What Is a DBCFT Tax and How Does It Work?

The Destination-Based Cash Flow Tax, or DBCFT, was a proposed corporate tax system that represented a shift from how corporate income is taxed. It was built upon two ideas: the tax would be levied based on the location of consumption rather than production, and the tax base would be a company’s cash flow, not its accounting profit. This framework was part of the 2016 House Republican policy paper “A Better Way.” The proposal, which aimed to replace the existing corporate income tax structure, was debated before being abandoned in 2017 and was not enacted into law.

The Destination-Based Principle

The “destination-based” component of the DBCFT would have altered where tax is applied by implementing a border adjustment. A country’s authority to tax would have been tied to the final destination of goods and services—where they are consumed. This stood in contrast to “origin-based” systems, which tax profits based on where products are made or where a company is headquartered.

This would have been achieved through two mechanics related to international trade. First, revenues generated from exports would have been excluded from a company’s taxable base. A business selling domestically produced goods to a foreign customer would not report that revenue for tax purposes, which was intended to eliminate the incentive for companies to relocate profitable activities overseas.

The second mechanic of the border adjustment would have addressed imports. The cost of any imported goods or services would not have been deductible for the business that purchased them. If a U.S. company bought raw materials from another country to use in its manufacturing process, the cost of those materials could not be subtracted from its revenues.

Proponents argued that these border adjustments would be neutralized by a corresponding adjustment in currency exchange rates. In theory, if the U.S. adopted a DBCFT with a 20% rate, the U.S. dollar was expected to appreciate by a similar amount, canceling out the tax system’s effects. However, if the currency adjustment was incomplete or delayed, the tax could have functioned as a temporary tariff and subsidy, leading to economic disruptions.

The Cash-Flow Principle

The “cash-flow” aspect would have redefined the taxable base by moving from accounting profit toward real-time cash movements. Under a traditional corporate tax, when a company purchases an asset like machinery, it must capitalize it and deduct its cost over several years through depreciation. The DBCFT would have replaced this with immediate expensing, allowing a business to deduct the entire cost of a capital investment in the same year the purchase was made.

While the DBCFT was never adopted, its principle of immediate expensing influenced the Tax Cuts and Jobs Act of 2017 (TCJA). The TCJA implemented 100% bonus depreciation, a provision that similarly allowed businesses to immediately deduct the full cost of eligible assets. This provision has begun to phase out, with the rate dropping to 60% in 2024 and scheduled to decrease to 40% in 2025.

The cash-flow principle also would have extended to business financing. In a traditional income tax system, interest paid on loans is a deductible business expense. The DBCFT would have eliminated this feature, meaning interest expenses would not have been deductible, and interest income received would not have been taxable. This aimed to eliminate the tax code’s bias toward debt financing.

Calculating the Taxable Base

To calculate the taxable base, a company would start with its total domestic revenue and subtract its operational costs and capital expenditures. Wages and salaries would remain fully deductible, as would payments to other domestic businesses. The cost of any imported goods or materials would not be deductible.

Consider a hypothetical U.S. manufacturing company. It generates $10 million in revenue, with $3 million from domestic sales and $7 million from exports. It incurs $1 million in wage costs, $500,000 for domestic raw materials, and $400,000 for imported components. During the year, it also invests $1 million in a new assembly line.

Under a DBCFT, its taxable base would be calculated by starting with its $3 million in domestic revenue. From this, it would subtract the $1 million in wages, the $500,000 in domestic materials, and the $1 million for the new assembly line. The $7 million in export revenue is excluded, and the $400,000 cost of imports is not deductible, resulting in a taxable base of $500,000.

Key Distinctions from Other Tax Systems

The DBCFT framework contained features that set it apart from traditional corporate income taxes. Corporate income taxes are origin-based, taxing profits generated from production within a country’s borders. In contrast, the DBCFT was a destination-based proposal, taxing consumption that occurs within those borders.

This distinction led to further differences in the tax base calculation. A corporate income tax is based on net profit, which allows for the gradual deduction of capital investments through depreciation and the deduction of interest expenses. The DBCFT was based on cash flow, which would have allowed for immediate expensing of capital investments but disallowed any deduction for interest payments.

When compared to a VAT, the DBCFT shared the feature of being a destination-based consumption tax. Both systems tax domestic consumption by exempting exports and taxing imports. However, a difference emerged in the treatment of labor costs. Under a standard VAT system, businesses cannot deduct the wages they pay to employees when calculating their tax liability.

The DBCFT, in contrast, would have allowed for the deduction of employee wages and salaries from the tax base. This feature would have made it a tax on consumption minus labor costs, which is economically equivalent to a tax on profits and rents. Because wages were deductible, the direct burden of the tax would have fallen on the returns to capital.