Traceable Payments and VAT Design: Effects on VAT Performance

This article studies the role of cashless payments in third-party reporting for the purposes of value-added tax (VAT) compliance management. In economies with well-developed financial institutions, the traceability of digital payments could serve as a deterrent to sales suppression even in the absence of explicit policies utilizing electronic payments for tax enforcement. Using country-level data for the European Union, this article shows that a 1% increase in the value of payments made with cards to gross domestic product (GDP) improves VAT performance by 0.05–0.09%. This effect is found to be strongest in economies characterized by low level of trust in public institutions, and does not vary with the extent of third-party reported information used by tax administrations, or the presence of a large-scale VAT invoice matching system. The result is robust to a rich number of characteristics controlling for various aspects of VAT’s design.