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Redrawing the rules on European tax19th of May 2011
Business leaders in Europe are being urged to have their say in a consultation that could lead to the most radical shake-up of the VAT system in more than 40 years. The European Commission wants a “simpler, more robust and efficient” structure that will reduce the impact of the economic crisis on national budgets and help drive the recovery. Hartley Milner reports.
If you were sat before a clean sheet of paper and asked to redraw the rules on VAT, how would you go about it? That, broadly, is the challenge for businesses set out in an EC Green Paper on the future of the tax. Issues flagged up for debate include slashing red tape around transactions, reducing the compliance burden and cost for businesses and combating an alarming rise in fraud, which is depriving the EU of more than 100 billion euros a year.
But the review goes even further, questioning fundamentals of the system such as whether goods and services should be taxed in the country of their origin or where they are purchased (their destination). We could also see fewer exemptions from the tax and a single VAT rate across all member states.
Businesses have until May 31 to make their views known to the Commission.
Launching the consultation, taxation commissioner Algirdas Semeta said: “We need a VAT system for the 21st century – simple, modern and effective. VAT is paid by citizens, collected by businesses and is a main source of revenue for member states, so everybody has an interest in this tax.
“I would urge people to make their voices heard in this consultation so that we can ensure the future VAT system works better for everyone.”
Early response to the Green Paper has been lukewarm in some quarters, with cynicism about the chances of getting an agreement among the 27 member countries and the time it would take for any change to be implemented.
However Stephen Coleclough, VAT partner at UK-based professional services firm PricewaterhouseCoopers, said his clients were more welcoming once it was explained that they were being offered a “genuine opportunity” to rewrite the rules from scratch.
“Businesses do want change,” he said. “What they are saying is, ‘we don’t care what the rules are, as long as they are certain and the same all over Europe'. For instance, there are a number of examples and cases where you can pay double VAT or no VAT because different countries have a different approach to the tax.
“In the cleaning industry, it may be that cleaning buildings is treated as a normal service in one country and as a land-related service in another. Why? Whatever the treatment, it should be the same everywhere.
“There is a lot to look at here, so to simplify the process what I am saying to clients is read the Green Paper itself and the 30 odd questions and ask your various business lines what are their three biggest problems with VAT in Europe and what would they do to change them. Then, if you do nothing else, send these findings to the Commission.”
The Commission acknowledges that with the squeeze on public finances across the EU and slump in direct and property-related taxes the VAT share of total receipts will have been ramped up further in many member states. Several countries have indeed recently increased their rates or are considering doing so, either in response to the economic troubles or as part of a longer term shift towards indirect rather than direct taxation.
The move towards indirect taxation is justified in the Green Paper by the relative efficiency of consumer-targeted taxes, with consumption providing a “broader and more stable” base for collecting revenues than profits and incomes. This broader base allows for lower rates, thereby reducing the distorting impact of taxation and boosting growth and employment.
Burden on business
A simpler VAT system would also reduce operational costs to taxpayers and tax administrations, so further boosting government coffers, the Commission says. And it recognises that complying with the tax can cause a major headache for businesses. It may be a levy on the consumer but much of the administration is done by businesses, which must submit VAT returns and face penalties if they fail to complete them correctly.
Key elements in the system such as obligations, deduction and rates can be particularly daunting for small and medium-sized enterprises that cannot always afford the expertise to deal with increasingly complex VAT rules. Compliance costs for businesses in this sector are relatively higher than for large companies, particularly when they conduct trade across the EU.
A common complaint is that it is easier to import from outside the EU than do business within the community.
New Age technologies could come to the rescue, however, by providing simpler and more efficient ways of collecting the tax that would reduce the burden on businesses and make them more competitive. They could also help combat tax evasion resulting from weaknesses in the present system, including ‘missing trader fraud’, where goods are bought VAT-free in one country and sold at VAT inclusive prices in another without the duty being declared.
Stressing the role of technology, Coleclough said: “Whatever they do here is likely to take more than five years to come in, and just imagine the advances that will have been made over that period. There is a good chance, for example, that cash will be nearly irrelevant. If you are going to the London Olympics next year, don’t bother to take cash – it is all going to be Oyster card technology and developments such as that.”
One area likely to spark lively debate in coming months is taxing products and services currently exempt from the tax, which the Commission says is contrary to the principle of VAT as a broad-based tax.
Most EU states choose to have lower duties on goods and services they think are socially or economically important. For example, 25 countries have reduced or zero rates on books and newspapers.
Other areas such as education, food, postal services and medical care are subject to reduced rates or zero-rated, if not exempt altogether. Products including financial services and gambling may have been exempt due to technical difficulties collecting the revenues or because they are subject to other forms of taxation.
“There is a separate project looking at exemptions in financial services, but I suspect these will stay more or less in place,” said Coleclough. “The area of exemptions that might change is in the public sector, such as education, health, training and trade unions. These will change, I suspect, because many of them were written for the world as it looked in the 1970s when activities such as postal and telephone services were government-owned.”
Origin v destination
A system based on goods being taxed only in the country of origin has been on the cards for some time. But this would require a higher degree of harmonisation of VAT rates and a clearing system to channel receipts to the country where the consumption takes place, with member states collecting a part of each other’s VAT revenue.
“Maybe with the euro and European Central Bank, you could get a system close to that,” said Coleclough. “But I think, given that VAT is a tax on consumption, the right option would be the destination system, where you have VAT where your customer is, not where you are. That requires you to know the VAT treatment where your customer is, but with greater harmonisation and advances in technology that should not be difficult.”
On rates, the Commission points to wide variations throughout the EU, with member countries currently levying a standard rate of between 15 and 25 per cent. And it argues that a single rate on all goods and services would provide a useful tool for maximising economic efficiency.
It accepts, though, that the variations in standard and reduced rates do not appear to disrupt the single market. This is mainly due to correction mechanisms being in place, but they make the system significantly more complex.
And cross-border transactions involving goods and services at a reduced rate create uncertainty and additional compliance costs for business. This is particularly a problem when a company becomes liable for VAT in a member state in which it is not established. More transparency with a binding online database of goods and services under a reduced rate “could be envisaged”, the consultation paper states.
And it highlights inconsistencies in rates applied to comparable products or services. For instance, member states may apply a reduced rate to certain cultural products, but have to apply the standard rate to competing online services such as e-books and newspapers.
•The Green Paper is available at http://ec.europa.eu/taxation_customs/common/consultations/tax/2010_11_future_vat_en.htm and views are invited from all stakeholders who deal with the tax, including consumers, tax practitioners and tax experts, as well as businesses. Priority areas for action will be set out on the Commission website at www.ec.europa.eu at the end of the year.