Border Adjustment Tax

DEFINITION of 'Border Adjustment Tax '

A border adjustment tax is a short name for a destination-based cash flow tax (DBCFT). It is a value added tax levied on imported goods. It's It is also called a border-adjusted tax, border tax adjustment or destination tax. Exported goods are exempt from tax; imported goods sold domestically are subject to the tax.

BREAKING DOWN 'Border Adjustment Tax '

The border adjustment tax (BAT) levies a tax depending on where a good is consumed rather than where it is produced. For example, if a corporation ships tires to Mexico where they will be used to make cars, the profit the tire company makes on the tires it exports isn’t taxed. However, if an American car company purchases tires from Mexico for use in cars made in America, the money it makes on the cars (including the tires) sold in the U.S. is taxed. In addition, the company cannot deduct the cost of the imported tires as a business expense. The idea of the tax was developed by Alan J. Auerbach in two papers from 1997 and 2010.

This tax is designed to even out imbalances in money flows across borders and reduce corporations' incentive to off-shore profits. This makes the DBCFT a tax and not a tariff: though it is a tax on imports and an export subsidy, "The key point is that the rate of border adjustments is paired and symmetric.  Thus, the effects on trade of these two components – the import tax and the export subsidy – are offsetting.  Adopting them together imposes no trade distortions even though adopting either separately would do so."

Critics of the tax argue that prices will rise on imported goods, for example from China, and that the result will be inflation. The tax's creators respond that the surge in foreign demand for U.S. exports will strengthen the value of the dollar; in turn, a strong dollar would increase the demand for imported good, so that the net effect on trade is neutral.