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I read with dismay this week that the Labour Party is contemplating removing GST from fresh fruit and vegetables. It will seem such a sensible policy to a great many people, and may therefore attract a lot of votes. As somebody who wants rid of this present Government, that caused some of my dismay.

But the main part of my dismay was because exempting fruit and vegetables from GST – or exempting anything else – is seriously bad policy.

OK, I may be biased: I chaired the committee which designed New Zealand’s GST back in 1985. At the time, the instructions I received from Roger Douglas, then the Minister of Finance, was to design the GST which minimized the compliance costs for small businesses. Large businesses, he explained, could handle any complexity in the tax system because they typically have sophisticated and computerized accounting systems. Small businesses not so much.

It took no genius to work out that the best way of keeping the new GST as simple as possible was to have no exceptions: with all final sales subject to GST, the task of working out how much revenue to hand over to the Inland Revenue Department is a very simple exercise.

Too often, those who favour exempting some items from GST assume that GST is just another name for a sales tax. But that is a very long way from the truth. GST is levied every time a product or service is sold.

So, for example, a landowner farming some cattle and growing, say, some kiwifruit, pays GST on his/her rates, on the purchase of fertilizer and sprays, on any hay purchased from a neighbour, and so on. When milk and fruit are sold, the farmer charges GST to the dairy factory and the fruit wholesaler and claims back from the IRD the GST paid on rates and other inputs. The dairy factory pays GST on goods and services purchased, and charges GST to the wholesaler, and so on.

It sounds complicated, but as long as all goods and services are included in the GST, and GST is charged at the same rate, it is a very simple system to operate. And it prevents almost all attempts to evade the tax. But as soon as some items, such as fruit and vegetables, are made exempt from the tax, the system becomes vastly more complex. The retailer can no longer claim back all the GST paid on the items he/she has bought – such as electricity, commercial rent, etc. And the farmer has to work out what part of his fertilizer bill, and his rates bill, is on account of fruit and vegetables production, and therefore not reclaimable, and so on.

To be sure, those compliance costs could be reduced if, instead of exempting fruit and vegetables from GST, fruit and vegetables were “zero-rated” for GST, as exports are. If fruit and vegetables were zero-rated, retailers selling them would be able to claim back all the GST they paid in buying them from wholesalers (or orchardists). And zero-rating is probably what any government proposing to “exempt” fruit and vegetables would actually be intending.

But there are two other reasons for not scrapping GST on fruit and vegetables. First, if fruit and vegetables are exempt (or zero-rated), why not also children’s clothing, and books, and doctor’s bills, and shoes? In no time, the GST becomes vastly more complicated and hugely more expensive, with more time and effort devoted to compliance with the tax. And to compensate for the loss of revenue from exempting or zero-rating fruit and vegetables, government could well be forced to increase the rate of GST charged on other items, so that we could end up with the kind of above 20% GST rates that some European governments charge.

Secondly, exempting or zero-rating fruit and vegetables is a very inefficient way of helping those who most need it. The people the Government presumably most wants to help are those on lower incomes – perhaps, the bottom third of the income distribution. But most of the money spent on fruit and vegetables is spent by those on higher incomes, so by scrapping GST on all fruit and vegetable sales, most of the benefit actually goes to those on higher incomes, precisely the reverse of what a Labour Government would presumably want.

And those objections are quite apart from the problem of defining what fruit and vegetables are. Frozen berries? Fruit salad sold in restaurants? Nuts? Pre-cut salads?

No, scrapping GST on fruit and vegetables, or anything else, would be a seriously bad mistake – complicating the tax system, encouraging political pressure to exempt other items, and providing most dollar benefit to those on higher income.

Don Brash

28 July 2023

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