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CALCULATING THE OPTIMAL SMALL BUSINESS EXEMPTION THRESHOLD FOR A U.S. VAT

Most countries with a VAT have a tax exemption for small businesses that have taxable sales below a certain threshold. The exemption reduces both compliance costs for small businesses and administrative costs for the government. We use a static analysis of the U.S. economy to determine the optimal level of taxable sales for this threshold and analyze the potential behavioral response by businesses. For a 10 percent VAT rate, we find that the optimal level for the threshold in the United States is $200,000, and that behavioral responses may be significant close to the threshold.