All 27 European Union member states have adopted new rules for their value-added tax system. The VAT changes, which went into effect on January 1, 2010, apply to all companies doing business in the EU and involve new rules for taxation and reporting. Many companies are now starting to feel the impact of the new VAT rules on their business. This article explains the changes and how they can affect your business.
New VAT Rules
The European Commission presented the legislative changes as the new VAT Package. The provisions have an impact on establishing the place of taxation for services and create additional reporting requirements. The new main rule on business-to-business (B2B) services specifies that VAT is due in the country of consumption rather than the country where the supplier is located. For business-to-consumer (B2C) services, VAT will continue to be assessed in the member state in which the supplier is established. The VAT Package, which was adopted by member states at the Economic and Financial Affairs Council (Ecofin) in February 2008, also provides for a new electronic procedure for businesses to reclaim the VAT paid in a member state other than the one in which they are established.
Different Rules for B2B and B2C
The most significant impact on businesses is the new place of taxation rules, which determine where the services are supplied. This determination depends not only on the nature of the service supplied but also on the status of the customer receiving the service. A distinction must be made between a taxable person acting as such (a business acting in its business capacity) and a non-taxable person (a private individual who is the final consumer). Only once the exact nature of the service and the status of the customer are known can the place where the services are supplied be correctly determined. The supply of services between businesses (B2B services) is generally taxed at the customer’s place of establishment, while services supplied to private individuals (B2C services) are generally taxed at the supplier’s establishment.
A few examples illustrate how the new rule works. For B2B services supplied by a company in Amsterdam to a business client in Rotterdam, the place of supply of services is Rotterdam. As the supplier is established in the Netherlands, he will charge Dutch VAT to his client. For B2B accountancy services supplied by a British company to a customer whose place of business in the Netherlands, Dutch VAT must be charged. If the British supplier is not established in the Netherlands, the Dutch customer will account for VAT under the reverse mechanism (“self-assessment”). For B2C consultancy services provided by a supplier established in Belgium to a private customer who resides in Germany, Belgian VAT must be charged. A supplier established in France will need to charge French VAT to a business customer established in Austria who acquires legal services to be used for his private purposes.
Be Aware of the Exceptions
So far, it seems straightforward; however, the main rule also has many exceptions and caveats. For example, B2B and B2C services connected to immovable property are taxed where the immovable property is located. If you stay in a hotel in Paris, you will have to pay French VAT, even if you are a non-established business in France. B2C services consisting of valuations of or works on movable tangible property are taxed at the place where the services are physically delivered. As a private individual, if your car breaks down in Italy and is repaired there, Italian VAT is charged. B2B and B2C passenger transport is taxed according to the distances covered in each member state and can include multiple countries. B2B and B2C services relating to cultural, artistic, sporting, scientific, educational, entertainment and similar activities are taxed at the place where those services are physically carried out.
Another wrinkle is that member states are permitted to adopt “use and enjoyment rules” to prevent double taxation, non-taxation or distortion of competition. Member states may decide to shift the place of supply of services that are either inside or outside the EU to inside or outside their territory when the effective use and enjoyment of the service differs from the place of supply as determined by the general rules, the rules for hire of means of transport or rules for certain B2C services to a customer outside the EU. For example, the United Kingdom has implemented a use and enjoyment rule to cover the hire of goods. When a UK company leases a machine for a job in Switzerland from another UK company, no UK VAT is due because the effective use occurs in Switzerland — outside the EU. This is an exception to the main rule. In situations where a use and enjoyment rule has not been adopted, interesting results can occur. Consider, for example, a German company that supplies to a Swedish company the service of transporting goods from the U.S. to China. Even though the transport takes place fully outside the EU, under the general VAT rules this service is taxable in Sweden, at the place where the customer is established. In the future, Sweden may adopt a use and enjoyment rule to avoid taxing such a transport taking place outside its territory and outside the EU.
Additional Reporting and Tax Codes
The compliance issues of managing the new VAT rules in financial systems are adding even more challenges for businesses. For starters, new VAT codes have to be set up in financial systems, such as SAP, Oracle or other legacy systems. New codes are required to handle the many new situations created by the VAT Package. For example, a B2B service provider needs to create an output tax code with “no VAT” (or the appropriate output tax code when the customer is a private individual), and for the B2B service recipient, a new “reverse charge” tax code with the tax rate for services that is valid in the relevant country has to be defined. Another example: when no VAT is charged, the invoice needs to show a message indicating that the customer needs to account for VAT (i.e., the reverse charge). These changes will all need to be addressed in the financial systems.
Finally, another noteworthy business impact is on the reporting and filing requirements. Today, the EC Sales List (ESL) is only used to report goods transactions shipped from one European Union member state to another. A report needs to be filed that reflects both the dispatch and acquisition of the goods. As part of the VAT Package, certain intra-EU supplies of services will now need to be reported on the ESL as well. In general, services supplied to VAT-registered businesses and taxable under the reverse charge arrangements according to the rules in the customer’s country need to be included. In most member states, the ESL needs to be submitted per quarter; however, some require it per month. Unfortunately, financial systems are not routinely set up to handle this and will have to be reconfigured.
Alvarez & Marsal Taxand Says:
If you are a seller of services in the EU, you need to make sure that you follow the new rules and issue correct invoices. As the buyer, you need to make sure that your service provider issues VAT-compliant invoices and that you process the purchase transactions correctly.
The new rules will create some challenges for companies who operate in Europe, and the changes will not stop here. More changes have already been announced and will be implemented in 2011, 2013 and 2015. Please stay tuned!
Erik van der Hoeven
Senior Director, Seattle
Cory McClure, Senior Associate, contributed to this article
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