examination 

of GATT rules about these matters. Decisions about a value-added 

tax in the United States should be made in terms of domestic 

economic requirements, not those of trade policy. The majority of 

the task force is not favorably disposed to the use of border taxes 

or comparable import surcharges for balance of payments purposes 

when compensation for domestic taxes is not involved, but some 

members felt that the subject merits more detailed exploration.101

In March 1969, in a memorandum to President Nixon, Secretary of State William Rogers 

addressed the border tax adjustments issue. 

Border tax adjustments (BTAs) have become an important issue. A 

number of U.S. companies assert that the adjustments made by 

most European countries have the same effect as increased tariffs. 

 

101 Report of the Task Force on Foreign Trade Policy, January 31, 1969; U.S. Department of State, Foreign 

Relations, 1969-1976, Volume IV, Foreign Assistance, International Development, Trade Policies, 1969-1972 

(Document 181); available at http://www.state.gov/r/pa/ho/frus/nixon/iv/15576.htm. 
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This is a very complicated issue, and the impact of border tax 

adjustments remains unclear in spite of all the international work 

done on it. We have argued that the existence of full border 

adjustments for high European sales or value added taxes harms 

the trade of countries such as the U.S. that rely less heavily on such 

taxes. There is no agreement on this point. However, a stronger 

case can be made that increases in border adjustments do damage 

trade when not accompanied by equal increases in domestic 

taxation. The Europeans have been bringing their border taxes up 

to the level of their domestic rates. No matter how justified 

Europeans may claim these increases are on the basis of equity, 

they mean that our exports are competing on a less favorable basis 

than previously. However, there are knotty theoretical problems in 

quantifying any damage. The most significant increase, which was 

made by Germany a year ago, was more than reversed in a 

November change made for balance of payments purposes. 

I do not agree, however, that the answer to this problem is for us to 

make a unilateral increase in our border adjustments. We now 

make full border adjustments for the direct effect of our own 

excise and state and local sales taxes. We could go slightly further 

on grounds that our adjustments do not fully provide for the 

secondary effects of these taxes, e.g. calculating and adjusting for 

the expense to our exporting firms of the gasoline tax they pay to 

keep their trucks running. If we should make such a case, which 

might allow our border adjustments to be some 2% higher than 

currently, some other countries could easily make similar higher

adjustments based on the same grounds, with little or no net gain 

for us. The previous Administration considered such a move but 

decided against it on the ground that we would gain little from it in 

trade terms. 

We are now well into a U.S. initiated GATT examination of BTA 

practices and their effects on trade. We are trying to persuade other 

countries that the present system is inequitable and that border 

adjustments must be more strictly controlled. So far we have not 

found much support even among countries with taxation systems 

similar to ours for changes in the rules, though some foreign 

officials have indicated we do have a point. 
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Should the GATT effort not improve the situation we will have to 

consider whether taking unilateral action is a satisfactory 

substitute. Such a move at this time, however, is premature.102

In April 1969, in preparation for a National Security Council meeting on major issues for 

decision in trade policy, a briefing memorandum prepared for Paul Volcker, Under Secretary of 

Treasury for Monetary Affairs, noted a difference in approach to the problem of border taxes 

between the State Department and Treasury: 

Border Tax Adjustments--There is interagency agreement at the 

staff level that a change in the GATT rules concerning border tax 

adjustment should be pursued by the U.S. Government. There is 

disagreement on the nature of the change which will be necessary. 

The State Department is backing a soft approach which would 

cause the least problems for the EEC. They advocate a change in 

the GATT rules which would allow temporary border tax 

adjustments during times of balance of payments difficulties, i.e., 

the use of BTA's to assist the adjustment process. They do not 

want to push for substantive change in the GATT rules which 

would eliminate the discrimination against countries which rely 

more heavily on direct taxes than indirect taxes. The Treasury 

Department has been the major force within the U.S. Government

advocating substantial changes in the GATT rules on border tax 

adjustments.

103

The paper prepared by the National Security Council Staff for the April 9th meeting on 

trade policy laid out the border tax adjustments issue as follows. 

 

102 Memorandum from Secretary of State Rogers to President Nixon, March 24, 1969; U.S. Department of State, 

Foreign Relations, 1969-1976, Volume IV, Foreign Assistance, International Development, Trade Policies, 

1969-1972 (Document 188); available at http://www.state.gov/r/pa/ho/frus/nixon/iv/15576.htm. 103 Memorandum from the Director of the Office of International Economics, Department of the Treasury (Pelikan) 

to the Under Secretary of the Treasury for Monetary Affairs (Volcker), April 8, 1969; U.S. Department of State, 

Foreign Relations, 1969-1976, Volume IV, Foreign Assistance, International Development, Trade Policies, 

1969-1972 (Document 191); available at http://www.state.gov/r/pa/ho/frus/nixon/iv/15576.htm. 
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Border Tax Adjustments 

There are two aspects to the border tax issue and they are usually 

confused. First, there is a structural problem in the GATT rules: 

indirect taxes (such as excise taxes and taxes on value-added) can 

be rebated on exports and imposed on imports while direct taxes 

(such as corporate and personal income taxes) cannot. The trade 

balances of countries with relatively heavier use of indirect taxes 

are thus in principle favored. As with other NTBs, however, there 

is no agreed analysis of these effects in practice. The clearest effect 

occurs when countries increase their border adjustments without 

changing their internal tax rates, usually in connection with a shift 

in their method of taxation. 

Second, there is the possibility of using uniform border taxes as a 

temporary device to help countries adjust their balance of 

payments positions. Such measures could be legalized without 

changing the structural rules. The import surcharges used by 

Canada in 1962 and the UK in 1964-1966 are examples. The 

Johnson Administration seriously considered such an approach last 

year. 

We could address ourselves to either or both of these problems. 

The balance of payments aspect is best considered in that context, 

however, and this trade discussion should be limited to the 

structural aspects. 

The options are: 

(1) Increase our own border taxes unilaterally, either legally and in 

small amounts to adjust for U.S. indirect taxes not now rebated, or 

illegally and in larger amounts to cover some of our direct taxes; 

(2) Apply countervailing duties against foreign rebates on their 

exports and subsidize our exports to countries which apply border 

taxes; 

(3) Propose changes in the GATT rules to allow for border 

adjustment for direct taxes; 

(4) Propose undercompensation of indirect taxes by countries 

which rely heavily on them; 

(5) Seek agreement that countries will not increase their 

adjustments even when they change their domestic tax rates, 

without international consultation. 

No Presidential decision is required at this time. (My tentative 

view is that we should seek agreement only on changes in 
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adjustments as per last-mentioned option, since any of the 

unilateral approaches would probably generate foreign retaliation 

and launch a trade war, and intensify international and internal 

study of the effects of BTAs as part of the over-all effort on NTBs 

outlined above, with a view toward including them in a major trade 

negotiation in a year or so. We can gain very little from negotiating 

on BTAs alone since we have nothing to offer in return for foreign 

concessions.)104

Although no specific actions were taken regarding border tax adjustments as a result of 

the April 9th NSC meeting, it was noted that: 

The President indicated that the Administration should take greater 

cognizance of the problems of U.S. businessmen and their 

concerns abroad, even when ultimately they may have to be overridden by foreign policy considerations. The business community 

should be convinced that its interests are adequately represented by 

the Government.105

In May 1970, in discussions with French financial officials at Camp David, Treasury 

Secretary David Kennedy expressed the concerns of Congress regarding the trade effects of 

border tax adjustments. 

Secretary Kennedy said there was a feeling of concern in 

Congress, which he shared, about the effect on trade of the 

differences between the U.S. and European tax systems. We have 

been studying what we might do in this regard, but it is hard to 

make a change in our system, which relies heavily on income 

taxes. Some people have suggested that we ought to introduce a 

 

104 Analytical Summary and Issues for Decision Prepared by the National Security Council Staff, NSC Meeting, 

April 9, 1969; U.S. Department of State, Foreign Relations, 1969-1976, Volume IV, Foreign Assistance, 

International Development, Trade Policies, 1969-1972 (Document 192); available at http:/www.state.gov/

r/pa/ho/frus/nixon/iv/15576.htm. (Note: it is unclear who is presenting “my tentative view” in the last 

paragraph.) 

105 Action Memorandum from the President's Special Assistant for National Security Affairs (Kissinger) to 

President Nixon, April 15, 1969 (Tab A: Actions Resulting From the NSC Meeting on Trade, April 9, 1969); 

U.S. Department of State, Foreign Relations, 1969-1976, Volume IV, Foreign Assistance, International

Development, Trade Policies, 1969-1972 (Document 195); available at http:/www.state.gov/r/pa/ho/frus/nixon/

iv/15576.htm. 
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value-added tax and some people think that we should adopt 

border taxes. However, we have not taken any decisions on these 

matters. So far the only proposal to be adopted is the DISC 

proposal.106

In June 1970, Treasury Secretary Kennedy prepared a detailed memorandum for the 

Council of Economic Advisers specifically addressing border tax adjustments. In the 

memorandum, Secretary Kennedy recognized the growing problem as well as the difficult 

position of the United States in trying to persuade its trading partners to make structural changes 

to GATT rules. 

Tax Adjustments at the Border

Chairman McCracken's memorandum of June 8 suggests that we 

proceed with the three points outlined by Ambassador Gilbert 

while setting aside the issue of the basic inequity of GATT rules.107

I do not believe that approach would relieve either our economic or 

political difficulties. Of the three points proposed by Ambassador 

Gilbert, two are clearly of minimal importance and solutions would 

result in no substantial trade benefits for U.S. producers. The third 

faces us with the same basic issue of GATT inequity which 

Chairman McCracken suggests we set aside. Any substantive 

proposal on changes would require an amendment of GATT 

provisions concerning the amount of allowable adjustments. 

 

106 Memorandum of Conversation, May 3-5, 1970; U.S. Department of State, Foreign Relations, 1969-1976, 

Volume III, Foreign Economic Policy, 1969-1972; International Monetary Policy, 1969-1972 (Document 146); 

available at http:/www.state.gov/r/pa/ho/frus/nixon/iii/5347.htm. 107 Footnote 2 to the Memo states: “McCracken's June 8 memorandum summarized the results of a June 5 meeting, 

where agreement was reached on how to proceed at the July GATT meeting. Gilbert outlined three points: 

"opposition to adjustments for taxes occultes; a requirement for confrontation and justification in the event of 

changes in a country's tax system involving border adjustments, and international control or surveillance of 

'averaging.'" GATT rules allowed Contracting Parties to levy border taxes, sometimes known as border tax 

adjustments, imposing domestic, indirect taxes (i.e., excise, value added, and turnover taxes) on imports and 

rebating and/or excusing such taxes on their exports. A number of European nations and Japan, which relied

heavily on indirect taxes (such as value added and turnover taxes), imposed significant border taxes, whereas 

the United States, which relied primarily on direct taxes (particularly income and property taxes), had only very 

limited scope for making border tax adjustments. In many circles this was viewed as discrimination against U.S. 

exports and subsidization of imports into the United States, contributing significantly to the U.S. balance-ofpayments deficit. . . . .” 
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The U.S. has talked about taxe occulte108 and averaging primarily 

for tactical purposes--keeping the talks alive while we consider the 

basic issue. The problems of averaging and border adjustments for 

taxe occulte have largely passed us by as they do not inherently 

exist in the value added tax system. As Italy and Belgium will be 

adopting the TVA within 18 months, only Spain and Austria, 

among the developed nations, will be left with cascade tax 

systems109--the area of most abuse regarding averaging and taxe 

occulte. A modification of taxe occulte procedures would limit 

possible U.S. action while leaving Europeans free to obtain 

benefits equivalent to adjustment for taxe occulte by simple 

modifications of their TVA systems. It is clear that there is little 

economic or political advantage in pursuing a change regarding 

these points. 

As for the third point, I agree that countries should not be allowed 

unilaterally to disrupt the international trading mechanism by 

changes in their border adjustments. 

Border tax adjustments will continue to be a problem as EC tax 

harmonization proceeds. Eventually all of Western Europe will be 

using the TVA and making substantial changes in their border 

adjustments. These changes, condoned by the bias in the GATT 

rules, will have serious disruptive effects on both trade and

international balance of payments adjustments. Failure to resist this 

undercutting of our economic strength will badly damage our 

ability to prevent other similar actions. 

In order to argue that changes should be controlled, we must 

demonstrate that they have trade effects. But in most instances this 

is true only if direct taxes are, in part or in whole, passed forward 

to the consumer and/or indirect taxes are partially absorbed by the 

producer. Either position directly contradicts GATT rules and 

confronts us with the issue of amending them to correct the bias in 

favor of indirect tax systems. Unless the rules are amended, 

countries would argue that their actions are in conformity with 

 

108 Footnote 3 to the Memo states: “The taxe occulte is the "hidden" amount of tax that accrues in the value of a 

product, depending on the number of transactions that occur during a product's production and distribution. 

Unlike value added taxes where the rate of application is generally clear, when taxe occulte occurs the effective 

rate is difficult to gauge, giving rise to the question of what is the appropriate, "average" rate for border tax 

purposes. See Border Tax Adjustments and Tax Structures in OECD Member Countries (Paris: Organization for 

Economic Cooperation and Development, 1968), pp. 20-21 and 58-63.” 

109 Footnote 4 to the Memo states: “The cascade tax, or the turnover tax, was used in several European countries. 

Community members were expected to replace their cascade taxes with value added taxes.” 
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GATT and they have no responsibility to offset any trade effects of 

changes in adjustments. 

Thus advocacy by the U.S. of proposals covering the points raised 

by Ambassador Gilbert would seem to make sense only as part of a 

package which includes a major change in how nations handle 

border adjustments for taxes. 

Chairman McCracken's thesis that past changes in tax adjustments 

at the border are washed out by exchange rate changes disturbs 

me.110 It seems to me wrong in implying an equilibrium that 

simply does not exist and cannot practicably be obtained. 

We have all recognized the absolute necessity of attaining a 

stronger goods and services position. The present bias in the border 

tax adjustment rules complicates the achievement of this goal. 

The plain fact is that exchange rate changes of the last 10 or 15 

years have not and will not eliminate the problem of existing 

border tax adjustments: our trade balance and balance of payments 

structure have deteriorated in recent years. The fact that some 

exchange rate changes might have been different without the 

border adjustments, if true, provides no answer to the U.S. 

structural problem. Furthermore, numerous changes in border 

adjustments have occurred which were not offset even partially by 

exchange adjustments. Thus, Belgium and Italy have not modified 

their exchange rates since 1949, the Dutch since 1961, and most of 

Scandinavia since the immediate post World War II period. 

Changes in taxes and border adjustments have occurred regularly,

with rates and product coverage generally increasing. It is only 

with respect to the 1960 and 1968 German revaluation and the 

1961 Dutch revaluation that we can conceivably say that exchange 

rate change even went in the right direction in order to offset in 

part the trade effects of the border adjustment. But even in those 

cases, it cannot be definitively stated that the trade effects of 

cumulative border tax adjustments were effectively offset. It seems 

to me fruitless to argue that remaining disequilibria can simply be 

offset by further exchange rate changes that in practice are both 

unlikely in the degree necessary and deeply disturbing to the 

international monetary climate. 

 

110 Footnote 5 to the Memo states: “McCracken argued that if a country made a 10 percent border tax adjustment 

for, say, a value added tax, by rebating that amount on exports and levying that amount on imports, any trade 

impact of that adjustment would be offset by a corresponding 10 percent appreciation in that country's currency, 

which would render its exports 10 percent more expensive in foreign currencies and its imports 10 percent more 

expensive in domestic currency.” 
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Carried to its logical conclusion, Chairman McCracken's argument 

implies that the U.S. need not worry about the level of existing 

U.S. and foreign tariffs, U.S. and foreign subsidies or most U.S. 

and foreign import barriers as changes in exchange rates have 

eliminated their economic impact on U.S. and foreign trade 

interests. If this were so, the trade message submitted by the 

President need not have called for tariff reducing authority nor 

provided for retaliatory authority against foreign subsidies in third 

country markets. Although exchange rate changes may 

conceivably eliminate balance of payments disequilibrium, in the 

sense of reserve losses and gains, we must always question 

whether the process of adjustment is desirable, the new equilibrium 

is appropriate for the world and for the U.S., and the resulting 

payment structure and resource allocation are truly efficient. A 

new equilibrium with the EC in a heavy trade surplus and the U.S. 

relying on capital inflows would be structurally unsatisfactory for 

the U.S. and for the entire world. 

On a political level, I also do not believe that an argument that 

exchange adjustments have eliminated the impact of old border 

adjustments will be persuasive. Certainly these exchange 

adjustments do not eliminate our countervailing duty problems as 

the border adjustments continue to exist. In this regard I would 

point to recent statements by Congressman Mills that he intends to 

amend the countervailing duty law to require action against all 

rebates of taxes. 

As I mentioned before, any effective mechanism for controlling 

changes in border adjustments must have as its basis the same 

arguments already put forward on the amount of adjustment for 

direct and indirect taxes. To achieve an effective control limiting a 

country's ability to make such adjustments or changes in them 

would require a basic amendment to the GATT rules. By limiting 

our substantive proposals to controlling changes in adjustments we 

do not reduce the need for achieving a structural change in GATT. 

We would, however, have thrown out one of our basic arguments, 

receiving nothing in exchange, and prejudicing our credibility on 

other U.S. initiatives.111

 

111 Memorandum from Secretary of the Treasury Kennedy, June 30, 1970; U.S. Department of State, Foreign 

Relations, 1969-1976, Volume III, Foreign Economic Policy, 1969-1972; International Monetary Policy, 1969-

1972 (Document 41); available at http:/www.state.gov/r/pa/ho/frus/nixon/iii/5341.htm. 
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John Connally, successor to David Kennedy as Treasury Secretary, also expressed the 

view that the border tax adjustments issue should be addressed directly. The following is a 

colloquy between Treasury Secretary Connally and Utah Senator Bennett: 

Senator BENNETT. . . . The GATT seems to permit countries 

with value added taxes to rebate such taxes on exports and impose 

them at the border on imports under the theory that valued added 

taxes are always shifted forward to the consumer while corporate 

income taxes are absorbed by the producer. 

You are a businessman. Do you feel that the GATT provisions 

are sound with respect to these, to this attitude and, particularly, 

with respect to border tax adjustment? 

Secretary CONNALLY. No, sir; I do not think they are basically 

sound. I think there again we were in a posture where we did not, I 

assume, feel that the taxes—the rate of the indirect taxes were 

fairly low as I recall at the time of the negotiations, approximately 

2 to 4 percent—were a great factor. And we were still a very strong 

Nation. 

We saw none of these problems; apparently, and we let them 

drive a wedge of distinction between the imposition of an indirect 

tax and a direct tax such as an income tax. 

Well, now, ultimately there is no difference. Ultimately any 

company, however they are taxed, has to pass on— 

Senator BENNETT. That is right. 

Secretary CONNALLY (continuing). That tax as a cost of the 

item manufactured to the consumer. 

But they distinguished it on the basis that an indirect tax like 

the value-added tax was in a different position, that it was passed

on to the consumer and it could, therefore; be rebated without, 

violation of any of the international agreements—the GATT 

agreement—but you could not do it on income taxes. 

Now, it just so happens we rely predominently on the income 

tax. We do not have the value-added tax. The European countries 

rely heavily on indirect taxes. 

So the time has come for us to either demand the same 

treatment for direct taxes, or to play their game and insist that their 

value-added tax be treated the same as our direct taxes or that in 
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any future tax measures, that we at least consider the possibility of 

adopting the value-added tax. 

Senator BENNETT. Don't you think, looking at the thing 

philosophically, don't you think we would all be better off if we 

renegotiated the basis of our international trade rather than 

continue to patch our own tax system to match the limitations in 

GATT? 

Secretary CONNALLY. I think the circumstances have changed 

to the point, Senator Bennett, where there is now such a 

completely different set of circumstances that surrounds the 

various trading partners in the world that any patching operation is 

not going to hold for any substantial period of time. 

I think there has to be an overall look taken at it.112

K. 1970-1972 – Williams Commission Report

In a November 18, 1969 message to Congress, President Nixon said that he intended to 

appoint a Commission on World Trade to examine the entire range of U.S. trade polices and 

objectives, to analyze the problems the U.S. was likely to face in the 1970s, and to prepare 

recommendations on what to do about them.113 To that end, on May 21, 1970, President Nixon 

announced the formation of the President's Commission on International Trade and Investment

Policy, which was referred to as the “Williams Commission” because it was chaired by IBM 

Chairman Albert Williams.114 The Williams Commission tendered a 3-volume report to the 

 

112 Foreign Trade: Hearings before the Subcommittee on International Trade of the Senate Finance Committee on 

World Trade and Investment Issues, 92nd Cong., 1st Sess., Part 1, at 44-45 (1971). 

113 Richard M. Nixon, Special Message to the Congress on United States Trade Policy. November 18th, 1969; 

available at John Woolley and Gerhard Peters, The American Presidency Project (online), 

http://www.presidency.ucsb.edu/ws/index.php?pid=2325&st=&st1=. 

114 United States International Economic Policy In An Interdependent World: Report to the President submitted by 

the Commission on International Trade and Investment Policy (July 1971, Washington, D.C.) at ix (Preface). 
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President, entitled United States International Economic Policy in an Interdependent World, in 

late July, 1971.115

One of the many trade policy topics examined by the Williams Commission was 

international trade distortions, and included under that subject was the trade effects of national 

tax structures. 

The Commission noted that the issues of border tax adjustments had gained considerable 

prominence in international trade discussions as they related to present GATT rules dealing with 

internal taxation. The Commission described the situation: that GATT rules permit border tax 

adjustments on internationally-traded goods to the extent that indirect taxes (e.g., excise and 

other consumption taxes) may be rebated on exports and imposed on imports (to the extent 

equivalent to those imposed on domestic like goods), but that direct taxes (e.g., income or profit 

taxes) were not eligible for border adjustments. The Commission noted that these rules initially 

had been proposed by the United States at the time GATT was negotiated and that they reflected 

long-standing practices of major trading countries. The Commission described why the U.S. 

became concerned about the GATT’s border tax adjustment rules. 

During the 1960s however, the United States, faced with balanceof-payments difficulties and the prospect of major changes in 

European tax systems that might aggravate these problems, began 

to question the fairness of the GATT rules. The United States

argued that the rules assumed implicitly that indirect taxes were 

always fully shifted forward into product prices while direct taxes 

were never shifted forward, and that to the extent these 

assumptions did not hold - and most economists today believe they 

 

115 United States International Economic Policy In An Interdependent World: Report to the President submitted by 

the Commission on International Trade and Investment Policy (July 1971, Washington, D.C.). 
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do not - a trade advantage was conferred on countries with 

extensive indirect tax systems.116

The Commission further noted that the issue had been examined before, first at the 

OECD and then at the GATT, that “most countries disagreed with the U.S. position, arguing that 

the implicit tax-shifting assumptions of GATT were approximately correct and that in any case a 

more equitable system could not be devised,” and that neither the OECD or the GATT had 

recommended change in the rules.117

While the Commission generally recognized that there was uncertainty regarding the 

extent to which various taxes are reflected in product prices, i.e., that “indirect taxes are probably 

not fully shifted into prices and direct taxes are probably shifted forward to a large extent,” the 

Commission did not recommend any specific action to change the GATT rules. The 

Commission examined the main alternatives to the present GATT rules but found problems with 

each, as summarized below.118

Alternative Problem 

Limit permissible adjustments 

for indirect taxes 

Would encourage imports and discourage exports in countries with 

internal taxes above the limit. 

Allow countries to make 

adjustments at the border for 

direct taxes 

Determining the adjustment amount as it is impossible to determine 

the direct tax (e.g., the corporate income tax) borne by individual 

products. 

Impose a general import tax 

and export subsidy to offset 

disadvantage to the U.S. 

Difficult to get agreement on existence and extent of any 

disadvantages. U.S. hidden indirect taxes are small. This type of 

adjustment is of questionable legality under present GATT rules. 

U.S. could adopt a valueadded tax Any decision on adoption of a TVA by the U.S. should be based 

primarily on domestic tax considerations. 

 

116 United States International Economic Policy In An Interdependent World: Report to the President submitted by 

the Commission on International Trade and Investment Policy (July 1971, Washington, D.C.) at 103. 117 United States International Economic Policy In An Interdependent World: Report to the President submitted by 

the Commission on International Trade and Investment Policy (July 1971, Washington, D.C.) at 103. 

118 United States International Economic Policy In An Interdependent World: Report to the President submitted by 

the Commission on International Trade and Investment Policy (July 1971, Washington, D.C.) at 105-107. 
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In the end, the Commission did not believe that there was a workable alternative to the 

present border tax adjustment rules. Instead, the Commission said that the U.S. needed to 

improve its balance of payments situation. 

In summary, we believe that major changes in national tax systems 

can have significant balance-of-trade and payments effects. 

However, we do not believe that a realistic alternative to present 

international trade rules relating to internal taxation can be 

devised to cope with these problems. Primary reliance must be 

placed on an improved balance-of-payments adjustment process. 

In addition, the United States should make maximum use of the 

reporting and consultation procedures recently established in 

OECD and GATT in order to explore specific ways of minimizing 

adverse trade effects of contemplated tax changes. 119

L. 1968-73 – Reflections of U.S. Business Concerns 

Regarding the Trade Disadvantages Resulting from 

GATT Rules on Border Tax Adjustments

In the United States, concern about the adverse trade effects of 

border tax adjustments has been mounting steadily, not only in the

Executive Branch of the government but in industry and the 

Congress as well.120

Throughout the late 1960s and into the early 1970s, U.S. business repeatedly expressed to 

Congress their concern that the GATT rules on border tax adjustments and the increasing use of 

adjustable indirect taxes in the EC as well as other countries were resulting in a growing trade 

disadvantage for U.S. businesses, as well as diminishing the value of negotiated tariff reductions. 

U.S. business groups urged the U.S. to negotiate changes in the GATT rules applicable to border 

 

119 United States International Economic Policy In An Interdependent World: Report to the President submitted by 

the Commission on International Trade and Investment Policy (July 1971, Washington, D.C.) at 107 (emphasis 

in original). 120 John R. Petty, Assistant Secretary of Treasury for International Affairs, Paper prepared for the Twenty-first 

Annual Conference of the Canadian Tax Foundation (November 20, 1968), reprinted in Appendix (at 124) to 

Brief of Petitioner Zenith Radio Corporation in Zenith Radio Corp. v. United States, U.S. Supreme Court 

Appeal No. 77-539, filed March 23, 1978.
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tax adjustments and also suggested a variety of actions that the U.S. should consider taking to 

address the trade disadvantages, including imposing import charges, export rebates and adoption 

of a U.S. value-added tax. The following provides a representative sampling of such concerns 

and proposals over the 1968-73 period. 

Statement of the Committee on Commercial Policy, U.S. Council of the International Chamber of 

Commerce, Inc.: 

All countries impose some nontariff barriers, but businessmen and Government officials alike 

tend to be conscious only of those imposed by other governments. For example, U.S. 

businessmen are considerably, and we think justifiably, concerned over the border tax 

adjustment system used by the EEC countries as well as others. . . . The amount of net 

disadvantage to outside competitors resulting from longstanding border tax adjustments is a 

matter for debate on economic grounds, and the EEC countries generally deny that there is any 

such disadvantage. But there can be no question that the recent and expected adoption by other 

EEC countries of high-rate value-added taxes comparable to those of France will create a 

substantial disadvantage to U.S. producers.121

Statement of the Manufacturing Chemists’ Association, Inc.: 

Taxation systems and particularly border tax adjustments are important cost considerations 

affecting trade. . . . The intended harmonization of border taxes along the lines of a value added 

tax system used by France at a figure of 10 to 15 percent has raised many questions regarding the 

additional effect on imports into and exports from the EEC and its compliance with the GATT 

rules. Accordingly, it is pertinent and of major importance to consider the effect which taxes can 

have in enabling the American exporter to compete in world markets and particularly in the 

EEC. . . . It is essential that the United States urge renegotiating that part of the GATT rules 

which forms the basis for treating direct and indirect taxes differently so that an effective export 

incentive can be accorded to U.S. manufacturers and to insure that tax systems do not 

discriminate against U.S. exports.122

Statement of the Synthetic Organic Chemical Manufacturers Association (“SOCMA”):

Border taxes. -- Increased border taxes in most Common Market countries will substantially 

offset the tariff reductions made in the Kennedy Round. The imposition of these taxes on 

imports and the rebate of turnover taxes on exports provides these countries with an unfair 

competitive advantage over the United States and other income tax base countries which are not 

permitted by the GATT to collect such taxes or provide such rebates. The U.S. countervailing 

duty statute should be enforced until our trading partners agree to an acceptable revision of the 

 

121 Senate Finance Committee, Compendium of Papers on Legislative Oversight Review of U.S. Trade Polices, 

90th Cong., 2nd Sess., Vol. 2, at 463-464 (1968) (Statement of the Committee on Commercial Policy, U.S. 

Council of the International Chamber of Commerce, Inc.). 

122 Senate Finance Committee, Compendium of Papers on Legislative Oversight Review of U.S. Trade Polices, 

90th Cong., 2nd Sess., Vol. 2, at 475-476 (1968) (Statement of the Manufacturing Chemists' Association, Inc.). 
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GATT to provide fair and equitable treatment which does not discriminate against countries with 

an income tax system.123

Moreover, SOCMA pointed out that while tariffs were reduced by the Kennedy Round, EEC border taxes 

were actually being raised, with the result that “the average cost of entry into the EEC for U.S. goods will 

be higher after the Kennedy round reductions than before.”124

We believe that the inequities resulting from the distinction made by article VI of the GATT 

between direct-indirect methods of taxation can and must be cured if we are to obtain any benefit 

at all from our past tariff reductions. We simply cannot permit our trading partners to offset 

even in part via border taxes whatever benefits we might otherwise have obtained from the tariff 

reductions they have made or to expand the value of our tariff reductions by increasing border 

tax rebates.125

Statement of Dr. Harry P. Guenther, Dean, Georgetown University, School of Business Administration: 

In the European Economic Community (EEC), tariffs have not been the only barriers to trade 

recently subject to revision and tariffs are a relatively smaller part of the barrier to trade than is 

true of the United States. Because of the border tax mechanism, allowing charges to be levied on 

imports equivalent to domestic indirect taxes (and the tax is applied to c.i.f. value and the tariff 

to landed value including the tax), U.S. exports face a significant barrier in addition to the tariff. 

Thus, tariff cuts or removal are of less relative significance to EEC countries than to the United 

States.126

Like SOCMA, Dr. Guenther also pointed out that the Kennedy Round tariff cuts removed a greater 

portion of U.S. barriers than those for EEC countries because the tariff cuts in the EEC were “offset due 

to border tax harmonization.”127

Statement of Dr. Lewis E. Lloyd, Economist, the Dow Chemical Co.: 

The use of turnover, value-added or cascade consumption taxes and special surcharges in some 

EEC countries are another potent non-tariff barrier. 

In moving to harmonize the taxes on business within the EEC, several countries are adding or 

adjusting their value-added tax. This becomes significant, because whereas the total tax against 

 123 Senate Finance Committee, Compendium of Papers on Legislative Oversight Review of U.S. Trade Polices, 

90th Cong., 2nd Sess., Vol. 2, at 479 (1968) (Statement of the Synthetic Organic Chemical Manufacturers 

Association). 124 Senate Finance Committee, Compendium of Papers on Legislative Oversight Review of U.S. Trade Polices, 

90th Cong., 2nd Sess., Vol. 2, at 494 (1968) (Statement of the Synthetic Organic Chemical Manufacturers 

Association). 

125 Senate Finance Committee, Compendium of Papers on Legislative Oversight Review of U.S. Trade Polices, 

90th Cong., 2nd Sess., Vol. 2, at 495 (1968) (Statement of the Synthetic Organic Chemical Manufacturers 

Association). 

126 Senate Finance Committee, Compendium of Papers on Legislative Oversight Review of U.S. Trade Polices, 

90th Cong., 2nd Sess., Vol. 2, at 655 (1968) (Statement of Dr. Harry P. Guenther, Dean, Georgetown 

University, School of Business Administration). 

127 Senate Finance Committee, Compendium of Papers on Legislative Oversight Review of U.S. Trade Polices, 

90th Cong., 2nd Sess., Vol. 2, at 660-661 (1968) (Statement of Dr. Harry P. Guenther, Dean, Georgetown 

University, School of Business Administration). 
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business in Europe does not differ greatly from ours, in most countries half or more of the 

corporate tax is in the form of a value-added or turnover tax, whereas most of our corporate tax 

is profits tax. When we ship to Germany, we will already have paid income tax on the total 

income, and will in addition have to pay a border tax equal to the turnover tax that would have 

been paid if the product had been made in Germany; so the total tax on exports from the United 

States to Germany will be considerably higher than on German production. 

By contrast, when a firm in Germany or a number of other European countries ships to the 

United States, the value-added or turnover tax is refunded. Thus, the tax on a U.S. export sold in 

Germany may be twice as much as the tax that a German producer pays on exports to the United 

States. This is one example which shows how taxing differences can affect international 

trade.128

Manufacturing Chemists' Association: 

Action should be taken by the United States to effect removal by our trading partners of border 

taxes and other nonprofit barriers. In 1963, this industry described European border taxes to the 

Department of Commerce as nontariff barriers affecting trade. In February 1966, after a year of 

survey and study, the industry provided the Office of the Special Trade Representative a detailed

study on the effect of European indirect tax system on U.S. chemical exports. Before the 

conclusion of the Kennedy round in February 1967, the chemical industry provided another 

updated report to emphasize the expected impact of rising border taxes in the EEC. It was 

unfortunate and a mistake, we believe, that border taxes were not dealt with in the Kennedy 

round. The chemical industry believes that the United States could impose a border tax 

equivalent to the sum of indirect taxes imposed on U.S. manufacturers (both Federal and State), 

and rebate such taxes on exports. Secondly, an attempt should be made to have the GATT rules 

amended to allow for rebates on direct taxes as well as indirect taxes. 

Perhaps a temporary surcharge should be placed on imports. This impediment would be 

understood by the other countries of the world as a temporary expedient to solve a serious 

balance-of-payments problem.129

Synthetic Organic Chemical Manufacturers Association: 

The unreciprocal chemical deals were made still more unreciprocal by the border tax-export 

rebate mechanisms employed by most of our principal European trading partners. While we 

were agreeing to reduce substantially our entire barrier to their exports (tariffs), they were 

agreeing .to lesser reductions in their tariffs, which are only a portion of their barrier to our 

exports. They made no reduction at all on their border taxes, the other significant part of their 

overall trade barrier. 

As if this were not enough, our negotiators knew at the time they agreed to these deals that most 

of the Common Market countries would be raising their border taxes by more than they were 

agreeing to lower their tariffs, The end result was that their total barrier to our trade—tariff plus 

border taxes—will be higher after the entire Kennedy round reduction than before the Kennedy 

round began. 

 128 Senate Finance Committee, Compendium of Papers on Legislative Oversight Review of U.S. Trade Polices, 

90th Cong., 2nd Sess., Vol. 2, at 695 (1968) (Statement of Dr. Lewis E. Lloyd, Economist, Dow Chemical Co.). 

129 Foreign Trade and Tariff Proposals: Hearings Before the House Ways and Means Committee, 90th Cong., 2d 

Sess., Part 11, at 5778 (1968) (summary of testimony contained in Part 10 at pages 4484-4504). 
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To eliminate these disadvantages we propose the United States act promptly to adopt its own 

border tax. The Government witnesses recognize that it would be legal for the United States, 

even under existing interpretations of the GATT, to adopt a border tax. If it is reasonable for 

imports into Europe to bear the burden of indirect taxes, it is equally reasonable, and indeed 

imperative, for imports into the United States to bear this burden. Similarly, if it is reasonable 

for Europeans to rebate or exonerate their producers from these indirect taxes to stimulate 

exports, it is equally reasonable and again imperative, for the United States to do this, too. This 

first step will not eliminate our entire disadvantage, but it will be a needed first step in the right 

direction. 

We should also continue to press for immediate action in the GATT to remove the remainder of 

the disadvantage to our trade caused by the discriminatory interpretations currently placed on the 

GATT rules, letting it be known that if cooperative action is not forthcoming promptly, we will 

have to take the unilateral action necessary to fully remove the remainder of the disadvantage to 

our trade.130

Synthetic Organic Chemical Manufacturers Association and Dry Color Manufacturers Association: 

Long drawn-out negotiations on border taxes is no answer. In the domestic market and in third 

countries, we simply cannot bear the 10-to 15-percent handicap which results from foreign 

export rebates and expect to remain competitive. Similarly, our exports cannot bear a 10-to 15-

percent border tax handicap and expect to remain competitive. We recommend: 

(1) Immediate imposition of a U.S. border tax and export rebate to the full extent permitted 

under the GATT rules (total amount of indirect taxes imposed on U.S. products). 

(2) Enforcement of U.S. countervailing duties statute against all imports which receive the 

benefit of a turnover tax rebate or any other subsidy. 

(3) Immediate reconsideration of the inequitable interpretation of GATT rules in order to 

provide fair and equitable treatment for countries with an income tax system.131

Manmade Fiber Producers Association, Inc.: 

Foreign border taxes paid on behalf of U.S. exporters should be allowed as a direct credit against 

their income tax liability. 

There is a distinction between the proposals that the United States subsidize its exports by 

remission of its own taxes and this proposal which would allow a tax credit to a U.S. exporter in 

respect to foreign border taxes that had to be paid to get his goods into that country.132

 130 Foreign Trade and Tariff Proposals: Hearings Before the House Ways and Means Committee, 90th Cong., 2d 

Sess., Part 11, at 5778-79 (1968) (summary of testimony contained in Part 10 at pages 4504-4511). 

131 Foreign Trade and Tariff Proposals: Hearings Before the House Ways and Means Committee, 90th Cong., 2d 

Sess., Part 11, at 5779 (1968) (summary of testimony contained in Part 10 at pages 4512-4590). 

132 Foreign Trade and Tariff Proposals: Hearings Before the House Ways and Means Committee, 90th Cong., 2d 

Sess., Part 11, at 5779 (1968) (summary of testimony contained in Part 6 at pages 2464-2490). 

This proposal to allow a tax credit to U.S. exporters was further explained by Eugene L. Stewart, Counsel to the 

MFPA: “In this sense we are not subsidizing our exports by remission of our taxes, but we are recognizing that 

a foreign country’s border taxes are a barrier to our getting into that country and by this method of a tax credit 

we have a system, as it were, of automatic countervailing measures to offset their unfair border taxes.” Foreign 
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E.I. duPont de Nemours & Co.: 

Although details may be lacking, it is clear that U.S. industry is competitively disadvantaged by 

the recent changes in the border tax systems in Europe. We believe the United States should 

impose a border tax on imports equivalent to the amount of indirect taxes borne by U.S. 

manufacturers. Further, all goods exported from the United States should be relieved of the 

indirect tax burden by an export tax rebate.133

Tanners’ Council of America, Inc.: 

The system of border taxes and remission of internal turnover taxes in Western Europe has long 

been a thorn in the side of fair trade or competition.134

National Machine Tool Builders' Association (NMTBA): 

In many major markets, U.S. machine tool exports are exposed to nontariff border taxes. These 

include a "value added" tax of 20 percent in France, a 10-percent equalization tax in Germany, 

and in Italy a 4-percent duty and a 7.5-percent compensatory import tax.135

American Textile Manufacturers Institute, American Yarn Spinners Association, the Cordage Institute, 

the National Association of Wool Manufacturers, the National Knitwear Manufacturers Association; and 

the Northern Textile Association: 

In West Europe, the chief nontariff trade barrier facing American textile exports is the border 

tax. The range of rates from country to country and among textile products is wide—2.4 to 20 

percent—however, in each case the tax is levied on the cost, insurance, and freight duty-paid 

value-thereby greatly increasing the effective tax harrier.136

National Shoeboard Conference: 

Border taxes—and other nontariff charges—burden U.S. exports to an extent impossible to 

overcome. In cases where the formal tariffs were reduced as much as 50 percent in the Kennedy 

 Trade and Tariff Proposals: Hearings Before the House Ways and Means Committee, 90th Cong., 2d Sess., 

Part 6, at 2489 (1968). 

133 Foreign Trade and Tariff Proposals: Hearings Before the House Ways and Means Committee, 90th Cong., 2d 

Sess., Part 11, at 5779 (1968) (summary of testimony contained in Part 10 at pages 4596-4615). 

134 Foreign Trade and Tariff Proposals: Hearings Before the House Ways and Means Committee, 90th Cong., 2d 

Sess., Part 11, at 5780 (1968) (summary of testimony contained in Part 9 at pages 4082-4089). 135 Foreign Trade and Tariff Proposals: Hearings Before the House Ways and Means Committee, 90th Cong., 2d 

Sess., Part 11, at 5780 (1968) (summary of testimony contained in Part 7 at pages 2845-2969). 

136 Foreign Trade and Tariff Proposals: Hearings Before the House Ways and Means Committee, 90th Cong., 2d 

Sess., Part 11, at 5780 (1968) (summary of testimony contained in Part 6 at pages 2360-2405). 
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round, the continuation of the nontariff charges precludes any benefit to be derived from the 

tariff reduction. A border tax could be imposed on U.S. imports to offset foreign border tax 

systems.137

Committee for Economic Development: 

The United States can take positive, constructive action by moving toward the elimination of 

nontariff barriers and subsidies that are obstacles to trade and distort the patterns of trade. U.S. 

producers are more adversely affected by nontariff barriers than are producers in our competing 

industrial countries. Probably the type of nontariff measure that has disturbed the American 

business community most of all is the border tax, which unquestionably results in some 

discrimination against producers in the United States. It may well he that the best first step 

toward negotiations to limit the trade-distorting effects of border taxes would be for the United 

States to exercise its right to have a general value-added tax of its own. The Committee for 

Economic Development recommends that such a tax be substituted for part of the present 

corporate income tax at the time when the tax structure is being reconsidered.138

Caterpillar Tractor Co.: 

Extensive use of border taxes abroad (uplift; equalization, and value added taxes) is having a 

retarding-effect on U.S: exports. There should be discussions under the GATT aimed at 

eliminating these trade barriers.139

First National City Bank: 

In the past, the United States has been inclined to accept other countries nontariff barriers. If this 

was understandable and even justifiable in the early postwar years; it is no longer so today. The 

United States should act aggressively, by every legal means, against other countries nontariff 

barriers which hurt our exports. 

We should attack specific barriers, one at a time, by means tailored to the particular objective. 

Strong U.S. action is also needed on European border taxes. For example, the United States 

might take the position that the GATT rule on border taxes should not be used to justify 

increases in border tax adjustments by countries with persistent balance-of-payments surpluses. 

If no reasonable agreement can be reached, the United States should be prepared to use 

countervailing duties in cases where border adjustments are increased in such a way as to thwart 

the balance-of-payments adjustment process.140

 137 Foreign Trade and Tariff Proposals: Hearings Before the House Ways and Means Committee, 90th Cong., 2d 

Sess., Part 11, at 5780 (1968) (summary of testimony contained in Part 9 at pages 4124-4130). 

138 Foreign Trade and Tariff Proposals: Hearings Before the House Ways and Means Committee, 90th Cong., 2d 

Sess., Part 11, at 5780 (1968) (summary of testimony contained in Part 3 at pages 1225-1233). 

139 Foreign Trade and Tariff Proposals: Hearings Before the House Ways and Means Committee, 90th Cong., 2d 

Sess., Part 11, at 5781 (1968) (summary of testimony contained in Part 3 at pages 1035-1039). 

140 Foreign Trade and Tariff Proposals: Hearings Before the House Ways and Means Committee, 90th Cong., 2d 

Sess., Part 11, at 5781 (1968) (summary of testimony contained in Part 4 at pages 1810-1823). 
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Synthetic Organic Chemical Manufacturers Association (“SOCMA”) and Dry Color Manufacturers 

Association (“DCMA”): 

The associations asserted: The border tax-export rebate device, permissible under GATT and

used by many of our trading partners, is one of the major nontariff barriers affecting our trade. 

Reform of GATT should be a major objective of the forthcoming negotiations and a solution to 

this border tax problem should receive high priority.141

SOCMA and DCMA proposed the following: 

We are not proposing that any of our trading partners change their tax laws. The tax burden their 

people will bear and the expenditure of tax revenues is their concern. 

What we are proposing is that the trade distorting nature of this border tax export rebate system 

be recognized and dealt with affirmatively. There are several courses of action which should be 

explored. 

First, GATT could be amended to permit countries which primarily rely upon direct taxes to 

adjust for such taxes in the same manner as countries as countries which primarily rely on 

indirect taxes are now permitted to do. 

Second, GATT could be amended to permit all countries to adjust for both direct and indirect 

taxes at the border. These two alternatives would involve the use of complicated formula to 

determine the appropriate border adjustment for each country. 

The simplest and third solution would be for the GATT to be made neutral on indirect taxes as it 

now is on direct taxes. Thus, neither direct nor indirect taxes would be assessed at the border nor 

rebated on exports. . . . 

The border tax problem is urgent. We ask the committee to address it. The VAT is becoming 

more and more widespread. Unless something is done its harmful effect on trade will grow and 

further concessions by our trading partners will be cancelled or offset by increase in VAT or 

increased views of VAT.142

Magnavox Co.: 

The company contended: . . . The rebate of indirect taxes should be named in the TRA of 1973 

as a bounty or grant subject to countervailing duty.143

 

141 Trade Reform: Hearings before the House Ways and Means Committee on H.R. 6767, The Trade Reform Act 

of 1973, 93rd Cong., 1st Sess., Part 15, at 5239 (1973) (summary of testimony contained in Part 6 at pages 

1704-1734). 

142 Trade Reform: Hearings before the House Ways and Means Committee on H.R. 6767, The Trade Reform Act 

of 1973, 93rd Cong., 1st Sess., Part 15, at 5239 (1973) (summary of testimony contained in Part 6 at pages 

1704-1734). 

143 Trade Reform: Hearings before the House Ways and Means Committee on H.R. 6767, The Trade Reform Act 

of 1973, 93rd Cong., 1st Sess., Part 6, at 1733 (1973) (testimony of Robert C. Barnard, counsel to Dry Color 

Manufacturers Association). 
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M. Trade Act of 1974 – For the Tokyo Round, Congress 

Identifies Reform of Border Tax Adjustment Rules as a 

U.S. Negotiating Objective

As noted above, the Williams Commission did not recommend specific action to address 

the GATT rules on border tax adjustments. However, one of the Commission’s basic 

recommendations was that the U.S. government should initiate a major new round of trade 

negotiations. 

The Commission believes that the time has come to begin 

immediately a major series of international negotiations: 

-- to cope effectively with urgent international economic 

problems; and 

-- to prepare the way for the elimination of all barriers to 

international trade and capital movements within 25 years. 

The negotiations should be launched at the highest political level 

through a joint initiative by the United States, Western Europe, and 

Japan.144

The Williams Commission’s call for new trade negotiations was influential in laying the ground 

for the Tokyo Round of GATT trade negotiations that was launched in 1974. 

In preparations for the Tokyo Round, Congress developed and set out the negotiating 

objectives for the United States. In the Trade Act of 1974, Congress identified the reform of the 

GATT border tax adjustment rules as a negotiating objective. 

Sec. 121. Steps to be taken toward GATT revisions; authorization 

of appropriations for GATT. 

(a) The President shall, as soon as practicable, take such action 

as may be necessary to bring trade agreements heretofore entered 

into, and the application thereof, into conformity with principles

 

144 United States International Economic Policy In An Interdependent World: Report to the President submitted by 

the Commission on International Trade and Investment Policy (July 1971, Washington, D.C.) at 10. 
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promoting the development of an open, nondiscriminatory, and fair 

world economic system. The action and principles referred to in 

the preceding sentence include, but are not limited to, the 

following – 

* * * 

(5) the revision of GATT articles with respect to the 

treatment of border adjustments for international taxes to 

redress the disadvantage to countries relying primarily on 

direct rather than indirect taxes for revenue needs.145

The House report explained the purpose of this negotiating objective. 

Section 121 of the bill directs the President to take action to bring 

trade agreements previously entered into in conformity with 

principles promoting the development of open, nondiscriminatory 

trade and commerce. Such action is to include, but is not limited 

to, ... the revision of GATT articles with respect to the treatment 

of border adjustments for internal taxes, .... 

* * * 

Your committee also believes that GATT provisions on tax 

adjustments in international trade should be revised to ensure that 

they will be trade neutral. Present provisions permit adjustments 

on traded goods for certain indirect taxes but not for direct taxes. 

The committee expects that the President will seek such 

modification of present rules as would remove any disadvantage to 

countries like the United States relying primarily on direct taxes 

and put all countries on an equal footing.146

In the Tokyo Round, the United States sought, but was unsuccessful in achieving its 

negotiating objective of reforming GATT rules relating to border tax adjustments. In the initial 

stages of the Tokyo Round, the rebate of indirect taxes was a “high-profile issue” as the United 

States tried to establish a link between countervailing duties and rebates of indirect taxes.147 For

 

145 Trade Act of 1974, Section 121, Pub.. L. 93-618, 88 Stat. 1978, 1986; 19 U.S.C. § 2131. 

146 House Rep. No. 93-571, 93d Cong., 1st Sess. 6, 27 (1973); see also the corresponding Senate report, S. Rep. No. 

93-1298, 93d Cong., 2d Sess. 19, 23-24, 84 (1974). 

147 See, e.g., Gilbert R. Winham, International Trade and the Tokyo Round Negotiation (Princeton University 

Press, 1986) at 171. 
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example, in a submission to the negotiating subgroup on subsidies and countervailing duties 

regarding problems encountered in the areas of subsidies and countervailing duties, the United 

States noted: 

Tax practices

Current GATT rules on subsidies and countervailing duties have 

specific provisions that deal with various tax practices. The United 

States believes that new rules on subsidies and countervailing 

duties must also contain provisions that deal with the impact of 

varying tax practices on international trade.148

The U.S. effort met resistance and consequently fell short. As noted by one 

commentator, U.S. efforts were half-hearted and not aggressively pursued. 

In response to this congressional directive the U.S. negotiators 

raised the question in a perfunctory way, but “as soon as the 

negotiators were seriously under way, the insistence of the United 

States that the direct tax/indirect tax rule be changed was quietly 

dropped” because the U.S. negotiators believed that it was so 

deeply rooted in the tax laws of other countries that it was by then 

nonnegotiable.149

Another historian summarized the situation as follows: 

 

148 Subsidies and Countervailing Duties, Submission of the United States, MTN/NTM/W/43/Add.6 (31 May 1976) 

at 5. 

149 Bruce E. Clubb, United States Foreign Trade Law, Vol. 1, at 475-76 (1991), citing and quoting Richard R. 

Rivers & John D. Greenwald, The Negotiation of a Code on Subsidies and Countervailing Measures: Bridging 

Fundamental Policy Differences, 11 LAW & POL'Y INT'L BUS 1447, 1458 (1979). Rivers & Greenwald noted: 

Whatever the merits of the U.S. case in economic terms (and there is a good body of opinion 

to the effect that the basis for the GATT distinction is artificial), the whole question was a 

nonissue because it was nonnegotiable. In broad terms, only two solutions were possible. 

Either the rebate of direct taxes would be permitted, and this would have made a mockery of 

the notion of tighter disciplines over subsidies, or the rebate or remission of indirect taxes 

would have to be prohibited or limited. But no country was about to agree to a major 

overhaul of its domestic tax structure in order to satisfy U.S. negotiating objectives in the 

MTN. 

Id. 
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The U.S. attempt to negotiate indirect-tax rebates and border taxes 

in connection with countervailing duties got nowhere in the Tokyo 

Round. For the EC and others, it was a nonnegotiable issue 

because it would have required nothing less of national 

governments than to alter their domestic tax structures 

fundamentally in order to accommodate trade with one other 

country. The matter was effectively put to rest by a ruling of the 

U.S. Supreme Court in the Zenith case in June 1978. The Zenith 

Corporation had requested the Court to rule that indirect-tax 

rebates on imported electronic products constituted a foreign 

subsidy for the purpose of U.S. countervail legislation, which 

would have required that countervailing duties be levied on these 

products. The Court rejected this interpretation. Had the case 

gone the other way, the implications would have been enormous, 

and according to a published estimate of U.S. Treasury officials it 

would effectively have increased U.S. protectionism by more than 

it had been reduced during the entire history of the GATT.150 151

 

150 See, e.g., Gilbert R. Winham, International Trade and the Tokyo Round Negotiation (Princeton University 

Press, 1986) at 171 n. 3. 151 In the Zenith case, the U.S. Customs Court had found that the remission of the Japanese Commodity Tax on a 

number of consumer electronic products exported from Japan that would have been imposed had the products 

been sold within Japan bestowed a "bounty or grant" within the purview of the countervailing-duty statute. 

Zenith Radio Corp. v. United States, 430 F. Supp. 242 (Cust. Ct. 1977). The U.S. Court of Customs and Patent 

Appeals subsequently reversed the decision of the Customs Court, 562 F.2d 1209 (CCPA 1977), and the U.S. 

Supreme Court affirmed the CCPA, 437 U.S. 443 (1978). 

The decision of the Customs Court in 1977 finding that the remission of the Japanese commodity tax on certain 

exported products constituted a countervailable subsidy under U.S. law brought forth vociferous objection from 

Japan at the GATT and a Working Party was established at Japan’s request to address the issue. In making its 

request, Japan stated: 

It must be said that the ruling by the United States Customs Court and the subsequent United 

States action that is in violation of established rules, is bound to cause serious effects not only 

to exports of Japanese electronic products to the United States but to world trade in general as 

many contracting parties to GATT presently exempt exported products from internal 

consumption taxes or refund such taxes. 

United States - Suspension of Customs Liquidation Regarding Certain Japanese Consumer Electronic Products, 

Communication from Japan, L/450 (16 May 1977) at 2 (para. 4). 

In the Working Party, Japan asserted that the practice of exempting exported products from domestic 

consumption taxes was in full accord with the Articles of the GATT, in particular with Article XVI:4 and the 

note to Article XVI. Japan further argued that the imposition of countervailing duties by the U.S. on Japanese 

consumer electronic products “would constitute a prima facie case of nullification or impairment of benefits 

accruing to Japan under the General Agreement.” Report of the Working Party on the United States/Zenith 

Case, L/4508 (6 June 1977) at 2 (para. 8). 

The European Community fully supported Japan in the Working Party. 
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At the end of the Tokyo Round in 1979, not only had the U.S. failed to have the issue of 

border tax adjustments taken up and addressed,152 but the Tokyo Round adopted a plurilateral 

Subsidies Code (to which the U.S. was a signatory) that included an Illustrative List of Export 

Subsidies, as well as definitions of direct and indirect taxes.153 The Subsidies Code Illustrative 

List basically incorporated and expanded on the list of export subsidies identified in the 1960 

GATT Working Party Report. 

1960 Working Party Illustrative List 1979 Subsidies Code Illustrative List 

(c) The remission, calculated in relation to 

exports, of direct taxes or social welfare 

charges on industrial or commercial 

enterprises. 

(e) The full or partial exemption, remission, or 

deferral specifically related to exports, of direct taxes 

or social welfare charges paid or payable by 

industrial or commercial enterprises. 

(g) The exemption or remission in respect of the 

production and distribution of exported products, of 

indirect taxes in excess of those levied in respect of 

the production and distribution of like products when 

sold for domestic consumption. 

(d) The exemption, in respect of exported 

goods, of charges or taxes, other than 

charges in connexion with importation or 

indirect taxes levied at one or several stages 

on the same goods if sold for internal 

consumption; or the payment, in respect of 

exported goods, of amounts exceeding those 

effectively levied at one or several stages on 

these goods in the form of indirect taxes or 

of charges in connexion with importation or 

in both forms. 

(h) The exemption, remission or deferral of prior 

stage cumulative indirect taxes on goods or services 

used in the production of exported products in excess 

of the exemption, remission or deferral of like prior 

stage cumulative indirect taxes on goods or services 

used in the production of like products when sold for 

domestic consumption; provided, however, that prior 

stage cumulative indirect taxes may be exempted, 

 In support of the view that the rebates of the commodity taxes were consistent with GATT 

provisions he {i.e., the EC representative} quoted excerpts from the United States 

Administration Brief to the Court of Customs and Patent Appeals to the effect that the United 

States Treasury had since 1898 followed an interpretation that remission of such taxes was not 

countervailable and believed that this view was consistent with international rules. If the 

Court’s decision were upheld, the resulting situation would, in his view, underline the 

disequilibrium existing between the obligations of contracting parties in this area. 

Report of the Working Party on the United States/Zenith Case, L/4508 (6 June 1977) at 3 (para. 11). 

152 One observer noted: “Issues relating to subsidization through tax systems were not systematically examined in 

the Tokyo Round.” Rodney deC. Grey, Some Notes on Subsidies and the International Rules, included in 

Interface Three: Legal Treatment of Domestic Subsidies (1984) at 66. 

153 GATT, Agreement on Interpretation and Application of Articles VI, XVI And XXII of the General Agreement 

on Tariffs and Trade (1979) (“Subsidies Code”). 
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1960 Working Party Illustrative List 1979 Subsidies Code Illustrative List 

remitted or deferred on exported products even when 

not exempted, remitted or deferred on like products 

when sold for domestic consumption, if the prior 

stage cumulative indirect taxes are levied on goods 

that are physically incorporated (making normal 

allowance for waste) in the exported product. 

With respect to item (h) of the 1979 List above, it was noted that “paragraph (h) does not apply 

to value-added tax systems and border-tax adjustment in lieu thereof; the problem of the excessive 

remission of value-added taxes is exclusively covered by paragraph (g).”

154

In addition, note 1 to the 1979 Subsidies Code Illustrative List contained definitions of 

direct and indirect taxes and other relevant terms: 

For the purpose of this Agreement: 

The term “direct taxes” shall mean taxes on wages, profits, 

interest, rents, royalties, and all other forms of income, and taxes 

on the ownership of real property; 

The term "import charges" shall mean tariffs, duties, and other 

fiscal charges not elsewhere enumerated in this note that are levied 

on imports; 

The term “indirect taxes” shall mean sales, excise, turnover, 

value added, franchise, stamp, transfer, inventory and equipment 

taxes, border taxes and all taxes other than direct taxes and import 

charges; 

"Prior stage" indirect taxes are those levied on goods or services 

used directly or indirectly in making the product; 

"Cumulative" indirect taxes are multi-staged taxes levied where 

there is no mechanism for subsequent crediting of the tax if the 

goods or services subject to tax at one stage of production are used 

in a succeeding stage of production; 

“Remission” of taxes includes the refund or rebate of taxes.155

 

154 1979 Subsidies Code, Annex - Illustrative List of Export Subsidies, at Note 3. 

155 1979 Subsidies Code, Annex - Illustrative List of Export Subsidies, at Note 1. 
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Thus, the Tokyo Round resulted in the reaffirmation of both the existing prohibition of 

exemption and remission of direct taxes for exports and the allowance of exemption and 

remission of indirect taxes for exports. 

N. Omnibus Trade and Competitiveness Act of 1988 – For 

the Uruguay Round, Congress Again Identifies Revision 

of Border Tax Adjustment Rules as a U.S. Negotiating 

Objective

Although previous U.S. efforts to change the GATT border tax adjustment rules (e.g., the 

1968-70 GATT Working Party and the Tokyo Round), in establishing trade negotiating 

objectives for the Uruguay Round negotiations, Congress again listed border tax reform as a 

negotiating goal. In the Omnibus Trade and Competitiveness Act of 1988, Congress identified 

“border taxes” as one of the principal negotiation objectives of the U.S., stating: 

Border Taxes.—The principal negotiating objective of the United 

States regarding border taxes is to obtain a revision of the GATT 

with respect to the treatment of border adjustments for internal 

taxes to redress the disadvantage to countries relying primarily for 

revenue on direct taxes rather than indirect taxes.156

Explaining the purpose of the border tax objective in the context of improving the GATT 

Agreement, the Senate Finance report noted that it was renewing a trade objective first set out in 

the Trade Act of 1974: 

Improvement of GATT 

Section 105(b)(2) contains a number of specific objectives with the 

aim of bringing existing trade agreements, including the 

application and enforcement of those agreements, into conformity 

with principles promoting the development of an open,

 

156 Omnibus Trade and Competitiveness Act of 1988, Pub. L. 100-418, Title I, Sec. 1101, Aug. 23, 1988, 102 Stat. 

1121; 19 U.S.C. § 2901(b)(16). 
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nondiscriminatory, and fair world trading system. These include, 

but are not limited to, the following: 

* * * 

(12) Border tax adjustments.—This provision renews a 

provision of the 1974 Trade Act calling for the revision of the 

GATT with respect to the treatment of border adjustments for 

internal taxes to redress the disadvantage to countries relying 

primarily for revenue on direct taxes, such as income taxes, rather 

than on indirect taxes, such as value-added taxes. The Committee 

believes that GATT provisions on tax adjustments in international 

trade should be revised to assure that they will be trade neutral. 

Present provisions permit adjustments on traded goods for certain 

indirect taxes but not for direct taxes. To the extent that indirect 

taxes are not fully passed through to the consumer in the country of 

manufacture, the remission of the full amount of assessed indirect 

taxes on exportation constitutes an unfair advantage to those who 

export. Similarly, absent the unlikely event of a full pass-through 

of tax, the imposition of an indirect tax on imports constitutes an 

additional and unfair burden on those who export to that country. 

American exporters, for example would have to absorb another 

nation’s indirect taxes as well as our nation’s direct taxes. The 

Committee expects that the President will seek such modification 

of present rules as would remove any disadvantage to countries 

like the United States relying primarily on direct taxes and put all 

countries on an equal footing.157

The issue of border tax adjustments was proposed for negotiations at the Uruguay Round. 

The Secretariat’s checklist of issues for negotiation described this proposal: 

There is growing doubt in some quarters that the Code’s treatment 

of border tax adjustments (that is, the assumption that nonexcessive remission of indirect taxes on exported products is tradeneutral) reflects the true economic effect of such adjustments. 

Accordingly, the Agreement’s current treatment of this practice 

should be re-examined.158

 

157 Senate Report No. 100-71, 100th Cong., 1st Sess. 39-41 (1987). 

158 Negotiating Group on Subsidies and Countervailing Measures, Checklist of Issues for Negotiations, Note by the 

Secretariat, MTN.GNG/NG10/W/9/Rev.4 (12 December 1988) at 24. 
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Despite being identified by Congress as a U.S. negotiating objective in the Uruguay 

Round and despite being raised at the negotiations, the U.S. did not achieve a revision of the 

GATT rules regarding border tax adjustments. In fact, one of the Uruguay Round agreements 

was the Agreement on Subsidies and Countervailing Measures (ASCM), which revised and 

replaced the 1979 Subsidies Code. Like the 1979 Subsidies Code, the ASCM contained an 

Illustrative List of Export Subsidies. This list was basically the same illustrative list carried over 

from the Subsidies Code.159 The differences are highlighted in the table below. 

1979 Subsidies Code Illustrative List 1994 SCM Agreement Illustrative List 

(e) The full or partial exemption, remission, or 

deferral specifically related to exports, of direct 

taxes or social welfare charges paid or payable 

by industrial or commercial enterprises. 

(e) The full or partial exemption, remission, or 

deferral specifically related to exports, of direct 

taxes or social welfare charges paid or payable 

by industrial or commercial enterprises. 

(g) The exemption or remission in respect of 

the production and distribution of exported 

products, of indirect taxes in excess of those 

levied in respect of the production and 

distribution of like products when sold for 

domestic consumption. 

(g) The exemption or remission in respect of 

the production and distribution of exported 

products, of indirect taxes in excess of those 

levied in respect of the production and 

distribution of like products when sold for 

domestic consumption. 

(h) The exemption, remission or deferral of 

prior stage cumulative indirect taxes on goods 

or services used in the production of exported 

products in excess of the exemption, remission 

or deferral of like prior stage cumulative 

indirect taxes on goods or services used in the 

production of like products when sold for 

domestic consumption; provided, however, that 

prior stage cumulative indirect taxes may be 

exempted, remitted or deferred on exported 

products even when not exempted, remitted or 

(h) The exemption, remission or deferral of 

prior stage cumulative indirect taxes on goods 

or services used in the production of exported 

products in excess of the exemption, remission 

or deferral of like prior stage cumulative 

indirect taxes on goods or services used in the 

production of like products when sold for 

domestic consumption; provided, however, that 

prior stage cumulative indirect taxes may be 

exempted, remitted or deferred on exported 

products even when not exempted, remitted or 

 

159 See WTO Agreement on Subsidies and Countervailing Measures, Annex I (Illustrative List of Export Subsidies) 

at paragraphs (e), (g), and (h). The SCM Illustrative List, like the Subsidies Code, also noted that “paragraph 

(h) does not apply to value-added tax systems and border-tax adjustments in lieu thereof; the problem of the 

excessive remission of value-added taxes is exclusively covered by paragraph (g).” Id. at Note 60. Annex II, 

Guidelines on Consumption of Inputs in the Production Process, was a new addition to the ASCM that was not 

previously included in the Subsidies Code. The reference in paragraph (h) to inputs consumed in the production 

process was defined as “inputs physically incorporated, energy, fuels and oil used in the production process and 

catalysts which are consumed in the course of their use to obtain the exported product.” ASCM at Note 61. 
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1979 Subsidies Code Illustrative List 1994 SCM Agreement Illustrative List 

deferred on like products when sold for 

domestic consumption, if the prior stage 

cumulative indirect taxes are levied on goods 

that are physically incorporated (making normal 

allowance for waste) in the exported product. 

deferred on like products when sold for 

domestic consumption, if the prior stage 

cumulative indirect taxes are levied on inputs 

that are consumed in the production of the 

exported product (making normal allowance for 

waste). This item shall be interpreted in 

accordance with the guidelines on consumption 

of inputs in the production process contained in 

Annex II. 

Thus, at the end of the Uruguay Round in 1994, the existing GATT/WTO rules on border tax 

adjustments had again been affirmed. 

O. Trade Act of 2002 – For the Doha Round, Congress Once 

More Identifies Reform of Border Tax Adjustment Rules 

as a U.S. Negotiating Objective

In 2002, in conjunction with the passage of “fast track” legislation and the ongoing Doha 

Round negotiations, the issue of border tax adjustments was again prominently included in the 

trade negotiating objectives established by Congress. In the Trade Act of 2002, Congress 

identified “border taxes” as a key focus for reform through trade negotiations. 

The principal negotiating objective of the United States regarding 

border taxes is to obtain a revision of the WTO rules with respect 

to the treatment of border adjustments for internal taxes to redress 

the disadvantage to countries relying primarily on direct taxes for 

revenue rather than indirect taxes.160

The Senate Finance report indicated that one purpose of this negotiating objective was to 

address the WTO Appellate Body’s finding that the U.S. tax treatment of Foreign Sales 

Corporations constituted a prohibited export subsidy and was thus inconsistent with WTO rules. 

 

160 Trade Act of 2002, Pub. L. 107-210, Div. B, Title XXI, Sec. 2102, Aug. 6, 2002, 116 Stat. 994, 1001; 19 U.S.C. 

§ 3802(b)(15). 
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The principal negotiating objective regarding border taxes directs 

negotiators to seek a revision of WTO rules that will eliminate the 

current disadvantage to countries, such as the United States, that 

rely primarily on direct taxes (such as income taxes), rather than 

indirect taxes (such as sales and value-added taxes), and that tax 

income on a worldwide rather than a territorial basis. Rulings 

adopted by the WTO Dispute Settlement Body have found that the 

WTO Agreement on Subsidies and Countervailing Measures 

prohibits provisions in the United States Internal Revenue Code 

that exempt from taxation certain income from export transactions. 

By contrast, provisions under the laws of other countries that 

exempt export sales income from indirect taxes or remit to 

exporters taxes previously imposed might not be prohibited even 

though they provide similar relief to that afforded by the Internal 

Revenue Code. 

In the matter of United States – Tax Treatment for “Foreign Sales 

Corporations,” the WTO Appellate Body recognized the sovereign 

right of every country to set its own taxation rules. At the same 

time, the Appellate Body reached decisions concerning the Foreign 

Sales Corporation provisions of the Internal Revenue Code (and, 

more recently, the Extraterritorial Income Exclusion Act of 2000 

provisions) that severely constrain the sovereign right of the 

United States to set its own rules of taxation for foreign source 

income earned in export transactions. Under the Appellate Body’s 

interpretations, it would be difficult for the United States, 

consistent with WTO rules, to maintain its ‘worldwide’ approach 

to international taxation while ensuring that U.S. producers are not 

at a competitive disadvantage compared with producers in 

jurisdictions that take a ‘territorial’ approach to international 

taxation. 

In short, WTO subsidy rules as interpreted by dispute settlement 

panels and the Appellate Body give rise to a disparity that favors 

territorial tax jurisdictions over worldwide tax jurisdictions. The 

view of the Committee is that this disparity must be corrected, in 

order to preserve the sovereign right of every country to choose its 

own rules of taxation. Accordingly, the objective on border taxes 

directs the President to pursue this correction in the recently 

launched round of WTO negotiations. It is the Committee’s 

expectation that in eliminating the existing disparity, the President 

will avoid a result that would place U.S. workers and companies
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now benefiting from the Extraterritorial Income Exclusion Act of 

2000 at a competitive disadvantage.161

At the Doha Round negotiations, in accordance with Congress’ negotiating objectives, 

the U.S. has made at least one attempt to raise the issue of border tax adjustments. The U.S. has 

raised the issue in the context of the rules negotiations and discussions about subsidy disciplines. 

In a submission, the U.S. pointed out that different tax systems have a distorting effect and create 

unfair disadvantages: 

Taxation

The Subsidies Agreement disciplines direct and indirect taxes 

differently. Under the existing Agreement, it is more likely that 

direct tax concessions related to export activity will be found to be 

export subsidies, and therefore inconsistent with the Agreement, 

than would export-related concessions on the payment of indirect 

taxes. The United States recognizes that this distinction has 

existed in the GATT/WTO subsidy rules for some time. 

Nonetheless, the United States believes that an essential part of the 

work of the Rules Group should be to work toward greater 

equalization in the treatment of various tax systems that, at least 

with regard to their subsidy-like effects, have only superficial 

differences. The current distinction risks ignoring the potential 

trade-distorting effect that certain practices involving indirect taxes 

may have on trade, and may unfairly disadvantage competitors 

operating under a direct taxation system.162

Other than this initial effort of the U.S. to engage a discussion on the border tax adjustment issue, 

it appears that no other submissions or discussions have occurred at the Doha Round on this 

issue. 

 

161 Senate Report 107-139, 107th Cong., 2d Sess. 35-36 (2002). 

162 Subsidies Disciplines Requiring Clarification and Improvement, Communication from the United States, 

TN/RL/W/78 (19 March 2003) at 4. 
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P. Multiple U.S. Efforts to Partially Compensate for the 

Inequity of GATT Border Tax Rules Have Been Thwarted 

by GATT and WTO Dispute Settlement Decisions

Although U.S. efforts over the last 40 years to revise the GATT rules on the border 

adjustability of indirect and direct taxes have not succeeded, the U.S. has repeatedly enacted 

legislation intended to relieve the tax burden on U.S. exporters and which has attempted to 

compensate, at least partially, for the inequities of the border tax adjustment rules. Each time, 

however, the U.S. legislation has been challenged at the GATT or WTO and found to be 

inconsistent with GATT/WTO rules. 

First, in 1971, Congress created the Domestic International Sales Corporation (DISC) 

through which a U.S. company could partially defer taxes on export earnings.163 The legislative 

history to the DISC indicates that one of the purposes (although not the primary purpose) of the 

DISC was to alleviate, to some degree, the competitive trade disadvantages faced by U.S. 

exporters due to the direct-indirect tax treatment disparity under GATT.164 The House Ways and 

Means Committee Report stated: 

{Y}our committee believes that it is important to provide tax 

incentives for U.S. firms to increase their exports. This is 

important not only because of its stimulative effect but also to 

remove a present disadvantage of U.S. companies engaged in 

export activities through domestic corporations. Presently, they 

are treated less favorably than those which manufacture abroad

 

163 See Revenue Act of 1971, Pub. L. No. 92-178, Title V, 85 Stat. 497 (1971). 164 See Congressional Research Service Report: A History of the Extraterritorial Income (ETI) and Foreign Sales 

Corporation (FSC) Export Tax-Benefit Controversy (November 9, 2004): “In addition to countering deferral, 

DISC was designed to offset what were perceived to be tax advantages provided by foreign countries to their 

own exporters. *** Another perceived advantage for foreigners was the ‘border tax adjustments’ provided by 

countries that make extensive use of value- added taxes (VATs).” The CRS Report is available at 

http://www.taxhistory.org/thp/readings.nsf/cf7c9c870b600b9585256df80075b9dd/d1e0dcc337b8048385256f86

0068159e?OpenDocument. 
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through the use of foreign subsidiary corporations. United States 

corporations engaging in export activities are taxed currently on 

their foreign earnings at the full U.S. corporate income tax rate 

regardless of whether these earnings are kept abroad or repatriated. 

In contrast, U.S. corporations which produce and sell abroad 

through foreign subsidiaries generally can postpone payment of 

U.S. tax on these foreign earnings so long as they are kept abroad. 

In addition, other major trading nations encourage foreign trade by 

domestic producers in one form or another. Where value added 

taxes or multistage sales taxes are used to any appreciable extent, 

the practice is to refund taxes paid by the exporter at the time of 

export and to impose these taxes on importers. In the case of 

income taxes as well, however, most of the major trading nations 

have features in their tax laws which tend to encourage exports. 

Both to provide an inducement for increasing exports and as a 

means of removing discrimination against those who export 

through U.S. corporations, your committee’s bill provide a deferral 

of tax where corporations meeting certain conditions–called 

Domestic International Sales Corporations–are used.165

The Senate Finance Committee Report provides the same statement of purposes.166

In February 1972, the European Communities requested consultations regarding the U.S. 

DISC legislation, claiming that it constituted a prohibited export subsidy under GATT Article

 

165 House Report No. 92-533, 92nd Cong., 1st Sess. (September 29, 1971), reprinted in 1971 U.S.C.C.A.N. 1825, 

1872. 166 Senate Report No. 92-437, 92nd Cong., 1st Sess. (November 9, 1971), reprinted in 1971 U.S.C.C.A.N. 1918, 

1996. 

See John H. Jackson, The Jurisprudence of International Trade: The DISC Case in GATT, 72 AM. J. INT’L L. 

747, 751, fn. 13 (1978): “The Administration justified the 1971 DISC legislation to Congress as a response to 

European border tax adjustment actions.” See also Thomas W. Anninger, DISC and GATT: International Trade 

Aspects of Bringing Deferral Home, 13 HARV. INT’L L. J. 391, 415 (1972), which notes: “Nevertheless, it is 

argued, even if DISC does violate {GATT} XVI(4) it represents a justifiable effort to compensate for the 

competitive disadvantage American products suffer in relation to the products of nations employing valueadded taxes because such taxes are subject to border adjustments whereas the United States corporate income 

tax is not.” Anninger further notes that the U.S. made this argument before the Fiscal Committee of the OECD: 

“The delegate for the United States indicated that the DISC was contemplated in the light of the fact that 

European countries were able under GATT rules to rebate taxes on export and charge them on import in respect 

of their general consumption taxes while the United States had no such general consumption taxes and was 

therefore at a disadvantage.” Id. at 415, fn. 103, citing Note on Discussion of the DISC Proposal at the 35th

Session of the Fiscal Committee, OECD, DAF/FC/70.7 (June 12, 1970). 
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XVI.167 At the same time, the United States challenged the tax systems of Belgium, France, and 

the Netherlands, claiming that their maintenance of “territorial” tax systems provided prohibited 

export subsidies insofar as they exempted sales subsidiaries located outside their territories from 

corporate income tax earned on export earnings.168 In May 1973, the consultations having been 

fruitless, both the EC and the U.S. filed formal complaints.169 In July 1973, the GATT Council 

decided to establish a single panel to examine both the EC and U.S. complaints.170 The panel, 

which issued its reports in November 1976, found that both the U.S. DISC legislation and the 

income tax practices of Belgium, France, and the Netherlands constituted export subsidies in 

contravention of GATT Article XVI:4.”171 

Following issuance of the panel reports, although the U.S. was willing to accept all four 

reports, the EC would accept only the DISC decision, and, as a result, adoption of the reports 

was blocked by both the U.S. and the EC.172 At the negotiations on the Tokyo Round Subsidies 

Code (concluded in 1979), the U.S. made a major concession by agreeing to accept the EC’s

 

167 See John H. Jackson, The Jurisprudence of International Trade: The DISC Case in GATT, 72 AM. J. INT’L L. at 

761. 

168 See John H. Jackson, The Jurisprudence of International Trade: The DISC Case in GATT, 72 AM. J. INT’L L. at 

761. 

169 See John H. Jackson, The Jurisprudence of International Trade: The DISC Case in GATT, 72 AM. J. INT’L L. at 

761; GATT, GATT Activities in 1973 (Geneva 1974) at 58-59. 

170 See United States Tax Legislation (DISC), Report of the Panel presented to the Council of Representatives on 

12 November 1976 (L/4422) at para. 1, reprinted in 23 BISD 98-114 (1977); Income Tax Practices Maintained 

by France, Report of the Panel presented to the Council of Representatives on 12 November 1976 (L/4423) at 

para. 1, reprinted in 23 BISD 114-127 (1977); Income Tax Practices Maintained by Belgium, Report of the 

Panel presented to the Council of Representatives on 12 November 1976 (L/4424) at para. 1, reprinted in 23 

BISD 127-136 (1977); Income Tax Practices Maintained by the Netherlands, Report of the Panel presented to 

the Council of Representatives on 12 November 1976 (L/4425) at para. 1, reprinted in 23 BISD 137-147 

(1977). 

171 See GATT, GATT Activities in 1976 (Geneva 1977) at 77-81; 23 BISD at 112-113, paras. 67-69, 74 (U.S.); 23 

BISD at 125-126, paras. 50-53 (France); 23 BISD at 135-136, paras. 37-40 (Belgium); 23 BISD at 145-146, 

paras. 37-40 (Netherlands). 

172 See John H. Jackson, The Jurisprudence of International Trade: The DISC Case in GATT, 72 AM. J. INT’L L. at 

777; GATT, GATT Activities in 1981 (Geneva 1982) at 52-55. 
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“territorial tax systems as applied to export sales ... provided that the United States could take 

advantage of a similar system for its own exports.”173 In 1981, following the conclusion of the 

Tokyo Round, the U.S. and the EC reached an Understanding regarding their tax legislation 

disputes and the GATT Council adopted the four panel reports subject to the Understanding.174

Second, in 1984, based on the Understanding and the Tokyo Round Subsidies Code, 

Congress repealed the DISC program and replaced it with the Foreign Sales Corporation 

(FSC).175 The FSC was intended to be functionally equivalent to the DISC but to be compatible 

with the GATT.176 The FSC was in force for 13 years before the European Communities, despite 

the 1981 Understanding, decided in 1997 to mount a challenge to the FSC at the WTO.177 Like 

the GATT panel’s finding regarding the DISC, a WTO dispute panel found in October 1999 that 

the FSC constituted a prohibited export subsidy in contravention of Article 3.1(a) of the

 

173 Gary C. Hufbauer, The Foreign Sales Corporation Drama: Reaching the Last Act?, International Economics 

Policy Brief No. PB02-10 (November 2002) at 4; available at http://www.iie.com/publications/pb/pb02-10.pdf. 174 See Tax Legislation (L/5271), reprinted in 28 BISD 114 (1982); GATT, GATT Activities in 1981 (Geneva 1982) 

at 52-55. The Understanding stated: “The Council adopts these reports on the understanding that with respect to 

these cases, and in general, economic processes (including transactions involving exported goods) located 

outside the territorial limits of the exporting country need not be subject to taxation by the exporting country 

and should not be regarded as export activities in terms of Article XVI:4 of the General Agreement. It is further 

understood that Article XVI:4 requires that arm’s-length pricing be observed, i.e., prices for goods in 

transactions between exporting enterprises and foreign buyers under their or the same control should for tax 

purposes be the prices which would be charged between independent enterprises acting at arm’s length. 

Furthermore, Article XVI:4 does not prohibit the adoption of measures to avoid double taxation of foreign 

source income.” 28 BISD 114.

175 Deficit Reduction Act of 1984, Pub. L. 98-369, Title VIII, 98 Stat. 494, 985-1003 (1984). See Gary C. 

Hufbauer, The Foreign Sales Corporation Drama: Reaching the Last Act?, International Economics Policy 

Brief No. PB02-10 (November 2002) at 4. 

176 See United States — Tax Treatment for “Foreign Sales Corporations”, Report of the Panel, WT/DS108/R (8 

October 1999) at para. 4.176. 177 See WT/DS108/1 (28 November 1997) (European Communities' request for consultations). 
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Agreement on Subsidies and Countervailing Measures.178 The Appellate Body affirmed the 

panel’s decision in February 2000.179

Third, in April 2000, the U.S. announced that, while it would comply with the WTO 

rulings regarding the FSC, it also intended to ensure that “U.S. exports are not disadvantaged in 

relation to their foreign counterparts.”180 As a replacement to the FSC, in November 2000, 

Congress enacted the Extraterritorial Income Exclusion Act (ETI).181 Immediately thereafter, the 

EC sought consultations at the WTO and subsequently challenged the ETI by requesting a WTO 

dispute panel.182 In August 2001, a WTO panel found that the ETI, like the predecessor tax 

systems DISC and FSC, was a prohibited export subsidy.183 The Appellate Body affirmed the 

ETI panel in January 2002.184

Finally, in October 2004, in response to the ETI decisions at the WTO, Congress repealed 

the ETI in the American JOBS Creation Act (JOBS Act).185 While the JOBS Act repealed the 

ETI tax benefits it also permitted certain benefits to continue over a transitional period. In 

November 2004, the EC sought consultations at the WTO regarding the U.S. law’s transition

 

178 See United States — Tax Treatment for “Foreign Sales Corporations”, Report of the Panel, WT/DS108/R (8 

October 1999) at paras. 7.130 and 8.1. 

179 See United States — Tax Treatment for “Foreign Sales Corporations”, Report of the Appellate Body, 

WT/DS108/AB/R (24 February 2000) at para. 177. 180 See Congressional Research Service Report: A History of the Extraterritorial Income (ETI) and Foreign Sales 

Corporation (FSC) Export Tax-Benefit Controversy (November 9, 2004) at fn. 27, citing U.S. Ambassador to 

the World Trade Organization Rita Hayes, as quoted in BNA Daily Tax Report, April 10, 2000, p. G-1. 

181 FSC Repeal and Extraterritorial Income Exclusion Act of 2000, Pub. L. 106-519, 114 Stat. 2423 (2000). 

182 See United States — Tax Treatment for “Foreign Sales Corporations”, Recourse to Article 21.5 of the DSU by 

the European Communities, Report of the Panel, WT/DS108/RW (20 August 2001) at para. 1.6. 

183 See United States — Tax Treatment for “Foreign Sales Corporations”, Recourse to Article 21.5 of the DSU by 

the European Communities, Report of the Panel, WT/DS108/RW (20 August 2001) at paras. 8.75 and 9.1(a). 184 See United States — Tax Treatment for “Foreign Sales Corporations”, Recourse to Article 21.5 of the DSU by 

the European Communities, Report of the Appellate Body, WT/DS108/AB/RW (14 January 2002) at para. 

256(b). 185 See American Jobs Creation Act of 2004, Pub. L. 108-357, Title I, 118 Stat. 1418, 1423-1429 (2004). 
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provisions, and in January 2005, the EC requested a panel.186 The WTO established a dispute 

panel in February 2005. In September 2005, the JOBS panel ruled that the transitional 

provisions of the JOBS Act were inconsistent with WTO rules in that they maintained the 

prohibited FSC/ETI export subsidies.187 Although the U.S. appealed the panel’s decision, the 

Appellate Body affirmed the panel in February 2006.188

Thus, all legislative attempts by the Congress to at least partially offset, through 

provision of export tax benefits, the disparities and trade disadvantages to U.S. exporters that 

flow from the border tax adjustment rules have been overturned by GATT and WTO dispute 

panels. 

III. LEGISLATIVE EFFORTS TO REFORM THE U.S. TAX SYSTEM TO ADDRESS 

THE DISCRIMINATORY TRADE EFFECTS OF THE DIFFERENTIAL 

TREATMENT OF INDIRECT AND DIRECT TAXES HAVE NOT BEEN 

SUCCESSFUL

The previous section reviewed how the differential treatment of direct and indirect taxes 

under GATT/WTO rules came about, and how such disparate treatment gradually came to be 

recognized as a major disadvantage to U.S. producers and exporters in competing with producers 

and exporters from countries that impose border-adjustable indirect taxes, such as value added 

taxes. The prior section also reviewed how the growing concerns of the U.S. Government about

 

186 See United States — Tax Treatment for “Foreign Sales Corporations”, Second Recourse to Article 21.5 of the 

DSU by the European Communities, Report of the Panel, WT/DS108/RW2 (30 September 2005) at paras. 1.7-

1.8. 

187 See United States — Tax Treatment for “Foreign Sales Corporations”, Second Recourse to Article 21.5 of the 

DSU by the European Communities, Report of the Panel, WT/DS108/RW2 (30 September 2005) at paras. 7.65 

and 8.1. 

188 See United States — Tax Treatment for “Foreign Sales Corporations”, Second Recourse to Article 21.5 of the 

DSU by the European Communities, Report of the Appellate Body, WT/DS108/AB/RW2 (13 February 2006) at 

para. 100(b). 
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the U.S. balance of payments deficit and of the business community about the negative trade 

effects of increased use of value-added taxes in Europe brought about calls to negotiate revisions 

to the GATT rules concerning the treatment of direct and indirect taxes. Recognizing that an 

alternative way to level the commercial playing field for U.S. producers and exporters would be 

to reform U.S. tax laws, many proposals have been put forward in Congress over the past thirty 

years to restructure the U.S. tax system to either wholly or partially replace non-borderadjustable income-based taxes with border-adjustable consumption based taxes. To date, 

however, none of the proposals have succeeded. 

Even prior to the trade problems caused by the differential treatment of direct and indirect 

taxes under GATT/WTO rules, there were efforts in Congress to introduce consumption-based 

taxes in the United States. Examples include the following: 

 The years after World War I saw a general call for tax reform, including “substantial 

pressure to adopt a national sales tax to replace the excess profits tax and the high 

surtaxes on individual income.”189 In the early 1920s, Thomas S. Adams, a Yale 

economics professor and special advisor to the Treasury Department proposed

 

189 See Steven A. Bank, The Progressive Consumption Tax Revisited, 101 MICH. L. REV. 2238, 2242 (May 2003). 

Interestingly, scholars have noted that the value-added tax originated, in concept and theory, in the United 

States. 

Concerning the origin of the VAT, Lindholm wrote, "the roots of the value-added tax are 

embedded in U.S. economic theory and data." The U.S. has imported most of its taxes. For 

example, the income tax was imported from England, the inheritance tax from France, the 

sales tax from Spain and Holland, and the property tax from China and Europe. However, if 

adopted in the U.S., the VAT would not be an imported tax. The idea goes back to the 1920s 

when gross national product (GNP) data was first gathered. U.S. economists proposed the 

VAT out of a desire for a neutral tax that would generate substantial revenues without 

seriously distorting the resource allocation function of the free market system. The VAT is 

conceptually a tax on GNP, the market value of all final products produced in the economy. 

When U.S. economists provided the statistics making it possible to calculate GNP and 

measure current production activity, the VAT became the next logical step. 

Steve C. Wells, Lessons for policy makers from the history of consumption taxes, THE ACCOUNTING 

HISTORIANS JOURNAL (June 1999), citing Richard W. Lindholm, The Economics of VAT (1980; Lexington, MA: 

Lexington Books) at 24-25, 119-120. (The Wells article is available at http://findarticles.com/p/articles/mi_qa

3657/is_199906/ai_n8842319). 
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adoption of a form of VAT.190 In 1921, bills were proposed in Congress to enact a 

national sales tax and a graduated rate spendings tax, but both proposals failed.191

 In 1932, the Hoover Administration proposed a manufacturers’ excise tax (in effect, a 

national sales tax), and the bill that emerged from the House Ways and Means 

Committee recommended a 2.25% manufacturers’ excise tax on all items except 

food.192 Opposition in the House, however, defeated the sales tax provision.193

 In 1934, an article in Social Research by Gerhard Colm, a U.S. government tax 

expert, explained and recommended a value-added tax. Favorable reaction to the 

proposal eventually led in 1940 to Senator O'Mahoney of Wyoming introducing a bill 

that, although unsuccessful, called for a federal VAT.194

 In 1942, in an effort to reduce consumer spending and control inflation during World 

War II, Treasury Secretary Morgenthau introduced a spendings tax of 10% on all 

consumer goods and services, plus a progressive surtax on all expenditures over 

$1,000, but Congress was not receptive to the proposal.195

 In 1951, a sales tax was unsuccessfully proposed as a means to fund increased 

defense spending.196

In the 1960s, the European Communities decided to adopt and harmonize value-added 

taxes. This decision, in addition to stimulating U.S. efforts to negotiate changes to the GATT’s

 

190 See Steven A. Bank, The Progressive Consumption Tax Revisited, 101 MICH. L. REV. at 2241 (May 2003); Ray 

A. Knight & Lee G. Knight, Tax harmony in the European Community Leaves much to be desired, THE TAX 

EXECUTIVE (July-August 1991) (available at http://findarticles.com/p/articles/mi_m6552/is_n4_43/ai_1107

0753); Steve C. Wells, Lessons for policy makers from the history of consumption taxes, THE ACCOUNTING 

HISTORIANS JOURNAL (June 1999). 

191 See Steven A. Bank, The Progressive Consumption Tax Revisited, 101 MICH. L. REV. at 2242-2244 (May 

2003). 

192 See Tax Analysts–Tax History Project: The Republican Roots of New Deal Tax Policy (available at 

http://www.taxhistory.org/thp/readings.nsf/cf7c9c870b600b9585256df80075b9dd/dc6a3f1baa03052a85256dfe0

05981fb?OpenDocument); see also Steve C. Wells, Lessons for policy makers from the history of consumption 

taxes, THE ACCOUNTING HISTORIANS JOURNAL (June 1999). 

193 See Tax Analysts–Tax History Project: The Republican Roots of New Deal Tax Policy.

194 See Steve C. Wells, Lessons for policy makers from the history of consumption taxes, THE ACCOUNTING 

HISTORIANS JOURNAL (June 1999), citing Richard W. Lindholm, A New Federal Tax System (1984; New York: 

Praeger Publishers) at 121. 

195 See Steven A. Bank, The Progressive Consumption Tax Revisited, 101 MICH. L. REV. at 2246-2249 (May 

2003); see also Steve C. Wells, Lessons for policy makers from the history of consumption taxes, THE 

ACCOUNTING HISTORIANS JOURNAL (June 1999). 

196 See Steve C. Wells, Lessons for policy makers from the history of consumption taxes, THE ACCOUNTING 

HISTORIANS JOURNAL (June 1999), citing Donald R. Kennon & Rebecca M. Rogers, The Committee on Ways 

and Means: A Bicentennial History 1789-1989 (Washington, DC: Government Printing Office, 1989). 
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differential treatment of direct and indirect taxes, gave rise to interest in enacting a value-added 

tax in the United States. Some examples of such interest include: 

 In 1966, the Committee for Economic Development, a nonprofit business 

organization, proposed that the VAT be used to finance the Vietnam War and prevent 

inflation, and that the VAT be continued after the war to reduce corporate income 

taxes.197

 In 1970, President Nixon’s Task Force on Business Taxation studied the value-added 

tax. Although the Task Force did not recommend immediate adoption of a VAT, it 

noted that if additional federal revenues were necessary in the future, a value-added 

tax should be considered. Although the Treasury Department was directed to prepare 

a VAT proposal, no proposal was presented to Congress.198

 In 1972, President Nixon requested the Advisory Commission on Intergovernmental 

Relations to study “whether a Federal value added tax is the best substitute for 

residential school property taxes.”199 The Commission concluded that “a massive 

new Federal program designed specifically to bring about property tax relief is neither 

necessary nor desirable,” and that “direct Federal intervention was not necessary.”200

 In 1979-80, Representative Ullman, Chairman of the House Ways and Means 

Committee, introduced tax reform legislation that would have imposed a 10% valueadded tax on the sale of property or the performance of a service within the United 

States as well as on imports into the United States.201 The VAT was intended to 

reduce the federal deficit and eliminate the corporate income tax. As an indirect tax, 

Chairman Ullman’s VAT would have been border adjustable under GATT rules. 

 

197 See Tax Foundation, A Value-Added Tax for the United States? – Selected Viewpoints (1979) at 3, citing

Committee for Economic Development, A Better Balance in Federal Taxes on Business, A Statement by the 

Research and Policy Committee (New York: April, 1966); available at http://www.taxfoundation.org/news/

show/1875.html. See also Steve C. Wells, Lessons for policy makers from the history of consumption taxes, 

THE ACCOUNTING HISTORIANS JOURNAL (June 1999). 

198 See Tax Foundation, A Value-Added Tax for the United States? – Selected Viewpoints (1979) at 2; Hoffman F. 

Fuller, The Tax on Added Value, U. ILL. L.F 269, 293 (1972: No. 2); Steve C. Wells, Lessons for policy makers 

from the history of consumption taxes, THE ACCOUNTING HISTORIANS JOURNAL (June 1999). 

199 Advisory Commission on Intergovernmental Relations, The Value-Added Tax and Alternative Sources of 

Federal Revenue (Washington, D.C., August 1973) at ii; see also Tax Foundation, A Value-Added Tax for the 

United States? – Selected Viewpoints (1979) at 2. 200 Advisory Commission on Intergovernmental Relations, The Value-Added Tax and Alternative Sources of 

Federal Revenue (Washington, D.C., August 1973) at iii; Tax Foundation, A Value-Added Tax for the United 

States? – Selected Viewpoints (1979) at 2. 201 Tax Restructuring Act of 1979 (H.R. 5665); Tax Restructuring Act of 1980 (H.R. 7015). 
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 In 1985, Senator Roth introduced the Business Transfer Tax Act of 1985, which was 

described as a “‘consumption-based’ value-added tax.”202 The Tax Foundation noted 

concerning the Roth proposal: “A business transfer tax could serve several purposes, 

including a whole new look of tax reform, relief from income taxation, help with the 

trade deficit, reduction of the budget deficit and as an alternative to the minimum tax-

-which is exactly why it is getting attention. . . . Like all value-added taxes, the BTT 

would be considered an indirect tax for purposes of international trade. Under the 

GATT rules, indirect taxes can be imposed on imports and rebated on exports, while 

direct taxes, such as income taxes, cannot. Hence, the trade angle.”203

A review of proposed legislation introduced in the 101st through the 109th Congresses 

(1989-2006) shows numerous proposals to reform U.S. tax laws to replace or reduce income 

taxes with border-adjustable indirect taxes, such as value-added taxes and retail sales taxes. This 

demonstrates the persistent congressional recognition of, and interest in resolving, the 

competitive disadvantage of the GATT/WTO differential treatment of direct and indirect taxes. 

The following table presents a sampling of legislative tax reform proposals introduced in the 

101st through 109th Congresses that would impose VAT or other border-adjustable consumption 

taxes. 

Selected Examples of Proposed Legislation to Restructure U.S. Tax Laws to Impose 

Value-Added or Other Consumption-Based Taxes That Would Be Border-Adjustable 

Proposed 

Legislation Bill No. Sponsor VAT & Other Consumption-Related Tax Proposals 

Deficit and Debt 

Reduction Act of 

1989 

(February 23, 1989) 

S. 442 

(101-1) Hollings 

Would impose a value added tax (5%) to any sale or 

importation of property or any performance of services in 

the U.S. by a person engaging in a business or in a 

commercial-type transaction. The VAT would be zero-rated 

for exports of property. The VAT would go to a Deficit 

Reduction Trust Fund to be used exclusively to reduce the 

public debt. 

 

202 See Tax Foundation, The Uses of a Business Transfer Tax (Working Paper, December 20, 1985) at 1; available 

at http://www.taxfoundation.org/files/wp5-19851220.pdf. 203 See Tax Foundation, The Uses of a Business Transfer Tax (Working Paper, December 20, 1985) at 1. 
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Selected Examples of Proposed Legislation to Restructure U.S. Tax Laws to Impose 

Value-Added or Other Consumption-Based Taxes That Would Be Border-Adjustable 

Proposed 

Legislation Bill No. Sponsor VAT & Other Consumption-Related Tax Proposals 

Tax Reform and 

Competitiveness Act 

(February 6, 1990) 

S. 2084 

(101-2) Hollings 

Would impose a value added tax (5%) on any sale or 

importation of property or any performance of services in 

the U.S. by a person engaging in a business or in a 

commercial-type transaction. The VAT would be zero-rated 

for exports of property. 

National Health 

Insurance Act 

(January 3, 1991) 

H.R. 16 

(102-1) Dingell 

Would impose a value added tax of 5% on the sale of 

property in the U.S., the performance of services in the U.S., 

and the importing of property into the U.S. by a business in 

a commercial-type transaction. The VAT would be zerorated for exports of property. The VAT would go to a 

National Health Care Trust Fund to be used only to make 

expenditures to carry out the program of health benefits 

under the National Health Insurance Act. 

Deficit and Debt 

Reduction Act of 

1991 

(January 14, 1991) 

S. 169 

(102-1) Hollings 

Would impose a value-added tax of 5% on any sale or 

importation of property or any performance of services in 

the U.S. by a person engaging in a business or in a 

commercial-type transaction. The VAT would be zero-rated 

for sales of property and services exported from the U.S. for 

use or consumption outside the U.S. The VAT would go to 

a Deficit Reduction Trust Fund to be used exclusively to 

reduce the public debt. 

Uniform Business 

Tax Act of 1991 

(August 1, 1991) 

H.R. 3170 

(102-1) Schulze 

Would impose a flat 9% corporate tax on domestic receipts 

of U.S. businesses and on all imports crossing the U.S. 

border. 

“This simple, low-rate business tax is border-adjustable. 

Therefore, it does not apply to export sales; thereby helping 

to make American-made goods less expensive and more 

competitive in international markets. Conversely, the UBT 

does apply to imports; thereby assuring that foreign-made 

goods will no longer be able to compete in U.S. markets on 

a virtually tax-free basis.” 

Cong. Rec. at E2903 (Aug. 2, 1991) (remarks of Rep. 

Schulze). 

Value Added Tax 

Impact Assessment 

Act of 1992 

(February 19, 1992) 

H.R.4263 

(102-2) Wise Would require the Secretary of the Treasury to study and report to the Congress on a value added tax. 

Foreign Income Tax 

Rationalization and 

Simplification Act 

of 1992 

(May 27, 1992) 

H.R. 5270 

(102-2) Rostenkowski 

Would require the Secretary of the Treasury to conduct a 

study of administrative and compliance issues related to a 

value added tax. 
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Selected Examples of Proposed Legislation to Restructure U.S. Tax Laws to Impose 

Value-Added or Other Consumption-Based Taxes That Would Be Border-Adjustable 

Proposed 

Legislation Bill No. Sponsor VAT & Other Consumption-Related Tax Proposals 

Foreign Income Tax 

Rationalization and 

Simplification Act 

of 1992 

(May 27, 1992) 

H.R. 5270 

(102-2) Rostenkowski 

Would require the Secretary of the Treasury to conduct a 

study of administrative and compliance issues related to a 

value added tax. 

Health Choice Act 

of 1992 

(June 30, 1992) 

H.R.5514 

(102-2) Dingell 

Would impose a value added tax of 5% on the sale of 

property in the U.S., the performance of services in the U.S., 

and the importing of property into the U.S. by a business in 

a commercial-type transaction. The VAT would go to a 

Health Choice Trust Fund. 

National Health 

Insurance Act 

(January 5, 1993) 

H.R. 16 

(103-1) Dingell 

Would impose a value added tax of 5% on the sale of 

property in the U.S., the performance of services in the U.S., 

and the importing of property into the U.S. by a business in 

a commercial-type transaction. The VAT would be zerorated for exports of property. The VAT would go to a 

National Health Care Trust Fund to be used only to make 

expenditures to carry out the program of health benefits 

under the National Health Insurance Act. 

Deficit and Debt 

Reduction and 

Health Care 

Financing Act of 

1994 

(May 23, 1994) 

S. 2134 

(103-2) Hollings 

Would impose a value added tax of 5% on the sale of 

property or services in the U.S. and the import of property 

or services for use or consumption in the U.S. The VAT 

would be zero-rated for sales of property and services 

exported from the U.S. for use or consumption outside the 

U.S. The VAT would go to a Deficit Reduction and Health 

Care Reform Trust Fund with 80% of the revenues from the 

VAT used to reduce the public debt and 20% to carry out 

Federal health care reform programs. 

Comprehensive Tax 

Restructuring and 

Simplification Act 

of 1994 

(June 7, 1994) 

S. 2160 

(103-2) 

Danforth/ 

Boren 

Would repeal the corporate income tax, cut the payroll tax, 

and impose a business activities tax (BAT) of 14.5% on 

business-related sales of property & services and on imports 

of property & services. Exports of property & services are 

excluded from “gross receipts.” The BAT is a subtractionmethod tax that would be border-adjustable. 

“The international trend is to rely heavily on some form of 

a national, border -adjustable consumption tax. However, 

unlike all our major trading partners, and 80 countries in 

total, the United States has not adopted a consumption tax 

which is border -adjustable --that is, tax is rebated on 

exports and levied on imports. Thus, we are penalizing 

ourselves. To illustrate, a U.S. manufacturer must bear the 

full cost of U.S. corporate income taxes and payroll taxes, 

regardless of whether it exports its goods or sells them 

domestically. However, those exported goods will face a 

second tax on reaching the border of a country that has a 

value-added tax [VAT]. In a sense, the exports are taxed 
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Selected Examples of Proposed Legislation to Restructure U.S. Tax Laws to Impose 

Value-Added or Other Consumption-Based Taxes That Would Be Border-Adjustable 

Proposed 

Legislation Bill No. Sponsor VAT & Other Consumption-Related Tax Proposals 

twice, rather than once as the products with which they 

compete. Exporters from VAT countries, however, have the 

VAT rebated on all their exports to the United States and 

face little or no new taxes, other than tariffs, when the 

products enter the United States. This discrimination is a 

penalty we inflict on ourselves by ignoring the advantages 

of a border -adjustable consumption tax. If the United 

States replaces some or all of current business taxes with 

border -adjustable taxes, the playing field would be leveled 

considerably.” 

Cong. Rec. at S6523 (June 7, 1994) (statement of Sen. 

Danforth). 

National Health 

Insurance Act 

(January 4, 1995) 

H.R. 16 

(104-1) Dingell 

Would impose a value added tax of 5% on the sale of 

property in the U.S., the performance of services in the U.S., 

and the importing of property into the U.S. by a business in 

a commercial-type transaction. The VAT would be zerorated for exports of property. The VAT would go to a 

National Health Care Trust Fund to be used only to make 

expenditures to carry out the program of health benefits 

under the National Health Insurance Act. 

Deficit and Debt 

Reduction and 

Health Care 

Financing Act of 

1995 

(January 18, 1995) 

S. 237 

(104-1) Hollings 

Would impose a value added tax of 5% on the sale of 

property or services in the U.S. and the import of property 

or services for use or consumption in the U.S. The VAT 

would be zero-rated for sales of property and services 

exported from the U.S. for use or consumption outside the 

U.S. The VAT would go to a Deficit Reduction and Health 

Care Reform Trust Fund with 80% of the revenues from the 

VAT used to reduce the public debt and 20% to carry out 

Federal health care reform programs. 

Unlimited Savings 

Allowance (USA) 

Tax Act of 1995 

(April 25, 1995) 

S. 772 

(104-1) 

Domenici/ 

Nunn 

Would replace corporate income tax with a cash flow 

business tax (a subtraction-method VAT); would replace 

individual income tax with a consumed-income tax; would 

impose an import tax of 11% of the customs value of all 

property entered into the U.S. for consumption, use or 

warehousing. 

“Another very important feature is that our USA Tax 

System puts U.S. companies on the same footing with our 

competitors. The USA business tax is territorial--meaning it 

applies to all sales on U.S. soil no matter where the 

business is headquartered--and it is border adjustable. 

“We want to encourage exports, and we do in this proposal. 

We exclude the proceeds from export sales from taxation 

by rebating the tax on goods exported for sale abroad. And 

when a company, foreign or U.S. owned, manufactures 

abroad and sells to the United States market, the company 

is, through the operations of a new import tax, taxed 
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Selected Examples of Proposed Legislation to Restructure U.S. Tax Laws to Impose 

Value-Added or Other Consumption-Based Taxes That Would Be Border-Adjustable 

Proposed 

Legislation Bill No. Sponsor VAT & Other Consumption-Related Tax Proposals 

essentially the same as if the factory were located in the 

United States. That is border adjustability, the tax is rebated

on exports and added to imports, which is exactly the 

situation American exporters to Europe and Japan face 

today. We believe our business tax will place American 

companies and workers on an equal and level playing 

field.” 

Cong. Rec. at S5669 (April 25, 1995) (statement of Sen. 

Nunn). 

“I would like to highlight another key feature of the USA 

plan, its treatment of imports and exports. With respect to 

competitiveness, the USA business tax levels the 

international playing field for American business by 

implementing a territorial and border adjustable tax. All 

goods, whether produced here or abroad, sold in the United 

States will bear the same US tax burden, while U.S. exports 

will not carry the cost of U.S. taxes when sold abroad.” 

Cong. Rec. at S11634 (Sept. 28, 1996) (statement of Sen. 

Nunn). 

National Retail Sales 

Tax Act of 1996 

(March 6, 1996) 

H.R. 3039 

(104-2) Schaefer 

Would repeal income, estate, gift, and certain excise taxes. 

Would impose a 15% tax on use, consumption or enjoyment 

in the U.S. of any property or service produced or rendered 

within or without the U.S. Would prohibit imposing tax on 

any property or service: (1) purchased for resale; (2) 

purchased to produce property or services; or (3) exported 

from the U.S. for use, consumption or enjoyment outside of 

the U.S. 

Revenue 

Restructuring Act of 

1996 

(September 11, 

1996) 

H.R. 4050 

(104-2) Gibbons 

Would replace individual and corporate income taxes, and 

Social Security and Medicare taxes, with a 20% value added 

tax imposed on any sale of property in the U.S. by a 

business, the performance of services in the U.S. by a 

business, or the export of property or services from the U.S. 

in connection with a business. This bill does not zero rate 

exports but the VAT would be border-adjustable. The bill 

notes that one of the fundamental principles of tax 

restructuring is that “any reform proposal should be borderadjustable and promote the competitiveness of American 

companies.” 

“The value-added tax would be adjusted at the international 

border. In the case of exports, the adjustment would be 

made by excluding gross receipts from exports of goods 

and services from business gross receipts. Business 

purchases would include the cost of goods and services 

used to produce exported goods and services, thereby 

refunding to the exporter the value-added tax embedded in 

the price of those goods and services. In the case of 

imports, the adjustment would be made by excluding 
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Selected Examples of Proposed Legislation to Restructure U.S. Tax Laws to Impose 

Value-Added or Other Consumption-Based Taxes That Would Be Border-Adjustable 

Proposed 

Legislation Bill No. Sponsor VAT & Other Consumption-Related Tax Proposals 

purchases of imported products or services in computing 

the amount of business purchases. There are also provisions 

that would refund the value-added tax to persons (such as 

tourists) making nonbusiness purchases of property in the 

United States for use outside the United States. There 

would be a tax on nonbusiness imports of property or 

services into the United States.” 

Cong. Rec. at E1573 (Sept. 11, 1996) (statement of Rep. 

Gibbons). 

National Health 

Insurance Act 

(January 7, 1997) 

H.R. 16 

(105-1) Dingell 

Would impose a value added tax of 5% on the sale of 

property in the U.S., the performance of services in the U.S., 

and the importing of property into the U.S. by a business in 

a commercial-type transaction. The VAT would be zerorated for exports of property. The VAT would go to a 

National Health Care Trust Fund to be used only to make 

expenditures to carry out the program of health benefits 

under the National Health Insurance Act. 

Resolution 

(January 21, 1997) 

S. Res. 16 

(105-1) Lugar Expressing the sense of the Senate that the income tax should be eliminated and replaced with a national sales tax. 

Resolution 

(April 10, 1997) 

H. Res. 

111 

(105-1) 

Hefley Expressing the sense of the House that the income tax 

should be eliminated and replaced with a national sales tax. 

National Retail Sales 

Tax Act of 1997 

(April 15, 1997) 

(June 19, 1997) 

H.R. 1325 

H.R. 2001 

(105-1) 

Schaefer 

Would repeal income, estate, gift, and certain excise taxes. 

Would impose a 15% tax on use, consumption or enjoyment 

in the U.S. of any property or service produced or rendered 

within or without the U.S. Would prohibit imposing a tax 

on any property or service purchased for: (1) a business 

purpose in an active trade or business; or (2) export from the 

U.S. for use or consumption outside of the U.S. 

Simplified USA Tax 

Act of 1998 

(October 5, 1998) 

H.R. 4700 

(105-2) English 

Would replace corporate income tax with a cash flow 

business tax (a subtraction-method VAT); would replace 

individual income tax with a consumed-income tax; would 

impose an import tax of 11% of the customs value of all 

property entered into the U.S. for consumption, use or 

warehousing. 

National Health 

Insurance Act 

(January 6, 1999) 

H.R. 16 

(106-1) Dingell 

Would impose a value added tax of 5% on the sale of 

property in the U.S., the performance of services in the U.S., 

and the importing of property into the U.S. by a business in 

a commercial-type transaction. The VAT would be zerorated for exports of property. The VAT would go to a 

National Health Care Trust Fund to be used only to make 

expenditures to carry out the program of health benefits 

under the National Health Insurance Act. 
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Selected Examples of Proposed Legislation to Restructure U.S. Tax Laws to Impose 

Value-Added or Other Consumption-Based Taxes That Would Be Border-Adjustable 

Proposed 

Legislation Bill No. Sponsor VAT & Other Consumption-Related Tax Proposals 

Simplified USA Tax 

Act of 1999 

(January 6, 1999) 

H.R. 134 

(106-1) English 

Would replace corporate income tax with a cash flow 

business tax (a subtraction-method VAT); would replace 

individual income tax with a consumed-income tax; would 

impose an import tax of 11% of the customs value of all 

property entered into the U.S. for consumption, use or 

warehousing. 

Resolution 

(January 19, 1999) 

S. Res. 24 

(106-1) Lugar Expressing the sense of the Senate that the income tax 

should be eliminated and replaced with a national sales tax. 

National Retail Sales 

Tax Act of 1999 

(April 15, 1999) 

(May 27, 1999) 

H.R. 1467 

H.R. 2001 

(106-1) 

Tauzin 

Would repeal income, estate, gift, and certain excise taxes. 

Would impose a 15% tax on use, consumption or enjoyment 

in the U.S. of any property or service produced or rendered 

within or without the U.S. Would prohibit imposing a tax 

on any property or service purchased for: (1) a business 

purpose in an active trade or business; or (2) export from the 

U.S. for use or consumption outside the U.S. 

Deficit and Debt 

Reduction and 

Social Security 

Solvency Act of 

1999 

(July 15, 1999) 

S. 1376 

(106-1) Hollings 

Would impose a value added tax of 5% on the sale of 

property or services in the U.S. and the import of property 

or services for use or consumption in the U.S. The VAT 

would be zero-rated for sales of property and services 

exported from the U.S. for use or consumption outside the 

U.S. The VAT would go to a Debt Reduction and Social 

Security Solvency Trust Fund to reduce Federal debt and to 

ensure the solvency of the Social Security System. 

National Health 

Insurance Act 

(January 3, 2001) 

H.R. 16 

(107-1) Dingell 

Would impose a value added tax of 5% on the sale of 

property in the U.S., the performance of services in the U.S., 

and the importing of property into the U.S. by a business in 

a commercial-type transaction. The VAT would be zerorated for exports of property. The VAT would go to a 

National Health Care Trust Fund to be used only to make 

expenditures to carry out the program of health benefits 

under the National Health Insurance Act. 

Simplified USA Tax 

Act of 2001 

(January 3, 2001) 

H.R. 86 

(107-1) English 

Would replace corporate income tax with a cash flow 

business tax (a subtraction-method VAT); would replace 

individual income tax with a consumed-income tax; would 

impose an import tax of 11% of the customs value of all 

property entered into the U.S. for consumption, use or 

warehousing. 

Individual Tax 

Freedom Act of 

2001 

(August 2, 2001) 

H.R. 2717 

(107-1) Tauzin 

Would repeal income, estate, gift, and certain excise taxes. 

Would impose a 15% tax on use, consumption or enjoyment 

in the U.S. of any property or service produced or rendered 

within or without the U.S. Would prohibit imposing a tax 

on any property or service purchased for: (1) a business 
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Selected Examples of Proposed Legislation to Restructure U.S. Tax Laws to Impose 

Value-Added or Other Consumption-Based Taxes That Would Be Border-Adjustable 

Proposed 

Legislation Bill No. Sponsor VAT & Other Consumption-Related Tax Proposals 

purpose in an active trade or business; or (2) export from the 

U.S. for use or consumption outside the U.S. 

National Health 

Insurance Act 

(January 7, 2003) 

H.R. 15 

(108-1) Dingell 

Would impose a value added tax of 5% on the sale of 

property in the U.S., the performance of services in the U.S., 

and the importing of property into the U.S. by a business in 

a commercial-type transaction. The VAT would be zerorated for exports of property. The VAT would go to a 

National Health Care Trust Fund to be used only to make 

expenditures to carry out the program of health benefits 

under the National Health Insurance Act. 

Simplified USA Tax 

Act of 2003 

(January 8, 2003) 

H.R. 269 

(108-1) English 

Would replace corporate income tax with a cash flow 

business tax (a subtraction-method VAT); would replace 

individual income tax with a consumed-income tax; would 

impose an import tax of 11% of the customs value of all 

property entered into the U.S. for consumption, use or 

warehousing. 

War Financing Act 

of 2003 

(January 9, 2003) 

S. 112 

(108-1) Hollings 

Would impose a value added tax of 1% on the sale of 

property or services in the U.S. and the import of property 

or services for use or consumption in the U.S. The VAT 

would be zero-rated for sales of property and services 

exported from the U.S. for use or consumption outside the 

U.S. The VAT would go to a War Financing Trust Fund to 

be used exclusively to fund America’s war effort. 

Individual Tax 

Freedom Act of 

2004 

(April 2, 2004) 

H.R. 4168 

(108-2) Tauzin 

Would repeal income tax, estate and gift taxes, and certain 

excise taxes. Would imposes a national sales tax equal to 

15% of gross payments for use, consumption or enjoyment 

in the U.S. of any taxable property or service, whether 

produced or rendered within or without the U.S. Would 

allow exemptions from such tax for property or services 

purchased for a business purpose in an active trade or 

business or for export for use or consumption outside the 

U.S. 

Resolution 

(July 7, 2004) 

H. Res. 

705 

(108-2) 

English 

Urges the President to resolve the disparate treatment of 

direct and indirect taxes presently provided by the WTO. 

The resolution stated: 

Whereas the World Trade Organization does not permit 

direct taxes, such as the corporate income tax, to be rebated 

or reduced on exports; 

Whereas indirect taxes, such as a value added tax, can be 

and are rebated on exports in other countries; 

Whereas the distinction by the World Trade Organization 

between direct and indirect taxation is arbitrary and may 

induce economic distortions among nations with disparate 

tax systems; and 
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Selected Examples of Proposed Legislation to Restructure U.S. Tax Laws to Impose 

Value-Added or Other Consumption-Based Taxes That Would Be Border-Adjustable 

Proposed 

Legislation Bill No. Sponsor VAT & Other Consumption-Related Tax Proposals 

Whereas United States firms pay a high corporate tax rate 

on their export income and many foreign nations are 

allowed to rebate their value added taxes, thereby giving 

exporters in nations imposing value added taxes a 

competitive advantage over American workers: Now, 

therefore, be it 

Resolved, That the President— 

(1) within 120 days after the convening of the 109th 

Congress, and annually thereafter, should report to 

Congress on progress in pursuing multilateral and bilateral 

trade negotiations to eliminate the barriers described in 

section 2102(b)(15) of the Trade Act of 2002; and 

(2) within 120 days after convening the 109th Congress, 

should report to Congress on— 

(A) proposed alternatives to the disparate treatment of 

direct and indirect taxes presently provided by the World 

Trade Organization; and 

(B) other proposals for redressing the tax disadvantage to 

United States businesses and workers, either by changes to 

the United States corporate income tax or by the adoption 

of an alternative, including— 

(i) assessing the impact of corporate tax rates, 

(ii) a system based on the principal of territoriality, and 

(iii) a border adjustment for exports such as is already 

allowed by the World Trade Organization for indirect 

taxes.

National Health 

Insurance Act 

(January 4, 2005) 

H.R. 15 

(109-1) Dingell 

Would impose a value added tax of 5% on the sale of 

property in the U.S., the performance of services in the U.S., 

and the importing of property into the U.S. by a business in 

a commercial-type transaction. The VAT would be zerorated for exports of property. The VAT would go to a 

National Health Care Trust Fund to be used only to make 

expenditures to carry out the program of health benefits 

under the National Health Insurance Act. 

Fair Tax Act of 2005 

(January 4, 2005) 

H.R. 25 

(109-1) Linder 

Would impose a 23% national retail sales tax to replace 

individual and corporate income taxes, payroll taxes, selfemployment taxes, and estate and gift taxes. 

Fair Tax Act of 2005 

(January 24, 2005) 

S. 25 

(109-1) Chambliss 

(Companion bill to H.R. 25) Would impose a 23% national 

retail sales tax to replace individual and corporate income 

taxes, payroll taxes, self-employment taxes, and estate and 

gift taxes. 

Tax Simplification 

Act of 2005 

(March 23, 2005) 

S. 1099 

(109-1) Shelby Would impose a flat consumption tax in place of individual 

and corporate income taxes, and estate and gift taxes 
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Selected Examples of Proposed Legislation to Restructure U.S. Tax Laws to Impose 

Value-Added or Other Consumption-Based Taxes That Would Be Border-Adjustable 

Proposed 

Legislation Bill No. Sponsor VAT & Other Consumption-Related Tax Proposals 

Flat Tax Act of 2005 

(April 15, 2005) 

S. 812 

(109-1) Specter 

Would impose a flat rate consumption tax to replace 

individual and corporate income taxes, and estate and gift 

taxes. 

Savings for Working 

Families Act of 

2005 

(October 26, 2005) 

S. 1921 

(109-1) DeMint 

Would impose an 8.4% national retail sales tax and an 8.4% 

business tax (subtraction-method VAT) to replace 

individual and corporate income taxes, and estate and gift 

taxes. 

Simplified USA Tax 

Act of 2006 

(February 8, 2006) 

H.R. 4707 

(109-2) English 

Would replace corporate income tax with a cash flow 

business tax (a subtraction-method VAT). Would replace 

individual income tax with a consumed-income tax. Would 

impose an import tax equal to 11% of the customs value of 

all property entered into the U.S. for consumption, use or 

warehousing; would impose a tax equal to 11% of the cost 

of all services treated as imported into the U.S. during the 

taxable year of the service recipient. 

“The other key component of SUSAT that will make 

American business more competitive is that it is border 

adjustable. In other words, SUSAT would end the perverse 

practice unique among our trading partners of taxing our 

own exports. All export sales income is exempt and all 

profits earned abroad can be brought back home for 

reinvestment in America without penalty. 

“Because of a 12 percent import adjustment, all companies 

that produce abroad and sell back into U.S. markets will be 

required to bear the same tax as companies that both 

produce and sell in the United States. This policy would 

finally take away the bias in favor of imports built into our 

current tax structure, which, in my view, contributes to our 

record trade deficit that continues to rise to record-breaking 

levels.” 

Cong. Rec. at H242 (Feb. 14, 2006) (statement of Rep. 

English). 

National Health 

Insurance Act 

(January 4, 2007) 

H.R. 15 

(110-1) Dingell 

Would impose a value added tax of 5% on the sale of 

property in the U.S., the performance of services in the U.S., 

and the importing of property into the U.S. by a business in 

a commercial-type transaction. The VAT would be zerorated for exports of property. The VAT would go to a 

National Health Care Trust Fund to be used only to make 

expenditures to carry out the program of health benefits 

under the National Health Insurance Act. 
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Particular statements by individual senators and representatives who have introduced 

VAT or other consumption-based tax proposals reflect the degree of congressional interest in 

addressing the problem of border taxes, such as the following examples: 

 Upon introducing his Debt and Deficit Reduction Act of 1989, Senator Hollings 

stated: 

A VAT would also serve to reduce the United States huge trade 

deficit. After all, many of those nonnecessities are luxury 

consumer goods imported from abroad. Even more important, 

under international agreements, a VAT is the only kind of tax that 

can be legally rebated on exported items. In other words, when 

Mercedes-Benz exports a car to the United States, the German 

Government rebates the VAT to the manufacturer; this saves 

Mercedes-Benz on its tax bill, and it makes German cars less 

expensive and more competitive on the United States market. As 

Lester Thurow, dean of the business school at MIT, says: The 

rules of international trade are structured to make you stupid if you 

don't have a value added tax.204

 Rep. Schulze, in explaining the uniform Business Tax Act of 1991, stated: 

Before American-made goods can again become truly competitive, 

we must first have a competitive tax system. Other countries with 

which we compete in world trade have adopted tax systems of the 

modern variety that work to their advantage. They exempt from tax 

the foreign-made goods they sell into our economy and impose tax 

on the American-made goods we sell into their economies. Indeed, 

with the recent additions of Canada and Japan, border-adjustable 

taxes have become the international norm among countries that 

understandably seek to serve their own best interests. 

In contrast, we in the United States do just the opposite. As a 

general rule, we tax the income that our own companies receive 

from manufacturing goods in the United States that they sell 

abroad. On the other hand, as a practical matter, we do not tax 

foreign companies on the amount they receive from manufacturing 

goods abroad that are sold in the U.S. markets. Recent data from 

the Commissioner of Internal Revenue show that foreign-owned 

 

204 Congressional Record at S1665 (February 23, 1989) (statement of Sen. Hollings). 
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subsidiaries--operating in the United States right along-side our 

own companies--each year receive about $600 billion from sales in 

U.S. markets of goods manufactured abroad by their foreign-parent 

corporations. Yet, as a group, they pay no U.S. income tax. By and 

large, that tax-free status is not because they are evading taxes. 

Rather, it is because the present U.S. business tax system does not 

require payment of tax on the amount foreigners receive from 

manufacturing goods abroad even though sold here. 

By conforming the U.S. tax system to the international norm of 

border-adjustable taxes, the UBT will eliminate these present tax 

biases that work against American-made goods and U.S. jobs in 

favor of foreign manufacturers and their employees. Under the 

UBT, exports of American-made goods will be exempt and 

imports of foreign-made goods will be taxed.205

 Senator Lugar, upon introducing his resolutions in 1997 (S. Res. 16) and 1999 (S. 

Res. 24) that the income tax should be eliminated and replaced with a national sales 

tax, stated that one reason to do so was to correct the double taxation faced by U.S. 

exporters. 

American exports would also benefit from the enactment of a 

national sales tax. We must adopt a tax system that encourages 

exports. Most of our trading partners have tax systems that are

border adjustable. They are able to strip out their tax when 

exporting their goods. In comparison, the income tax is not border 

adjustable. American goods that are sent overseas are taxed twice--

once by the income tax and once when they reach their destination. 

In comparison, the national sales tax would not be levied on 

exports. It would place our exports on a level playing field with 

those of our trading partners.206

 Representative Phil English repeatedly has introduced a Simplified USA Tax bill. 

The bill specifically notes that it would serve the strategic interests of the United 

States by providing a “fair opportunity” for U.S. business to “compete in the global 

marketplace” in that the tax would be border-adjustable—imposed on imports and 

rebated on exports. 

 

205 Congressional Record at E2903 (August 2, 1991) (remarks of Rep. Schulze). 

206 Congressional Record at S564 (January 21, 1997) (statement of Sen. Lugar); Congressional Record, S719 

(January 19, 1999) (same statement). 
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(4) FAIR OPPORTUNITY TO COMPETE IN THE GLOBAL 

MARKETPLACE— The Simplified USA Tax serves the strategic 

interests of the United States in international markets as follows: 

(A) Border adjustable tax- 

(i) AMERICAN-MADE EXPORTS- Goods and services 

produced in the United States can be sold into world 

markets free of tax. 

(ii) FOREIGN-MADE IMPORTS- Goods and services 

imported into the United States bear a fair and 

proportionate share of the tax burden in the United States. 

(iii) LEVELING THE INTERNATIONAL PLAYING 

FIELD- Border adjustments for exports and imports are 

consistent with international standards and practice.207

Although none of the foregoing legislation tax proposals have been enacted, it is notable 

that Rep. English’s resolution (H. Res. 705), urging the President to resolve the disparate 

treatment of direct and indirect taxes presently provided by the WTO, did pass the House on July 

14, 2004 by a vote of 423 to 1. In the debate on the resolution, Rep. English focused on both 

changing the international rules at the WTO and changing the U.S. tax system to make it 

internationally competitive. 

{W}hile this may not be the first time that we have discussed the 

issue of competitive trade disadvantage on the floor of the House 

that U.S. companies are facing, this may be the time that we are 

most clearly focusing on the contribution to that problem created 

by the American tax system. 

Congress and the administration need to push our trading partners 

to adjust the rules to level the playing field for American workers 

and American companies; and today’s resolution helps do that by 

focusing on the disadvantage actually built into the World Trade 

Organization rules, a disadvantage imposed upon our Tax Code, 

allowing our competitors what amounts to a $120 billion 

advantage over American companies. 

For the past 30 years, the WTO has said that, while the EU 

members and other trading partners can and do exempt from tax 

 

207 See, e.g., H.R. 4707, section 101(c)(4) (introduced February 8, 2006). 
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their exports to the U.S., we must fully tax our exports to them. As 

our manufacturers and other critical industries begin to recover 

from the recession, it is imperative that we address this inequity. 

Otherwise, we risk undermining one of the key drivers of 

economic growth, our export sector, and we also put at risk those 

companies that are competing within our domestic market by 

fostering upon them a significant competitive disadvantage. 

Right now, WTO rules recognize the U.S. corporate income tax to 

be a so-called direct tax. Under the WTO rules, so-called “indirect 

taxes,” value-added tax or retail sales tax or any other 

consumption-type tax, can be rebated on exports going out from 

the home country and imposed on imports coming in from foreign 

countries, but such adjustments cannot be made for direct taxes 

when goods and services cross international borders. 

This is a distinction that has no grounding in economic reality and 

simply puts us at a competitive disadvantage. It is a crucial 

inequity for U.S. taxpayers and producers. Confronting it head on 

will go a long way to boost American competitiveness in the 

global market. That is why the resolution before us declares that 

this distinction is arbitrary and it results in a competitive 

disadvantage for businesses and works with a border-adjustable 

system, such as all value-added tax systems. 

Looking to the future, this resolution should serve as a roadmap for 

reforming our international tax rules to allow U.S. products to 

compete in the global marketplace. This should be done in a way 

that exports American goods and services, not American jobs. 

The resolution asks the President to report to Congress on two 

matters within 120 days of the convening of the 109th Congress. 

As required by the Trade Act of 2002, the United States Trade 

Representative is charged with considering how to eliminate trade 

barriers put up by the U.S.’s direct tax system in pursuing trade 

negotiations. Thus, first, the resolution asks for the President to 

provide a progress report on these barriers and how they can be 

eliminated. Second, it resolves that the President should report on 

proposed alternatives to the disparate treatment of the 

direct/indirect distinction as well as domestic proposals redressing 

the taxes disadvantage to the U.S. 

Under the resolution, the President is asked to consider the impact 

of reducing the corporate rate, of implementing a territorial tax 

system, as well as the impact of a border-adjustable system as 

already allowed under the WTO rules. A comprehensive report on 
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the issues would be an enormous help to the Congress and to any 

administration in putting into bold relief the improvements needed 

to international tax rules as well as our tax system as it stacks up 

against the systems of the rest of the world. 

The reason we must look at this issue more deeply is because it 

impacts on our economy in such a fundamental way. While we are 

certainly in a period of robust economic recovery, there is more we 

can do to sustain long-term growth. As evidenced by the $550 

billion trade deficit I referenced earlier, we have become a Nation 

of importers. We need once again become a Nation of exporters; 

and as a Nation of exporters, we would see a thriving job market 

and a thriving manufacturing sector. 

In the absence of some kind of border tax adjustments for exports 

of American-made goods to correspond to the export rebates under 

VAT systems, there will continue to be a disincentive to produce 

goods in the United States. In effect, our tax system is creating all 

of the incentives to send our good-paying jobs offshore. This must 

be corrected, and this resolution is a step in the right direction.208 

Although value-added tax proposals have been made repeatedly over the past thirty years, 

none have been successful. Proponents of a VAT have cited to numerous positive elements but 

opposition to a VAT has also been vocal and persistent. Arguments for and against imposing

value-added taxes in the United States have commonly cited to such positive and negative 

elements or characteristics of a VAT as the following. 

VAT Positives VAT Negatives 

 Stable, predictable revenue base because based 

on consumption 

 Neutral effect because applied to all types of 

businesses 

 Businesses have incentive to control costs 

 Encourages savings 

 Potential to raise substantial revenue at low tax 

rate 

 Regressive 

 Results in excessive spending (“money 

machine”) 

 Lacks a countercyclical balance 

 Harmful to new and marginal businesses 

 Creates administrative complexities 

 Tends to increase inflation 

 Acts as a “hidden tax” 

 

208 Congressional Record at H5672-5673 (July 14, 2004) (statement of Rep. English concerning H. Res. 705). 
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VAT Positives VAT Negatives 

 Simple to administer; potentially self-enforcing 

 Reduces current obstacles to exports by 

allowing border-adjustability (VAT rebates) 

 Provides a better balanced tax system 

 Intrudes on state and local sales taxes 

 Does not create incentives or reduce 

disadvantages for exports 

Sources: A Value-Added Tax for the United States?: Selected Viewpoints (Tax Foundation, Inc., 1979); U.S. General 

Accounting Office, Value-Added Tax Issues for U.S. Tax Policymakers (September 1989) (GAO/GGD-89-125BR). 

Enactment of a VAT, even given its advantages in addressing the border tax problem, has 

faced difficult political hurdles because there is opposition to a VAT from both conservative and 

liberal viewpoints. On one hand, conservatives oppose a VAT because they view it as a as a 

“hidden” tax as well as a “money machine” that will stimulate government expenditures. On the 

other hand, liberals focus on the regressive nature of a VAT and oppose it because they believe it 

will unfairly and disproportionately affect people with lower incomes who must spend a greater 

percentage of their income on consumption. The Economic Report of the President summarizes 

the opposition to VAT: 

Critics of consumption taxes often argue that they are regressive, 

that is, they represent a higher proportion of the income of lowerincome families. 

* * * 

VATs have not received serious consideration in the United States. 

Similar to the sales tax, VATs are viewed as regressive, at least 

when annual income is used as the measure of ability to pay. 

Critics of the VAT are not mollified by the fact that it is possible to 

impose lower VAT rates on commodities such as food. Another 

concern is that VAT tax rates would tend to increase over time as 

has occurred in Europe because the VAT is such an efficient and 

largely hidden tax.209

 

209 2005 Economic Report of the President at 80, 85-86. 
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IV. CHINA’S TAX SYSTEM AND ITS USE OF DIRECT AND INDIRECT TAXES

A. Background

In January 1, 1994, China implemented a reformed commercial and industrial tax system. 

Six tax regulations were implemented simultaneously, including the Value Added Tax (VAT), 

consumption tax, business tax, enterprise income tax, resource tax and land VAT, together with 

the revised Individual Income Tax.210 According to a March 2005 paper prepared by the Tax 

Policy Department of the Ministry of Finance in the People’s Republic of China: 

VAT is the major source of fiscal revenue for the Government of 

China, particularly the central government. In 2002, the revenue 

from VAT is 814.1 billion Yuan, accounting for 47.61% of the 

state total tax revenue of the year, which is the first biggest tax in 

China.211

Indeed, China’s VAT continues to provide roughly half of the country’s tax revenue. 

When it was implemented in 1994 as part of the overall tax reforms, China’s VAT system 

differed from systems that exist in Europe and elsewhere. Under those systems, the VAT is 

consumption-oriented, that is, most of the VAT is borne by the ultimate consumer. Intermediate 

producers and suppliers collect and pay only a fraction of the VAT and are allowed to deduct the 

amount of VAT they pay on their purchases. By contrast, under China’s system, no deductions 

 

210 Beijing Local Taxation Bureau, Overview of China’s Current Tax System; available at 

http://english.tax861.gov.cn/zgsky/zgsky01.htm. 

211 China Ministry of Finance, Tax Policy Department, Briefing of VAT Under China’s Tax System, a Paper 

submitted at the VAT Conference of International Tax Dialogue, Rome, March 2005, at 1. 
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for VAT were allowed on purchases of fixed assets, resulting in a system wherein the VAT was 

production-oriented.212

China’s VAT system imposed different tax rates depending on the nature of the goods or 

services in question and whether the taxpayer is a “normal” or “general” taxpayer or a “small” 

taxpayer (i.e., essentially, a small business).213 For most goods or services, the rate established 

in 1994 was 17%, with a lesser rate of 13% for certain items, and, for businesses categorized as 

small-scale taxpayers the tax rate was set at 6% (for production of goods) or 4% (for wholesale 

or retail business).214 The items entitled to a lower VAT rate of 13% included: 

• Grains and edible vegetable oil; 

• Tap water, heating, air conditioning, hot water, coal gas, liquefied-gas, natural 

gas, methane gas, and coal and charcoal products for household use; 

• Books, newspapers and magazines; 

• Feeds, chemical fertilizers, agricultural chemicals, agricultural machinery and 

plastic film for farming; and 

 

212 See Anthony M. Fay, China’s Conversion to a Consumption-Oriented VAT Regime, Tax Notes International, 

Practitioner’s Corner, August 23, 2004, at 3. The VAT Law defines “fixed assets” broadly. “Under Article 19 

of the regulations of the VAT Law, fixed assets include: machines, machinery, and means of transportation 

with useful lives exceeding one year; other equipment, tools, and utensils related to production and operation; 

and articles with a unit value exceeding CNY 2,000 and a useful life in excess of two years that do not form part 

of the principal production and operating equipment. That definition captures virtually all capital equipment 

acquired for production, regardless of whether the equipment is purchased domestically or imported.” Id. at 3-

4. 213 See Trade Policy Review – People’s Republic of China; Report by the Secretariat, WT/TPR/S/161/Rev.1 (26 

June 2006) at p. 102, para. 134 & fn. 110 (“A small-scale taxpayer is one whose accounting system is not 

sufficiently developed to calculate accurately the output and input VAT and thus VAT payable. They include 

taxpayers with total sales of less than Y 1 million engaged in the production of goods or taxable services, and 

those engaged in the production of goods or taxable services, which is the major part of their business operation, 

as well as in wholesaling or retailing; or those with total sales of less than Y 1.8 million engaged in wholesaling 

or retailing. Individuals, non-corporate businesses, and enterprises with infrequent taxable activities are also 

considered to be small-scale taxpayers.”). 

214 See Trade Policy Review – People’s Republic of China; Report by the Secretariat, WT/TPR/S/161/Rev.1 (26 

June 2006) at p. 116, para. 191; see also id. at para. 134 & fn. 110. 
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• Other goods identified by the State Council (agricultural products, mining of 

metals, mining of non-metals).215

There also were a number of products that were completely exempted from VAT. These 

included: 

• Self-produced agricultural products sold by agricultural producers; 

• Contraceptive medicines and devices; 

• Antique books; 

• Imported instruments and equipment to be used directly in scientific research, 

experiment and education; 

• Imported materials and equipment given as gratuitous aid by foreign 

governments and international organizations; 

• Equipment and machinery required to be imported under contract processing, 

contract assembly and compensation trade; 

• Articles imported directly by organizations for the disabled for special use by 

the disabled; and 

• Sales of goods which have been used by the sellers.216 

“Taxable services” subject to the 17% rate included processing, repairs and replacement 

services. 

For taxpayers who exported, the VAT rate was 0%.217 Such taxpayers could also apply 

for a refund of VAT they paid on the items that they exported. China allowed rebates on exports 

at various rates -- 17%, 13%, 11%, 8% and 5% -- depending on the type of product exported.218 

 

215 See Trade Policy Review – People’s Republic of China; Report by the Secretariat, WT/TPR/S/161/Rev.1 (26 

June 2006) at p. 116, para. 192. 

216 See Interim Regulations of the People’s Republic of China on Value-added Tax (adopted by the State Council 

on 26 November 1993 and effective 1 January 1994) at Article 16; see also Trade Policy Review – People’s 

Republic of China; Report by the Secretariat, WT/TPR/S/161/Rev.1 (26 June 2006) at p. 116-117, para. 192. 

217 See Interim Regulations at Article 2. 

218 See Trade Policy Review – People’s Republic of China; Report by the Secretariat, WT/TPR/S/161/Rev.1 (26 

June 2006) at p. 117, para. 193. 
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Enterprises that purchase products from small-scale taxpayers and export them are allowed VAT 

rebates of 5% or 6%.219

Taxpayers subject to either the 13% or 17% rate calculated their payable tax by 

subtracting the amount of tax they paid on inputs from the amount of tax owed on outputs. The 

tax owed on outputs was the sales amount times the applicable rate. Taxpayers dealing in goods 

and/or services with different tax rates were required to calculate the applicable rates separately 

for each good or service.220 If the applicable rates were not calculated separately, then the 

highest rate would be owed for all items or services. 

In the case of taxpayers engaged in importing goods, the VAT was based on “the 

composite assessable price and the tax rates set forth in Article 2 of [the] Regulations, without 

tax credit deducted.”221 The “composite assessable price” equaled the imported product’s 

dutiable value plus the customs duty plus the Consumption Tax. The payable tax was the 

composite assessable price times the applicable VAT rate.222

B. Recent Amendments to the Chinese VAT System

In January 2004, China’s State Administration of Taxation issued Circular No. 143, 

which set in place a pilot program for a consumption-oriented VAT system. Entitled Circular of 

the State Administration of Taxation on Carrying out the Work of Determination of Enterprises

 

219 See Trade Policy Review – People’s Republic of China; Report by the Secretariat, WT/TPR/S/161/Rev.1 (26 

June 2006) at p. 102, para. 134 & fn. 111 (“The 5% rate applies on all exports subject to a VAT rebate rate of 

5%; the 6% rate applies on all exports subject to a VAT rebate rates between 5% and 17% (“Circular on 

Adjusting the Export Rebate Rates”).”). 

220 See Interim Regulations at Articles 3-5. 221 See Interim Regulations at Article 15. 222 See Interim Regulations at Article 15. 
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Whose Scope of VAT Deduction is to be Enlarged, it identified eight industries in certain 

northeastern regions of China which would be allowed to deduct the VAT paid on purchases of 

fixed assets. Those industries included: 

• Equipment manufacturing; 

• Petrochemical industry (including petroleum processing, coking plant, and 

nuclear fuel processing, chemical materials, and chemical production, 

pharmaceuticals, chemical fibers, rubber produce, and plastic); 

• Metallurgy industry (including black metal smelting and rolling processing, 

and non-ferrous metal smelting and rolling processing industry); 

• Shipbuilding industry; 

• Auto manufacturing; 

• Farm products processing (including textile, leather, coat and feather or 

eiderdown processing, timber processing and timber, bamboo, rattan, palm 

and grass produce, textile, clothing, shoes and caps manufacturing, furniture 

manufacturing, paper making and paper produce, handicrafts but excluding 

tobacco and alcohol); 

• Military supplies manufacturing; and 

• High-technology industries.223

Circular No. 143 does not set out detailed rules or regulations for the implementation of 

this new VAT system nor does it specify how long the system is to remain in effect. Rather, the 

Circular provides: 

The administrations of state taxation at all levels shall attach high 

importance to it, reach a common understanding, and make a 

concerted effort to ensure that the determination work be 

completed on schedule. Meanwhile, proper publicity and guidance 

shall be made known to the taxpayers.”224

 

223 See Circular 143, Annex 1. With regard to high technology industries, the Circular indicates that such 

industries are to be identified in accordance with the scope of high and new technology as prescribed in the 

documents of the Conditions and Measures for Determination of High and New Technology Enterprises in the 

State High and New Technology Development Zones (Guo Ke Fa Huo Zi [2000] No. 324), and the Conditions 

and Measures for the Determination of High and New Technology Enterprises Outside the State High and New 

Technology Development Zones (Guo Ke Fa Huo Zi [1996] No. 018). Id. 224 See Circular 143, Section I. 
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Companies that fall within the scope of one of the eight industries in the regions are 

directed to complete a “Form for Determination of Enterprises Whose VAT Deduction Scope Is 

To Be Enlarged in accordance with the actual conditions of production and management of the 

enterprise, and apply for determination to the local administration of state taxation.”225 The 

Circular further provides: 

All levels of administrations of state taxation shall make 

determination in accordance with the Specific Scope of the Eight 

Industries in the Northeast Region temporarily. After the scheme 

for reshaping the VAT in northeast region has been approved by 

the State Council, the determination shall be made according to the 

scope prescribed specifically by the Ministry of Finance and the 

State Administration of Taxation. And marks shall be loaded in 

the database for tax collection administration and in the database of 

archives for the VAT ordinary taxpayers. In case it is difficult to 

make determination concerning certain enterprises during the 

process of determination, the tax authorities in charge may 

negotiate with the development and reform commission (or 

planning commission) of the corresponding level to determine.226

In September 2004, the State Administration of Taxation and the Ministry of Finance 

jointly issued Circular No. 156, entitled Provisions on Expanding the Qualifications of Fixed 

Asset Input VAT Deductions in the Northeast Region, which provides more detailed rules on the 

pilot VAT program for the eight industries in the selected regions. Circular 156 provides that, 

effective July 1, 2004, a qualified taxpayer could deduct the following types of input VAT that 

was paid on the acquisition of qualified fixed assets: 

• Input VAT paid in connection with the purchase of qualified fixed assets, 

including the acceptance of donations or in-kind investment; 

• Input VAT paid in connection with the purchase of goods or services needed 

for self-construction of qualified fixed assets by the taxpayer; 

 

225 See Circular 143, Section II. 226 See Circular 143, Section III. 
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• Input VAT paid on qualified fixed assets acquired by the taxpayer through a 

financial leasing transaction that is subject to the VAT; 

• Input VAT paid on transportation costs associated with the acquisition of 

qualified fixed assets.227

As one analyst concluded: 

VAT amounts to roughly half of China's tax revenue each year and 

accounts for a high percentage of the overall tax liabilities for 

many Chinese taxpayers. The high VAT burden is partly the result 

of the non-deduction treatment of fixed asset input VAT under 

China's current VAT system. It is estimated that this new change 

in the Chinese VAT system will significantly reduce such burden 

for businesses in the Northeast, making it less expensive for 

existing companies to upgrade their factories and machinery, and 

will provide a tremendous incentive for prospective investors to 

move to the region. If successful, the new VAT system will be 

eventually rolled out to the rest of China.228

In September 2006, the Ministry of Finance, the National Development and Reforms 

Commission, the Ministry of Commerce, the General Administration of Customs and State 

Administration of Taxation announced further revisions to China’s VAT system. These entailed 

revisions in the VAT export refund rates, including elimination of the refund altogether for 

exports of certain products, decreases in the refund for exports of other products and, finally, 

increases in the refund for exports of other products. 

Elimination of VAT Export Refund: 

• All non-metallic products (except salt and cement) listed in Article 25 of 

import and export Tariff Regulation, coal, natural gas, olefin, bitumen, silicon, 

arsenic, stone materials, non-ferrous metals as well as certain scrap materials. 

 

227 Ernst & Young China Update, VAT Reform in Northeast Region (October 2004). The changes announced in 

Circular 156 also include a number of restrictions on carrying over VAT deductions, the inapplicability of the 

deductions for fixed assets used in activities that are either not subject to VAT or are VAT-exempt, etc. Id. 228 Ernst & Young China Update, VAT Reform in Northeast Region (October 2004). 
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• Metallic ceramic, 25 types of pesticide and their intermediary products, 

certain finished products of leather, lead-acid battery and mercuric oxide 

battery. 

• Thin fleece of goat, charcoal, crosstie, cork products, certain processed 

primary wood products. 

Reduction in the VAT Export Refund Rate: 

• Refund rate for steel products under 142-tariff heading reduced from 11% to 

8%.229

• Refund rate for ceramic products, certain finished products of leather and 

glass products reduced from 13% to either 11% or 8%. 

• Refund rate for certain non-ferrous metallic materials has been reduced from 

13% to either 5%, 8% or 11%. 

• Refund rate for textile, furnishings, plastic, lighter, and specific wood 

products reduced from 13% to 11%. 

• Refund rate for non-mechanically propelled vehicles and certain component 

parts reduced from 17% to 13%. 

Increase in the VAT Export Refund Rate: 

• The refund rate for significant technical equipments, certain IT products, and 

bio-medical products as well as certain “encouraged” high-tech products has 

been increased from 13% to17%. 

• The refund rate for selected processed products made from agricultural 

products has been increased from 5% or 11% to 13%.230 

The reason for these changes was explained by the authorities who made the 

announcement, as follows: 

Apart from attempting to address the issues of high consumption 

and high pollution in China, Chinese high favorable balance of 

trade also contributed to the revision of VAT export refund rate. 

 

229 In April 2007, China announced that it would eliminate the VAT export rebate on many types of finished steel, 

and reduce it to 5% for more high valued products (such as tinplate, colour coated, non-alloy steel forged bars, 

silicon steels, and most types of cold reduced coil (CRC), hot dipped galvanised (HDG) and stainless steel). 

The new rebate rates would apply to all products that cleared China Customs on or after April 15, 2007. See 

Steel Business Briefing, April 11, 2007. 

230 Lex Universal Global Virtual Law Connection, Revision to the Chinese VAT Export Refund; available at 

www.lexuniversal.com/en/articles/1674. 
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The General Administration of Customs has announced that based 

on the trading data of August 2006, another record high trade 

surplus of US$18.8 billion was recorded in August 2006. This is 

the 28th consecutive month where favorable balance of trade was 

recorded. 

Facing with the continuing high favorable balance of trade that 

attracted critics from various parties, Mr. Bo Xilai, the Minister of 

the Ministry of Commerce, has indicated that China has been 

considering various ways to reduce the high favorable balance of 

trade. The recently announced revision of VAT export refund 

rates may be considered as one of China’s efforts in addressing this 

issue. 

* * * 

The revision has raised the VAT cost for businesses exporting 

“high energy consumption and high polluting” products while 

eliminating or reducing the VAT cost on the exportation of goods 

that fall under the “high technology and other encouraged 

industries.” At the same time, it is also hope that the revision 

could reduce the pressure on an upward revision of the 

Renminbi.231

In June 2007, China’s Ministry of Finance and State Administration of Taxation jointly 

issued Circular 90 (Notice Regarding the Adjustment in Export Reform Rate for Certain 

Commodities, Cai Shui [2007] No. 90) which, beginning July 1, 2007, “would cut or eliminate 

export tax rebates for 2,831 commodities representing 37 percent of the total number of items 

listed on customs tax regulations.”232 The Ministry of Finance stated that the changes were

intended “to suppress overheated export growth and ease frictions between China and its trade

 

231 Lex Universal Global Virtual Law Connection, Revision to the Chinese VAT Export Refund; available at 

www.lexuniversal.com/en/articles/1674. 232 Xinhua, China to adjust export rebate policy on 2,831 commodities (June 20, 2007); available at http://www.

gov.cn/english/2007-06/20/content_654972.htm. See also PriceWaterhouseCoopers, China VAT Alert: 

Significant Changes to Export VAT Refund Rates (June 2007) (available at http://www.pwc.com/

extweb/service.nsf/docid/99E47F780C3E0C3280257307002F762A); Deloitte & Touche, Important Changes to 

China’s Value Added Tax (VAT) Export Refund Rates (available at http://www.deloitte.com/dtt/alert/

0,1001,cid%253D164350,00.html). 
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partners.”233 In particular, China is eliminating export tax rebates on “553 ‘highly polluting 

products that consume heavy amounts of energy and resources’ such as salt, cement, and 

liquefied petroleum gas,” and reducing rebates on “exports of 2,268 commodities which ‘tend to 

cause trade frictions.’”234 Following these changes, China’s VAT rebate system will have 5 

levels – 17%, 13%, 11%, 9%, and 5%.235

C. Concerns Regarding Chinese Manipulation of the VAT

Many of China’s trading partners have expressed concerns that China has manipulated its 

VAT system in order to encourage exports of particular products and to restrict imports of other 

products. The Office of the United States Trade Representative (USTR) has cited concerns not 

only about how China’s VAT is applied to imports but also how the system is administered 

generally. 

Application of China’s single most important revenue source – the 

VAT, which ranges between 13 percent and 17 percent, depending 

on the product – continues to be uneven. Importers from a wide 

range of sectors report that, because taxes on imported goods are 

reliably collected at the border, they are sometimes subject to 

application of a VAT that their domestic competitors often fail to 

pay. * * * China’s selective exemption of certain fertilizer 

products from the VAT has also operated to the disadvantage of 

imports from the United States.236

USTR has also addressed the VAT rebate program for exports. 

 

233 Xinhua, China to adjust export rebate policy on 2,831 commodities (June 20, 2007); available at http://www.

gov.cn/english/2007-06/20/content_654972.htm. 

234 Xinhua, China to adjust export rebate policy on 2,831 commodities (June 20, 2007); available at http://www.

gov.cn/english/2007-06/20/content_654972.htm. 

235 Xinhua, China to adjust export rebate policy on 2,831 commodities (June 20, 2007); available at http://www.

gov.cn/english/2007-06/20/content_654972.htm. 236 USTR, 2006 National Trade Estimate Report on Foreign Trade Barriers, at 100. 
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China retains an active VAT rebate program for exports, although 

rebate payments are often delayed. In 2003, China announced the 

reduction of VAT rebates for exports by three percentage points 

partly in response to foreign complaints about an under-valued 

RMB. Although State Administration of Taxation officials 

reportedly plan to eliminate rebates eventually in order to increase 

tax revenues, China has continued this practice in order to spur 

domestic economic growth. In December 2004, for example, the 

Ministry of Finance (MOF) and the State Administration of 

Taxation issued a circular announcing an increase in the VAT 

rebate rate from 13 percent to 17 percent for the export of certain 

IT products, including integrated circuits, independent 

components, mobile telecommunication equipment and terminals, 

computers and periphery equipment, and numerical-controlled 

machine tools. In 2005, China adjusted the ratio of the share of the 

export VAT refund burden between the central and local 

governments, from 75-25 to 92.5-7.5. China also halted refunds 

for some products in high demand domestically in order to 

discourage their export. For example, China eliminated a 13 

percent VAT rebate for exports of steel billets and ingots, although 

it maintained VAT rebates of 11 percent to 13 percent for more 

processed steel products.237

U.S. concerns regarding China’s application of VAT policies are reviewed in greater 

detail in section VI. 

V. IMPACT OF THE CHINESE VAT SYSTEM ON U.S.-CHINA TRADE FLOWS

Section I of this paper presented an estimate of the negative economic effect on U.S. 

exporters and producers of trade with countries that impose and border-adjust value-added taxes. 

China is one of the 137 countries in the world that impose value-added taxes. This section 

estimates the impact that China’s application of its VAT policies on imports and exports has on 

U.S. exporters and producers. As reviewed in section IV, China imposes a standard import VAT 

rate of 17%, with a reduced rate of 13% on some items, and exemptions for others. China allows

 

237 USTR, 2006 National Trade Estimate Report on Foreign Trade Barriers, at 100. 
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rebates of exports at various rates -- 17%, 13%, 11%, 8% and 5% -- depending on the type of 

product exported. However, not all Chinese exports receive full rebates as VAT refunds are 

often only partial, and are subject to frequent change depending on the type of product, the cost 

of the refund, and China’s application of its trade polices.238

Notwithstanding the variations in China’s application of its import and export VAT 

policies, one can reasonably estimate the economic impact of China’s VAT policies on U.S. 

exporters and producers by calculating the VAT disadvantage based on China’s standard VAT 

rates. 

Assuming that China imposes a standard 17% VAT on imports and allows a VAT rebate 

of 13% for exports, the simple price effect is to increase the price of U.S. exports to China by 

$17 and to reduce the price of Chinese exports to the United States by $13, a result which 

disadvantages U.S. exporters in China and U.S. producers in the United States vis-à-vis 

competition with Chinese products. 

VAT Impact on Price of U.S. Imports from China and U.S. Exports to China 

(Product Value = $100) 

→ $117 →

← $87 ←

VAT = 0 VAT on imports = 17 % 

VAT rebate on export = 13 % 

 U.S. exports pay 17% VAT upon entering China 

 China exports receive a rebate of VAT and pay no VAT upon entering the U.S.

 

238 See Trade Policy Review – People’s Republic of China; Report by the Secretariat, WT/TPR/S/161/Rev.1 (26 

June 2006) at p. 117, para. 193. 
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Using 2006 trade data, and assuming that China imposes the standard VAT rate of 17% 

on imports and provides exports with a VAT rebate of 13%, a reasonable estimate of the total 

VAT disadvantage that U.S. exporters and producers experience in U.S.-China trade is as 

follows. 

U.S.-China VAT Disadvantage: 2006239

Standard 

VAT Rates 

(%) 

U.S. 2006Exports 

FAS value ($) 

U.S. 2006Imports 

Customs value ($) 

VAT Collected on 

U.S. Exports ($) 

VAT Subsidy to 

U.S. Imports ($) 

17 (import) 

13 (export) 

51,624,064,793 287,052,416,194 8,776,091,015 37,316,814,105

Total China VAT Disadvantage in 2006 $46,092,905,120 

As the table shows, Chinese goods exported to the United States received subsidies (i.e., 

VAT rebates) approximating $37.3 billion, and exports of U.S. goods to China were 

disadvantaged with VAT assessments approximating $8.8 billion. In sum, the border adjustment 

of VAT competitively disadvantaged U.S. exporters and producers of goods vis-à-vis China by 

an estimated total of $46.1 billion in 2006. Only Mexico, whose VAT disadvantage was $46.7 

billion, accounted for a larger individual country VAT disadvantage than China in 2006. 

 

239 Data sources for the table are: Import and export statistics from: U.S. Census Bureau, Foreign Trade Statistics 

(domestic exports and imports for consumption); VAT rates for China from: 2006 Customs Import Tariff 

Schedule of the People’s Republic of China; Trade Policy Review – People’s Republic of China; Report by the 

Secretariat, WT/TPR/S/161/Rev.1 (26 June 2006). 
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VI. DISPUTES AND ISSUES THAT HAVE ARISEN CONCERNING CHINA’S 

APPLICATION OF VALUE-ADDED AND OTHER INDIRECT TAXES ON 

SELECTED PRODUCTS

Moreover, China has not been satisfied with the advantages created by WTO rules on 

indirect taxation. Rather it has, for certain products, granted excessive rebates on exports or 

discriminated in the application of the VAT on imports versus domestic product. Such practices 

have resulted in the U.S. raising questions regarding possible violations by China of WTO 

obligations with respect to its application VAT and other indirect taxes and the launch of some 

dispute settlement proceedings. 

In 2000, the year before China joined the WTO, the U.S. Trade Representative’s (USTR) 

National Trade Estimate Report on Foreign Trade Barriers (NTE Report) noted that China’s 

application of value-added taxes sometimes discriminated against imports. 

Imports are sometimes subject to discriminatory application of 

China’s value-added tax (VAT), which ranges between 13 and 17 

percent, depending on the product. While the VAT is collected on 

imports at the border, domestic producers either fail to pay the 

VAT or absorb the tax without passing it on to their customers and 

then receive loans to defray the company’s losses.240

In the following year, 2001, the year that China joined the WTO, USTR’s NTE Report 

again cited China for discriminatory application of value-added taxes. 

Management of the Chinese authorities’ single most important 

revenue source – the value-added tax (VAT) – is, however, weak. 

Imports are sometimes subject to discriminatory application of the 

VAT, which ranges between 13 percent and 17 percent, depending 

on the product. In addition, while the VAT is collected on imports 

at the border, domestic producers often fail to pay the VAT. For 

example, when China re-imposed a 17-percent VAT on soybean 

meal in July 1999, soybean imports fell by over 50 percent. 

 

240 See USTR, 2000 National Trade Estimate Report on Foreign Trade Barriers, at 44. 
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Allegedly, domestic producers of crushed soybean meal apparently 

avoided the taxes and passed on the price advantage to buyers.241

In the process of China’s accession to the WTO, a number of WTO Members were also 

concerned about China’s apparent discriminatory use of value-added taxes. The Working Party 

Report states that these Members "expressed concern that some internal taxes applied to imports, 

including a value-added tax ("VAT") were not administered in conformity with the requirements 

of the GATT 1994, particularly Article III."242 Article III imposes a national treatment 

obligation on Members. The Working Party Report further "noted that China appeared to permit 

the application of discriminatory internal taxes and charges to imported goods and services, 

including taxes and charges applied by sub-national authorities."243 China responded to these 

concerns by confirming “that from the date of accession, China would ensure that its laws, 

regulations and other measures relating to internal taxes and charges levied on imports would be 

in full conformity with its WTO obligations and that it would implement such laws, regulations 

and other measures in full conformity with those obligations.244

Despite China’s assurances before accession, a number of Members, including the United 

States, have raised concerns that, even after accession to the WTO, China continued to apply 

internal taxes, such as the VAT, on a number of products in a discriminatory manner. For 

example, in its first annual report on China’s compliance with WTO commitments, USTR stated: 

Several U.S. industries have complained about the unfair operation 

of China’s VAT system. Often, Chinese producers are able to 

avoid payment of the VAT on their products, either as a result of 

 

241 See USTR, 2001 National Trade Estimate Report on Foreign Trade Barriers, at 46-47. 

242 Report of the Working Party on the Accession of China, WT/MIN(01)/3 (10 November 2001) at para. 104. 243 Report of the Working Party on the Accession of China, WT/MIN(01)/3 (10 November 2001) at para. 104. 244 Report of the Working Party on the Accession of China, WT/MIN(01)/3 (10 November 2001) at para. 107. 
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poor collection procedures, special deals or even fraud, while the 

full VAT still must be paid on competing imports. In discussions 

with Chinese officials on this issue, the United States has 

complained about the discriminatory treatment accorded to foreign 

products.245

In subsequent compliance reports and at the WTO, USTR has continued to question 

China’s discriminatory application of indirect taxes, including VAT and consumption taxes, with 

respect to certain products. In the most recent 2006 compliance report, USTR again noted that 

some U.S. industries have continued to express concerns generally about the discriminatory 

operation of China’s VAT system.246 Some specific examples of such cases are reviewed in the 

following sections. 

A. VAT on Semiconductors

In the second Trade Review Mechanism (TRM),247 an annual review of issues related to 

China’s WTO commitments, the United States formally raised the issue of China’s 

discriminatory application of value-added taxes with respect to semiconductors. The United 

States posed the following questions to China. 

Value-Added Tax Applied to Semiconductors 

2. Despite its national treatment obligations under Article III of 

GATT 1994, China applies a reduced VAT to integrated circuits 

designed or manufactured in China, while it charges the full 

17 percent VAT on imported integrated circuits. In particular, 

pursuant to State Council Document 18 and subsequent measures,

 

245 USTR, 2002 Report to Congress on China’s WTO Compliance (December 11, 2002) at 21. 246 USTR, 2006 Report to Congress on China’s WTO Compliance (December 11, 2006) at 40-41. 247 When China acceded to the WTO, its trade regime was not yet fully in compliance with WTO obligations and 

requirements. Consequently, China’s Protocol of Accession established a Transitional Review Mechanism 

(TRM) to review the progress of China’s compliance with, and implementation of, its terms of accession. See 

Protocol on the Accession of the People's Republic of China, WT/L/432 (23 November 2001) at Article 18. 

Beginning in 2002, the TRM was to be conducted annually for eight years, with a final review in the tenth year. 

To date, the WTO has conducted five TRM reviews. 
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China provides for partial refunds of the VAT paid on integrated 

circuits manufactured and/or designed in China, but provides no 

refund of the VAT paid on imported integrated circuits unless they 

were designed in China. 

(a) Please explain the reasons for the differential treatment. 

(b) Please explain how the difference in the treatment of 

imported versus domestic products under these measures is 

consistent with Article III of GATT 1994.248

In response, China argued that its VAT polices regarding semiconductors were valid 

under GATT Article III:8(b) and VAT rebates were, in essence, subsidies to domestic producers. 

The United States did not agree with this assessment and asked China to explain its argument.249

In its 2003 report on China’s WTO compliance, USTR noted that China uses VAT 

policies "to encourage domestic production in a number of industrial and agricultural sectors," 

including semiconductors.250 USTR stated that, in the case of semiconductors, China provided

 

248 Transitional Review Mechanism Pursuant to Paragraph 18 of the Protocol on the Accession of the People's 

Republic of China, Questions from the United States to China concerning Market Access, G/MA/W/51 (13 

October 2003) at 2-3. 

249 In the Trade in Goods TRM review, the United States asked: 

Value-Added Tax Policies

2. During the transitional review before the Committee on Market Access, China attempted 

to justify its value-added tax (VAT) policies on integrated circuits by citing to Article III:8(b) 

of GATT 1994. Specifically, China argued that China’s VAT rebates on integrated circuits 

were a kind of subsidy paid to domestic producers and therefore allowed by Article III:8(b). 

In the United States’ view, several prior interpretations of Article III:8(b) contradict this 

argument, including, for example, the GATT panel report in United States – Measures 

Affecting Alcoholic and Malt Beverages, DS23/R (adopted 19 June 1992), and the WTO panel 

report in Indonesia – Certain Measures Affecting the Automobile Industry, WT/DS54/R 

(adopted 23 July 1998). Please explain how China supports its interpretation of Article 

III:8(b). 

Transitional Review Mechanism Pursuant to Paragraph 18 of the Protocol on the Accession of the People's 

Republic of China, Questions from the United States to China concerning Trade in Goods, G/C//W/473 (17 

November 2003) at 2. 250 See USTR, 2003 Report to Congress on China’s WTO Compliance (December 11, 2003) at 7-8. 
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VAT rebates to domestic semiconductor producers and that this was an example of differential 

tax treatment that "raised serious WTO concerns."251

U.S. industry groups also were vocal in citing China’s semiconductor VAT as 

inconsistent with its WTO obligation of national treatment.252 For example, in 2003 comments 

to USTR regarding China’s WTO compliance, the U.S. Council on International Business 

observed: 

The Chinese government imposes a 17 percent VAT on all 

domestically produced and imported semiconductors sold in China, 

but permits domestic semiconductor producers to obtain a rebate of 

the VAT paid in excess of 3 to 6 percent, depending on the 

circumstances. As a result, imported semiconductors are subject to 

a much higher effective VAT rate than are domestic 

semiconductors benefiting from the rebate. This discriminatory 

tax treatment is a clear violation of the national treatment 

obligation of Article III of the GATT 1994, and runs counter to 

explicit Chinese commitments in the Protocol of Accession and the 

Working Party Report on China's WTO Accession to bring its 

VAT into compliance with WTO rules.253

In its 2003 WTO compliance report, USTR specifically noted that it would "continue to 

press China" on the VAT issue and would "take further appropriate actions seeking elimination 

of China’s differential tax treatment, including dispute resolution at the WTO, if necessary."254 

Subsequently, in February 2004, USTR indicated that it was actively preparing a WTO case 

against China's semiconductor VAT policy, but that it would give China “one last shot” to

 

251 See USTR, 2003 Report to Congress on China’s WTO Compliance (December 11, 2003) at 7-8. 

252 The Financial Times noted: “The Chinese tax has become the biggest international trade issue for the $70bn 

(£39bn, E57bn) US semiconductor industry, which fears the rebate is encouraging semiconductor production in 

China at the expense of US imports.” Edward Alden, US to file WTO complaint against China, FINANCIAL 

TIMES, March 17, 2004; available at http://news.ft.com/servlet/ContentServer?pagename=FT.comStoryFT/Full

Story&c=StoryFT&cid=1079419679859. 

253 U.S. Council for International Business (USCIB), Written Comments re China WTO Obligations, September 10, 

2003; available at http://www.uscib.org/%5Cindex.asp?documentID=2742. 254 See USTR, 2003 Report to Congress on China’s WTO Compliance (December 11, 2003) at 8. 
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resolve the matter.255 On March 9, 2004, in testimony before the Senate Finance Committee, 

U.S. Trade Representative Robert Zoellick stated that the United States was moving closer to 

challenging China regarding its value-added tax on semiconductors, noting: “If they don’t fix it 

very soon we’re going to bring a case.” 

On March 18, 2004, the United States formally filed the first WTO case against China 

"regarding its discriminatory tax rebate policy for integrated circuits."256 In its request for 

consultations with China, the United States summarized the issue as follows: 

China provides for a 17 per cent VAT on ICs. However, we 

understand that enterprises in China are entitled to a partial refund 

of the VAT on ICs that they have produced, resulting in a lower 

VAT rate on their products. China therefore appears to be 

subjecting imported ICs to higher taxes than applied to domestic 

ICs and to be according less favourable treatment to imported ICs. 

In addition, we understand that China allows for a partial refund of 

VAT for domestically-designed ICs that, because of technological 

limitations, are manufactured outside of China. China thus appears 

to be providing for more favourable treatment of imports from one 

Member than another, and discriminating against services and 

service suppliers of other Members. 

* * * 

The United States therefore believes that these measures are 

inconsistent with the obligations of China under Articles I and III 

of the GATT 1994, the Protocol on the Accession of the People's 

Republic of China (WT/L/432), and Article XVII of the GATS.257

 

255 USTR Warns of China WTO Case on Semiconductor VAT if No Progress by April, INSIDE US-CHINA TRADE, 

February 11, 2004. On March 9, 2004, in testimony before the Senate Finance Committee, USTR Zoellick 

stated that the United States was moving closer to challenging China regarding its value-added tax on 

semiconductors, noting: “If they don’t fix it very soon we’re going to bring a case.” See Zoellick Signals Clear 

Opposition to WTO Case on China Currency, INSIDE US-CHINA TRADE, March 10, 2004. 256 USTR press release 2004-22: U.S. Files WTO Case Against China Over Discriminatory Taxes That Hurt U.S. 

Exports (March 18, 2004). 

257 China - Value-Added Tax On Integrated Circuits, Request for Consultations by the United States, WT/DS309/1, 

G/L/675, S/L/160 (23 March 2004). 
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Following the U.S. request for consultations, several other WTO Members with an 

interest in the issue (i.e., European Communities, Japan, Mexico, and Taiwan) requested to join 

the consultations.258 China and United States held consultations on April 27, 2004 in Geneva, 

and bilateral meetings in Washington and Beijing. 

On July 14, 2004, four months after the United States requested consultations, China and 

the United States informed the DSB that they had reached an agreement, which took the form of 

a Memorandum of Understanding. Pursuant to the agreement, China agreed to take the 

following actions. 

By 1 November 2004, China will amend the measures described in 

the US consultation request (WT/DS309/1) to eliminate the 

availability of VAT refunds to firms producing ICs in China on 

their domestic sales. The effective date of these amendments will 

be no later than 1 April 2005. Until the effective date of these 

amendments, VAT refunds will be available only to integrated 

circuit enterprises certified under the measures as of 14 July 2004 

in respect of products so certified as of 14 July 2004. 

By 1 September 2004, China will issue a notice to revoke the 

measure described in the US consultation request (WT/DS309/1) 

that provides for VAT refunds on ICs designed in China but

 

258 On March 26, 2004, the European Communities requested to join the consultations. See China - Value-Added 

Tax on Integrated Circuits, Request to Join Consultations, Communication from the European Communities, 

WT/DS309/2 (30 March 2004). On March 31, 2004, Japan requested to join the consultations. See China - 

Value-Added Tax on Integrated Circuits, Request to Join Consultations, Communication from Japan, 

WT/DS309/3 (1 April 2004). On April 1, 2004, Mexico and the Separate Customs Territory of Taiwan, 

Penghu, Kinmen and Matsu requested to join the consultations. See China - Value-Added Tax on Integrated 

Circuits, Request to Join Consultations, Communication from Mexico, WT/DS309/4 (5 April 2004); China - 

Value-Added Tax on Integrated Circuits, Request to Join Consultations, Communication from Separate 

Customs Territory of Taiwan, Penghu, Kinmen and Matsu, WT/DS309/5 (5 April 2004). On April 28, 2004, 

China informed the DSB that it had accepted the requests of the European Communities, Japan and Mexico, but 

not Taiwan, to join the consultations. See China - Value-Added Tax on Integrated Circuits, Acceptance by 

China of the Requests to Join Consultations, WT/DS309/6 (28 April 2004). 
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manufactured abroad. The effective date of revocation will be no 

later than 1 October 2004.259

Ten months after signing the MOU, on October 5, 2005, China and the United States 

informed the DSB that, inasmuch as the two countries agreed that the terms of the MOU had 

been successfully implemented, they also agreed that a “mutually satisfactory solution” to the 

matter of China’s value-added tax on integrated circuits had been reached.260

B. VAT Treatment of Certain Fertilizers

The United States has repeatedly raised concern at the WTO about the discriminatory 

effect of China’s VAT policy with respect to certain fertilizer products. In 2001, China began 

exempting phosphate fertilizers from VAT except for one type of fertilizer—diammonimum 

phosphate (DAP)—that was produced in and imported from the United States. In the first TRM, 

the United States noted that China’s Circular about VAT Exemption Policy for Certain Farming 

Materials (No. 113/2001), which was jointly issued by the Ministry of Finance and the State 

Administration of Taxation on July 20, 2001, “exempts all phosphate fertilizers except 

diammonium phosphate (DAP) from China’ s value-added tax (VAT),” but that “DAP, a product 

produced in the United States, competes with similar phosphate fertilizers produced in China, 

such as monoammonium phosphate (MAP).”261 The United States pointed out that China’s 

differential tax policy discouraged use of foreign-produced DAP in favor of domestically-

 

259 Memorandum of Understanding Between China and the United States Regarding China’s Value-Added Tax on 

Integrated Circuits (July 14, 2004) (included as an attachment to China - Value-Added Tax on Integrated 

Circuits, Joint Communication from China and the United States, WT/DS309/7, G/L/675/Add.1, S/L/160/Add.1 

(16 July 2004)). 260 See China - Value-Added Tax on Integrated Circuits, Notification of Mutually Agreed Solution, WT/DS309/8, 

G/L/675/Add.2, S/L/160/Add.2 (6 October 2005). 

261 China’s Transitional Review Mechanism, Questions from the United States to China concerning Market Access, 

G/MA/W/35 (20 August 2002) at Item 19. 
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produced MAP with which DAP competes.262 The United States asked China to explain why it 

applied different tax treatment to these products and how the differences in treatment were 

consistent with its national treatment obligations under Article III of the General Agreement on 

Tariffs and Trade 1994.263

In the second TRM, the United States restated its national treatment concerns regarding 

China’s differential VAT treatment of U.S.-produced DAP and domestic MAP, noting that it had 

“raised this issue with China on several occasions, both at the WTO and bilaterally.”264 In 

response, China claimed that its differential treatment of DAP and MAP was not in violation of 

national treatment obligations because DAP and MAP were not identical or similar goods, were 

not substitutable products, and were not competitive products.265

In each succeeding TRM review, the United States has continued to raise this issue and 

express its concern that China’s differential VAT treatment of DAP and MAP is discriminatory 

and inconsistent with the principles of national treatment.266 China, however, has continued to 

 

262 China’s Transitional Review Mechanism, Questions from the United States to China concerning Market Access, 

G/MA/W/35 (20 August 2002) at Item 19. 263 China’s Transitional Review Mechanism, Questions from the United States to China concerning Market Access, 

G/MA/W/35 (20 August 2002) at Item 19. 

264 Transitional Review Mechanism Pursuant to Paragraph 18 of the Protocol on the Accession of the People's 

Republic of China, Questions from the United States to China concerning Market Access, G/MA/W/51 (13 

October 2003) at Item 3. 265 Committee on Market Access, Minutes of the Meeting Held on 20 October and 5 December 2003, G/MA/M/35 

(10 December 2003) at para. 7.13. 

266 See China’s Transitional Review Mechanism, Questions from the United States to China concerning Market 

Access, G/MA/W/58 (31 August 2004) at para. 6; China’s Transitional Review Mechanism, Questions from the 

United States to China concerning Market Access, G/MA/W/71 (6 September 2005) at para. 13; China’s 

Transitional Review Mechanism, Communication from the United States, G/MA/W/78 (18 September 2006) at 

para. 6. 

See also USTR, 2007 National Trade Estimate Report on Foreign Trade Barriers at 85: 

In 2001, China began exempting all phosphate fertilizers except diammonium phosphate 

(DAP) from the VAT. DAP, a product that the United States exports to China, competes with
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maintain that its differential VAT treatment of DAP and MAP is justified and that it “had 

currently no intention to change the system.”267

C. Consumption Taxes on Various Products

China’s consumption tax “applies to a range of consumer products, including spirits and 

alcoholic beverages, tobacco, cosmetics and skin and hair care preparations, jewelry, fireworks, 

rubber, motorcycles and automobiles.”268 In the first TRM, the United States noted its concern 

that China used different methods for calculating consumption taxes on domestic and imported 

products which resulted in higher taxes being imposed on imported products. In particular, the 

United States stated: 

Consumption Tax Applied to Imported Goods

Under the Provisional Regulations on Consumption Tax, which 

have been in effect since 1993 and have not been amended since 

China acceded to the WTO, China uses a different tax base to 

compute consumption tax for imported products and domestic 

products. For domestic products, the tax base for domestic 

products is the sales amount (apparently the ex factory price). 

(Provisional Regulations, Article 5.) This amount is multiplied by 

the consumption tax rate to derive the consumption tax due. In 

contrast, for imported products, Article 9 sets the tax base as the 

“composite assessable value,” which is defined as (dutiable value + 

customs duty), divided by (1 – consumption tax rate). The 

resulting amount is then multiplied by the consumption tax rate to 

derive the consumption tax due.269

 other phosphate fertilizers produced in China, particularly monoammonium phosphate. Both 

the United States Government and U.S. producers have complained that China has employed 

its VAT policies to benefit domestic fertilizer production. 

267 Committee on Market Access, Minutes of the Meeting Held on 4 October 2006, G/MA/M/42 (14 November 

2006) at para. 7.4. 

268 USTR, 2002 Report to Congress on China’s WTO Compliance (December 11, 2002) at 22. 

269 China’s Transitional Review Mechanism, Questions from the United States to China concerning Market Access, 

G/MA/W/35 (20 August 2002) at Item 20. 
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The United States asked China to explain how this different tax treatment was consistent 

with national treatment requirements under GATT 1994.270 In the second TRM, China answered 

that it used different tax formulas for imports and domestic products in order to equalize their tax 

treatment. In particular, China stated: 

In China, taxable value for the purpose of imposing consumption 

tax included a consumption tax factor, i.e.: taxable value = (cost + 

profit)/(1 - consumption tax rate). Such a calculation method 

applied to both imported goods and domestic goods. The 

consumption tax factor was put into the taxable value while 

calculating and levying consumption tax on either imported or 

domestic products. Due to such a method, the consumption tax 

factor was taken into account when the selling price of domestic 

products was being determined. Thus, since the taxable value of 

domestic products already included a consumption tax factor, the 

corresponding consumption tax was the taxable value multiplied 

by the tax rate. Since the import value of imported goods did not 

include a consumption tax factor, such a value was converted into 

a taxable value that contained a consumption tax factor. The 

consumption tax was then worked out based on the converted 

taxable value. Otherwise, the value of imported goods would not 

contain a consumption tax factor, while that of domestic goods 

would, which would lead to unfair treatment in relation to tax 

imposition on imported and domestic products.271

Although the United States has continued to claim that China’s consumption tax 

regulations raise national treatment concerns and has repeatedly urged China to revise its 

regulations, China has not done so. Most recently, in the 2006 report concerning China’s WTO

compliance, USTR stated: 

 

270 China’s Transitional Review Mechanism, Questions from the United States to China concerning Market Access, 

G/MA/W/35 (20 August 2002) at Item 20. 

271 Committee on Market Access, Minutes of the Meeting Held on 20 October and 5 December 2003, G/MA/M/35 

(10 December 2003) at para. 7.14. 
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Consumption Taxes

National treatment concerns also continue to arise in connection 

with China’s consumption tax regulations, which first went into 

effect in 1993 and apply to a range of consumer products, 

including spirits and alcoholic beverages, tobacco, cosmetics and 

skin and hair care preparations, jewelry, fireworks, rubber, 

motorcycles and automobiles. Under these regulations, China uses 

different tax bases to compute consumption taxes for domestic and 

imported products, with the apparent result that the effective 

consumption tax rate for imported products is substantially higher 

than for domestic products. Since China’s accession to the WTO, 

the United States has raised this issue with China, both bilaterally 

and during the annual transitional reviews conducted by the WTO 

Committee on Market Access and the Council for Trade in Goods. 

To date, China has not revised these regulations. The United States 

will continue to pursue appropriate revisions of these regulations in 

2007.272

D. Border Trade VAT Policy

Another VAT issue that has been raised repeatedly is China’s VAT policy with respect to 

border trade with Russia. According to the USTR, “China maintains a Sino-Russia border trade 

policy, issued in 1996, that reduces the VAT by one-half for a number of products imported from 

Russia in certain border regions.”273 During the process of accession, some WTO Members 

“stated that it should be made clear that China would apply the requirements of the WTO 

Agreement and its other accession commitments throughout China's entire customs territory, 

including border trade regions, minority autonomous areas, Special Economic Zones ("SEZs"),

 

272 USTR, 2006 Report to Congress on China’s WTO Compliance (December 11, 2006) at 41. See also USTR, 

2007 National Trade Estimate Report on Foreign Trade Barriers, at 92-93: 

China’s 1993 consumption tax system continues to raise concerns among U.S. exporters. 

Because China uses a substantially different tax base to compute consumption taxes for 

domestic and imported products, the tax burden imposed on imported consumer goods 

ranging from alcoholic beverages to cosmetics to automobiles is higher than for competing 

domestic products.

273 Subsidies, Request from the United States to China Pursuant to Article 25.8 of the Agreement on Subsidies and 

Countervailing Measures, G/SCM/Q2/CHN/9 (6 October 2004) at para. 22. 
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open coastal cities, economic and technical development zones and other special economic areas 

and at all levels of government.”274 In response, China “confirmed that the provisions of the 

WTO Agreement ... would be applied uniformly,” including in border trade regions.275 

However, in its first China compliance report, USTR noted that “China continues to 

generate MFN and other concerns through the manner in which it provides preferential import 

duty and value-added tax (VAT) treatment to certain Russian products under the auspices of 

border trade.”276 In the second TRM, the United States noted that, although China had removed 

boric acid and twenty other products from the list of imports from border areas that could benefit 

from preferential treatment in the form of reduced import duties and/or VAT, “China 

nevertheless continues to provide preferential treatment to imports of other products from border 

areas.”277 The United States again asked China to “explain how this preferential treatment is 

consistent with China’s WTO commitments, as set forth in Article I of GATT 1994 (mostfavoured nation treatment), Part XIV of Annex 5A to China’s Protocol of Accession (where 

China stated that it would eliminate preferential import duties for border trade) and Section 2(A) 

of China’s Protocol of Accession (uniform administration of trade regime).”278 China replied 

that it believed that its border trade polices were in compliance with its WTO commitments and 

MFN principles. 

 

274 Report of the Working Party on the Accession of China, WT/MIN(01)/3 (10 November 2001) at para. 71. 

275 Report of the Working Party on the Accession of China, WT/MIN(01)/3 (10 November 2001) at para. 73. 276 USTR, 2002 Report to Congress on China’s WTO Compliance (December 11, 2002) at 21. 277 Transitional Review Mechanism in Connection With Paragraph 18 of the Protocol on the Accession of the 

People's Republic of China, Questions from the United States to China concerning Trade in Goods, G/C/W/473 

(17 November 2003) at paras. 6-7. 

278 Transitional Review Mechanism in Connection With Paragraph 18 of the Protocol on the Accession of the 

People's Republic of China, Questions from the United States to China concerning Trade in Goods, G/C/W/473 

(17 November 2003) at para. 7. 
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The WTO did not provide for the specific definition, forms and 

territorial scope of border trade, and only set forth a fundamental 

provision that "the provisions of this Agreement shall not be 

construed to prevent advantages accorded by any contracting party 

to adjacent countries in order to facilitate frontier traffic". 

Therefore, special preferential treatments for border trade were 

allowed by the WTO, and advantages and conveniences accorded 

by a contracting party to adjacent countries were not inconsistent 

with the basic principle of the WTO, i.e. MFN. China had 

committed in its accession protocol to apply WTO Agreements and 

the protocol across the whole customs territory including border 

trade areas, and would develop and implement laws, regulations 

and other measures in relation to trade in goods in a uniform, 

impartial and rational manner. Border trade policies had been 

uniformly implemented and enforced in the provinces and regions 

in border areas of China as an important part of China's foreign 

trade policies.279

In subsequent TRMs in 2004 and 2005, the United States restated its concern that China’s 

border trade policy provided preferential treatment to imports of Russian products that was 

inconsistent with China’s WTO commitments.280 In the most recent 2006 TRM, the United 

States again urged China to eliminate its preferential border trade policy. 

In connection with transitional reviews in past years, the United 

States has expressed concern about imports from border areas that 

continue to benefit from preferential treatment in the form of 

reduced import duties and/or VAT pursuant to measures such as 

Bulletin No. 27 and Bulletin No. 39, issued by the General 

Administration of Customs on 1 May 2003 and 11 June 2003, 

respectively. In explaining its concerns, the United States has 

referenced China’s WTO commitments, as set forth in Part XIV of 

Annex 5A to China’s Protocol of Accession (where China stated 

that it would eliminate preferential import duties for border trade) 

and paragraph 2(A) of China’s Protocol of Accession (where

 

279 Report of the Council for Trade in Goods on China's Transitional Review, G/L/664 (4 December 2003) at para. 

3.10. 280 See Transitional Review Mechanism Pursuant to Paragraph 18 of the Protocol on the Accession of the People's 

Republic of China, Questions from the United States to China, G/C/W/499 (11 November 2004) at para. 10; 

Transitional Review Mechanism Pursuant to Paragraph 18 of the Protocol on the Accession of the People's 

Republic of China, Questions from the United States to China, G/C/W/530 (12 October 2005) at para. 10.
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China extended its obligations under the WTO Agreement and the 

commitments that it made in its Protocol of Accession to border 

trade regions as part of its commitment to apply uniformly its trade 

regime). Has China eliminated preferential border area treatment 

for any products during the past year? Does China have any plans 

to review its preferential treatment of imports from border 

areas?281

E. Assessment of VAT on Antidumping Duty

In the 2006 TRM, the United States raised the issue of China’s formula for calculating 

antidumping duties and whether it improperly assessed VAT on the antidumping duty as well as 

on the entered value of the subject imported product. The United States explained: 

In recent anti-dumping determinations, BOFT {Bureau of Fair 

Trade} has published a formula for calculating the amount of antidumping duty collected upon entry at the port for products subject 

to anti-dumping measures, i.e., Deposit Amount = (Duty Paid Price 

x AD Deposit Rate) x (1 + import VAT rate). It is the United 

States’ understanding that this formula assesses the value added 

tax (VAT) on the anti-dumping duty in addition to the entered 

value of the merchandise. Please explain whether BOFT in fact 

instructs the Customs Administration to collect VAT on the antidumping duty and, if so, which provision of the Anti-Dumping 

Agreement allows for this action.282

In response to the concern of the United States, the Chinese delegate stated that: 

 

281 Transitional Review Mechanism Pursuant to Paragraph 18 of the Protocol on the Accession of the People's 

Republic of China, Questions from the United States to China, G/C/W/560 (6 November 2006) at para. 21. See 

also USTR, 2007 National Trade Estimate Report on Foreign Trade Barriers, at 87:

China’s border trade policy continues to generate MFN and other concerns. China provides 

preferential import duty and VAT treatment to certain products, often from Russia, apparently 

even when those products are not confined to frontier traffic as envisioned by Article XXIV 

of GATT 1994. China addressed some of these concerns in 2003 when it eliminated 

preferential treatment for boric acid and 19 other products. Nonetheless, it appears that large 

operators are still able to take advantage of border trade policies to import bulk shipments 

across China’s land borders into its interior at preferential rates. In addition, U.S. industry 

reports that China continues to use border trade policies to provide preferential treatment for 

Russian timber imports, to the detriment of U.S. timber exporters. 

282 Transitional Review Mechanism in Connection With Paragraph 18 of the Protocol on the Accession of the 

People’s Republic of China, Questions from the United States to China, G/ADP/W/459 (5 October 2006) at 

para. 9. 
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{I}t was his personal understanding that, under the existing or 

current textual framework in China, the tariff which included 

duties in the cases of anti-dumping, safeguards and others was

subject to VAT in China. China recalled that the Anti-Dumping 

Agreement itself did not have very clear provisions on this 

particular issue, and was willing to exchange further views with 

Members on this matter.283

In reply, the United States drew China's attention to Article 18.1 of the Antidumping 

Agreement which provided that "no specific action against dumping of exports can be taken 

except in accordance with this agreement."284 The United States stated that “application of the 

VAT rate to a number which included the dumping duty meant that, by virtue of an affirmative 

finding of dumping, the result would not only be the amount of duty owed, i.e. the dumping duty, 

but that there would be the secondary effect of an increase in the amount of the VAT.”285 Thus, 

the United States believes that China’s assessment of VAT on the antidumping duty constitutes a 

“clear example of a specific action against dumping inconsistent with the provisions of the 

agreement, in particular Article 18.1.”286

F. VAT Refund on Imported Capital Equipment Used for 

Production of Products for Export

In October 2004, in a submission to the WTO Committee on Subsidies and 

Countervailing Measures, the United States identified eleven Chinese programs that “may 

provide subsides contingent upon export performance, which are prohibited under Article 3.1(a) 

 

283 Committee on Anti-Dumping Practices, Minutes of the Regular Meeting Held on 25-26 October 2006, 

G/ADP/M/31 (2 April 2007) at para. 87 (emphasis in original). 

284 Committee on Anti-Dumping Practices, Minutes of the Regular Meeting Held on 25-26 October 2006, 

G/ADP/M/31 (2 April 2007) at para. 93. 285 Committee on Anti-Dumping Practices, Minutes of the Regular Meeting Held on 25-26 October 2006, 

G/ADP/M/31 (2 April 2007) at para. 93. 

286 Committee on Anti-Dumping Practices, Minutes of the Regular Meeting Held on 25-26 October 2006, 

G/ADP/M/31 (2 April 2007) at para. 93. 
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of the SCM Agreement.”287 One of the subsidy programs identified was the provision of VAT 

refunds on imported capital equipment that is used to manufacture products for export. 

Enterprises that import capital equipment used exclusively to 

produce export products are eligible to receive a full refund of 

customs duties and VAT on the imported capital equipment. 

Enterprises receive 20 per cent of the tax refund each year the 

equipment is used exclusively for export production, resulting in a 

full tax refund at the end of a five-year period. Enterprises that 

wish to receive this tax refund are investigated every year for five 

consecutive years to verify that the equipment is used only for 

export production.288

In February and April 2007, the United States requested consultations with China 

regarding this measure.289 After the consultations did not resolve the issue, the United States 

requested establishment of a dispute settlement panel.290

G. VAT Rebate on Purchases of Domestic Machinery and 

Equipment by FIEs

In October 2004, in a submission to the WTO Committee on Subsidies and 

Countervailing Measures, the United States identified two Chinese programs that “may provide 

subsides that are contingent upon the use of domestic over imported goods, which are prohibited 

under Article 3.1(b) of the SCM Agreement.”291 One of these subsidy programs was the

 

287 Subsidies, Request from the United States to China Pursuant to Article 25.8 of the Agreement on Subsidies and 

Countervailing Measures, G/SCM/Q2/CHN/9 (6 October 2004) at para. 1. 288 Subsidies, Request from the United States to China Pursuant to Article 25.8 of the Agreement on Subsidies and 

Countervailing Measures, G/SCM/Q2/CHN/9 (6 October 2004) at para. 8. 

289 See China – Certain Measures Granting Refunds, Reductions or Exceptions from Taxes and Other Payments, 

Request for Consultations by the United States, WT/DS358/1 (7 February 2007) at 3 (last bullet); China – 

Certain Measures Granting Refunds, Reductions or Exceptions from Taxes and Other Payments, Request for 

Further Consultations by the United States, Addendum, WT/DS358/1/Add.1 (2 May 2007) at 3 (last bullet). 

290 See China – Certain Measures Granting Refunds, Reductions or Exceptions from Taxes and Other Payments, 

Request for the Establishment of a Panel by the United States, WT/DS358/13 (13 July 2007) at 3 (No. 9). 

291 Subsidies, Request from the United States to China Pursuant to Article 25.8 of the Agreement on Subsidies and 

Countervailing Measures, G/SCM/Q2/CHN/9 (6 October 2004) at para. 13. 
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provision of VAT rebates on purchases of domestic equipment by foreign-invested enterprises 

(FIEs). 

Pursuant to the Notice of the Trial-Implementation Measures for 

the Administration of Tax Refund on Domestic Equipment 

Purchased by Enterprises with Foreign Investment, issued by the 

State Administration of Taxation on August 20, 1999, a full VAT 

rebate is provided to manufacturers that purchase domestically 

made machinery and equipment. This incentive will be available 

through the end of 2010.292

In February and April 2007, the United States requested consultations with China 

regarding this measure.293 After the consultations did not resolve the issue, the United States 

requested establishment of a dispute settlement panel.294

H. VAT Rebate for Domestic Equipment Purchases by FIEs 

Engaged in Particular Projects

In the fifth TRM, the United States noted that China provided VAT rebates to foreigninvested enterprises (FIEs) if they purchased equipment from domestic sources but that China 

did not provide similar rebates for equipment purchased from foreign sources. 

On 24 July 2006, SAT and NDRC jointly issued the Trial 

Measures for the Administration of Tax Rebate on Domestically 

Manufactured Equipment in Foreign-Invested Projects. This 

measure provides for VAT rebates in connection with purchases of 

domestically manufactured equipment by foreign-invested 

enterprises engaged in transportation or residential project 

construction or the exploration and development of offshore

 

292 Subsidies, Request from the United States to China Pursuant to Article 25.8 of the Agreement on Subsidies and 

Countervailing Measures, G/SCM/Q2/CHN/9 (6 October 2004) at para. 14. 

293 See China – Certain Measures Granting Refunds, Reductions or Exceptions from Taxes and Other Payments, 

Request for Consultations by the United States, WT/DS358/1 (7 February 2007) at 1 (1st bullet); China – 

Certain Measures Granting Refunds, Reductions or Exceptions from Taxes and Other Payments, Request for 

Further Consultations by the United States, Addendum, WT/DS358/1/Add.1 (2 May 2007) at 2 (1st bullet). 

294 See China – Certain Measures Granting Refunds, Reductions or Exceptions from Taxes and Other Payments, 

Request for the Establishment of a Panel by the United States, WT/DS358/13 (13 July 2007) at 1 (No. 1). 
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petroleum. Domestically manufactured equipment refers to 

equipment produced in China that is classified as a fixed asset, as 

well as to accessories and parts listed in the equipment 

procurement contract. No VAT rebate is available in connection 

with purchases of imported equipment under this measure.295

The United States questioned whether China’s differential treatment of imported versus domestic 

products with respect to VAT rebates was consistent with the national treatment principles of 

Article III of GATT 1994.296 

In July 2007, the United States requested establishment of a dispute settlement panel with 

respect to certain Chinese “measures granting refunds, reductions or exceptions from taxes and 

other payments.” In the request, the United States identified this VAT measure as inconsistent 

with the SCM Agreement when read in connection with the measure described in section G 

above.297

I. Agricultural VAT Policies

A report by the U.S. Department of Agriculture (USDA) states that, with respect to 

agricultural products, China assesses a value-added tax but also maintains a number of VAT 

exemptions “both to promote certain sectors and because it is ‘impractical’ for Chinese farmers, 

often poorly educated and with very small land holdings, to keep track of purchase and sales

 

295 Transitional Review Mechanism Pursuant to Paragraph 18 of the Protocol on the Accession of the People's 

Republic of China, Questions from the United States to China, G/C/W/560 (6 November 2006) at para. 10. 

296 Transitional Review Mechanism Pursuant to Paragraph 18 of the Protocol on the Accession of the People's 

Republic of China, Questions from the United States to China, G/C/W/560 (6 November 2006) at para. 10. 

297 See China – Certain Measures Granting Refunds, Reductions or Exceptions from Taxes and Other Payments, 

Request for the Establishment of a Panel by the United States, WT/DS358/13 (13 July 2007) at 1 (No. 1). 
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VAT.”298 The report also found that China’s VAT exemption policies regarding agriculture 

result in lower effective VAT rates being applied to domestic versus imported products to the 

disadvantage of imported agricultural products.299

China’s exceptions to the VAT for the agricultural industry fall into five categories: farm 

inputs, farm sales, processor imputed VAT, processor exempted products, and import product 

exemption. Except for the import product exemption, imports do not benefit from any of these 

VAT exceptions. The USDA found: 

The impact is that there is an applied VAT and an effective VAT 

where the applied VAT is applicable to imports and the effective 

VAT is applicable to domestic products, adjusting for the VAT 

exceptions. The {USDA’s} analysis finds that where the applied 

VAT is 13 percent, the effective VAT on domestic products varies 

between 3.23 and 6.23 percent. While the effective VAT will vary 

depending on, among other things, market prices, profit margins 

and marketing costs, there is a disparate impact on imports, making 

these VAT exemptions inconsistent with the World Trade 

Organization's principles of "National Treatment."300

The USDA also found that, given the difference between applied and effective VAT rates 

for agricultural products, any VAT rebate (based on applied VAT rates) received upon export of 

the agricultural product that exceeded the effective VAT rate would be an export subsidy. 

To promote exports, including agriculture-based exports, many are 

entitled to a VAT rebate. For many agricultural products the 

rebate is based on an indexed prices [sic] instead of market prices 

which can serve as an export subsidy. . . . Exclusive of indexing,

 

298 USDA Foreign Agricultural Service, VAT Protections: The Rest of the Story, GAIN Report No. CH7018 

(March 19, 2007) at 3; the USDA report is available at http://home.stat-usa.gov/agworld.nsf/505c55d16b88351a

852567010058449b/870268e1bf623a19852572a500776821/$FILE/CH7018.PDF. 299 USDA Foreign Agricultural Service, VAT Protections: The Rest of the Story, GAIN Report No. CH7018 

(March 19, 2007) at 3. 

300 USDA Foreign Agricultural Service, VAT Protections: The Rest of the Story, GAIN Report No. CH7018 

(March 19, 2007) at 3. 
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because the VAT rebate is based on the applied VAT, the 

difference between the applied VAT and the effective VAT 

effectively is an export subsidy. . . . {W}here the effective VAT 

is 3.23 or 5.8 percent, depending on whether the exporter buys 

from a farmer (or from government stocks), or from a commercial 

trader, the effective export subsidy is between 7.2 and 9.77 

percent.301

VII. POTENTIAL UNILATERAL, BILATERAL AND MULTILATERAL ACTIONS 

THAT COULD BE TAKEN TO ELIMINATE BORDER TAX DISCRIMINATION 

OF U.S. EXPORTERS AND PRODUCERS

The foregoing sections of this paper reviewed the competitive and economic 

disadvantages that U.S. exporters and producers experience as a result of the differential 

treatment of direct and indirect taxes under international trade rules, and examined past U.S. 

efforts to address and resolve the problem. Having reviewed the issue and prior attempts to 

eliminate the discrimination to U.S. exporters and producers, the question presented is what 

actions could be taken now, either unilaterally, bilaterally or multilaterally, to correct the trade 

disadvantages that result from the international rules that permit border adjustment of indirect 

taxes but not of direct taxes? Without expressing a preference for, or estimating the likelihood of 

success of, any particular action, the following is a broad range of potential actions that could be 

considered in an effort to resolve the problem of disparate border tax treatment. 

 

301 USDA Foreign Agricultural Service, VAT Protections: The Rest of the Story, GAIN Report No. CH7018 

(March 19, 2007) at 5. 
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Unilateral Bilateral Multilateral 

 Congress could reform the 

U.S. tax system to include 

indirect taxes such as VAT 

and other consumption-based 

taxes that would be border 

adjustable under current 

international trade rules 

 Congress could enact the 

Border Tax Equity Act of 

2007 (H.R. 2600). This bill, 

introduced on June 6, 2007, 

would authorize imposition of 

a tax on imports from any 

country that employs indirect 

taxes and grants rebates of the 

same upon exports. In 

addition, the bill would allow 

compensatory payments to 

eligible U.S. exporters to 

neutralize the discriminatory 

effect of such indirect taxes 

paid by such exporters if the 

U.S. trade negotiating 

objectives with respect to the 

equalization of border tax 

treatment of direct taxes are 

 The U.S. could negotiate 

agreements with individual 

VAT-system countries that 

would govern border tax 

adjustments of direct and 

indirect taxes in bilateral 

trade. Such provisions could 

include: 

o Less than full rebates of 

indirect taxes 

o Agreement that VAT 

country would not 

increase border adjustment even when indirect 

tax rates are increased 

 The U.S. could attempt to 

negotiate changes to 

GATT/WTO agreements so 

as to treat direct and indirect 

taxes equally – that is, either 

allow imposition of direct 

taxes (such as income taxes) 

on imports and rebates of 

direct taxes on exports, or 

eliminate the preferential 

border adjustment treatment 

accorded to indirect taxes 

under current trade rules. 302 

 

302 Professor Hausman believes that equalizing trade rules is the “more realistic” and “more economically rational” 

approach: 

{G}iven the lack of any economic basis for the current distinction applied under WTO rules, 

it is unclear why the United States should be required to adapt its tax system to comply with 

outmoded international legal constructs. 

While also presenting certain challenges, changing international rules to apply consistent 

treatment to various national tax systems would appear both the more realistic and more 

economically rational approach -- particularly given that ongoing WTO talks as part of the 

"Doha Development Round" would appear to provide a forum to negotiate such changes. 

Consistent economic treatment could be accomplished either by eliminating border 

adjustment for all taxes (including both direct and indirect), or permitting adjustment for all 

taxes. The complexity of determining appropriate border adjustments for direct taxes (such as 

the corporate income tax), as well as the potentially undesirable reward to high tax 

jurisdictions under a system allowing adjustment of all taxes, suggests that elimination of any 

border adjustments may be the preferable course. Moreover, this outcome would allow goods 

and services to trade with the smallest number of distortions at the border, and promote the 

flow of imports and exports. While additional analysis is warranted in this regard, the 

fundamental need to eliminate the existing distortions should be a high priority of economic 

policy. 

Jerry Hausman, An Economic Analysis of WTO Rules on Border Adjustability of Taxes (May 2006). 
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Unilateral Bilateral Multilateral 

not met in WTO negotiations. 

 Congress could enact 

legislation authorizing the 

imposition of import taxes on 

services and allowing rebates 

of the same on exports. 

Currently, no WTO rules 

prohibit the taxing of 

imported services or the 

rebating of such taxes on 

exported services.