The controversial border adjustment tax is a key revenue-generating provision of the tax reform blueprint advocated by Republican leaders of the House Ways and Means Committee. So far, no tax reform bill has been introduced to Congress, but President Trump is reportedly warming up to the concept of border adjustability. Here are the details of this potential provision and how it’s expected to affect U.S. manufacturers, if enacted.

Understanding the Basics

Currently, global businesses sell more in the United States than they produce here. Under existing tax law, businesses pay taxes on income from production in the United States. If the border adjustment tax is enacted, businesses would pay taxes on income from sales in the United States. In addition, the border adjustment tax would apply to imports but not exports.

Under the border adjustment proposal, domestic costs incurred to make exported products would remain deductible. However, costs incurred to purchase imported goods or services would either be taxed directly or would be nondeductible.

A border adjustment tax isn’t the same as a border tariff, which President Trump had previously suggested imposing on firms that import goods to the United States. Tariffs are charged on products from foreign countries, which typically lead to higher import prices and reduced foreign trade.

Predicting the Effects

Some economists expect the net effect of the proposed border adjustment tax to be trade neutral. The Tax Foundation, an independent nonprofit tax policy organization, reports that, if enacted, a border adjustment tax is not expected to decrease buying power for U.S. consumers. Despite an expected increase in prices, border adjustability would be expected to strengthen the value of the U.S. dollar and increase domestic demand for Made-in-America products.

Likewise, the Tax Foundation doesn’t expect the tax adjustment proposal to provide a windfall to U.S. exporters. Demand for their products is expected to be lower in foreign countries because the U.S. dollar would grow stronger compared to foreign currencies.

The proposed border adjustment tax is expected to generate more than $1 trillion in federal tax revenue over the next 10 years, according to the Tax Foundation. In addition, border adjustability would simplify the tax rules for companies with international operations and reduce economic incentives for U.S. manufacturers to relocate to countries with lower tax rates and shift income abroad.

Recognizing Potential Downsides

Critics point out that a border adjustment tax could potentially violate the rules of the World Trade Organization. If the proposed border adjustment tax is signed into law, the United States could possibly nullify its existing double-tax treaties with global trade partners and bring retaliatory actions from other countries.

Moreover, companies in certain industries, such as retailers and oil refiners, say a border adjustment tax on imports would harm them, despite a stronger U.S. dollar. More than 120 trade groups have banded together to launch the “Americans for Affordable Products” campaign. The coalition claims that the proposed border adjustment tax would significantly increase consumer prices and unfairly punish companies that rely on low-cost overseas suppliers.

Congress is considering a gradual phase-in of the proposed border adjustment tax. Doing so would give companies time to understand the changes and modify their supply chains to limit any negative effects.

Waiting for Tax Reform

We’ll continue to monitor tax reform efforts in Washington, including any border adjustability provisions. For more information on how the proposal, if enacted, would affect your manufacturing company and its supply chain decisions, please contact a member of our Global Tax Service team.