Value added tax (VAT) constitutes a major source of revenue for national budgets of the Member States of the European Union. However, the VAT system, which is based on legislation adopted at European level and applied at national level, suffers from numerous shortcomings which do not make it fully efficient and compatible with the requirements of a true single market.

In response to the European Commission's consulation paper Taxand evaluates the current VAT system and possible ways forward to strengthen its coherence as a single market and capacity as a revenue raiser whilst reducing the cost of compliance. In particular, we review the treatment of cross border supplies, as well as other key issues addressing tax neutrality, the degree of harmonisation required in the single market and reducing "red tape" whilst ensuring VAT revenues for Member States.

Taxand's Take
The current provisions of the VAT Directive can lead to varying interpretations across EU Member States. Clarity is therefore required regarding reduced rates and exemptions to ensure taxable persons / transactions are treated the same way within the EU.

The main purpose of EU VAT is to achieve harmonisation of the EU VAT systems. The goal is to achieve a market in which domestic and intra-EU supplies are treated equally, encouraging economic growth in the EU, providing certainty to benefit both businesses and tax authorities.

Cross border transactions

The current VAT treatment of cross border transactions (B2B) creates a number of issues such as legal uncertainty, additional administrative burden, interpretation regarding the applicable VAT rates with domestic purchases and opportunity for fraudsters to abuse the system.

These issues can be prevented by:

• applying a total reverse charge mechanism for cross border transactions, i.e. goods and services
• leveeing VAT on a EU basis.

With regard to levying VAT on a EU basis, the European Commission could investigate whether the EU VAT can grow into a real EU tax. If VAT is no longer calculated based on a Directive and levied on a EU country level, but instead based on a Regulation and levied as a ―federal tax by the EU (like customs duties), it could help to reduce the issues experienced by the current EU VAT system.

Holding activities and exempted activities

Another issue with VAT systems occurs with the VAT treatment of:

• holding activities
• exempted activities.

The VAT treatment of these activities may lead to a distortion within the internal market, ie different VAT treatment by the EU Member States. Moreover, VAT taxable persons may experience legal uncertainty because of the different VAT treatment of these activities.

The problems occurring with these activities can be resolved by:

• providing guidance of these issues at an EU level
• EU Member States and the local Tax Authorities delivering consistent treatment of these rules.

Gaming activities are a clear example where EU VAT rules are out-dated and should be revised. The basic principle of VAT, i.e. harmonisation of VAT within the EU, must not be forgotten when revising these VAT rules around holding and exempted activities.

Deduction of input VAT

The right to deduct input VAT is one of the weaknesses of the current system. As quoted in the ABC-report of 1962, the right to deduct input VAT should not be linked with the invoice, but with the actual payment of the VAT by the supplier (receiver of VAT).

Linking the deduction with the actual payment of VAT will be a great step forward in combating fraud, e.g. carrousel fraud. The current ICT-systems should help create such a system.

In summary

The EU VAT system is in need of an update and further research is required to reduce uncertainty, complexity and administrative burden. Specifically relating to:

• cross-border transactions
• holding activities / exempted activities
• the right to deduct input VAT
• the different models on how to collect VAT.

Read Taxand's full response to the ECs Green Paper on the Future of VAT here

Your Taxand contact for further queries is:
Roelof Vos
T. +31 20 301 80 27
E. roelof.vos@vmwtaxand.nl