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Five years of rapid VAT evolution: How have predictions held up?

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Recent years have seen striking changes in the VAT landscape, both in China and overseas, in relation to the scope of the tax, its mode of operation and the technology underpinning it. Lachlan Wolfers reviews a series of predictions made in 2014.

At a KPMG global conference in Hampshire, UK, held on February 24-25 2014, a small group of KPMG's indirect tax leadership team formulated the following propositions around the future of indirect taxes to 2020. These propositions were hotly debated at the time, with an almost incredulous response from many of those attending. Now, just over five years later, it is timely to look back and see if these predictions have proved to be correct or not.

In so doing, we are not embarrassed by the fact that a small number of these predictions proved to be spectacularly wrong, primarily because this adds balance, reality and credibility to those predictions we clearly got right. In an overall sense, we are stunned by the accuracy of the correct predictions, though the precise timing of their coming to fruition has differed slightly from our original estimates – some earlier than expected, some later.

This has meant that for tax practitioners, the past five years have been a time of immense transformation and change, and it is reassuring to realise that we not only predicted these changes, but in many cases we embraced them. Building on this track record, we have set out a series of further predictions in the sister articles: Future of VAT: Continued evolution and increasing significance and VAT and technology: The first fully automated tax?

Here, in this article, for ease of reference the term VAT (value-added tax) is used to apply equally to a GST (goods and services tax).

What do these past predictions tell us?

Many of these past predictions fit into two broader categories: (1) predictions as to the growth of indirect taxes – either by way of new countries adopting VAT; the expansion of scope of indirect taxes; or increases in indirect tax rates; and (2) the impact of big data, data and analytics, and technology – in terms of the impact on the preparation, filing, auditing or verification of transaction-level data that forms the basis of a taxpayer's VAT obligations.

While our correct prediction of these two broad trends underlies the relatively high success rate of our more specific predictions, what is perhaps also interesting to observe is the increased influence of both the BIC countries (Brazil, India and China) on global indirect tax developments, and of countries with relatively new VAT systems. When tax experts typically think of VAT, they generally regard the 'home' of the tax as being in the EU, which is of course true because VAT initially grew out of France in 1954, and then developed throughout the European Union (then the European Economic Community) during the late 1960s and 1970s, before being truly globalised in the 1990s and 2000s. The EU is also the region with the highest VAT rates in the world, and therefore remains at the epicentre of how indirect taxes are managed within most large multinationals.

However, because of the requirement for consensus amongst EU member states (28 at the time of writing, likely to be 27 shortly after publication), the ability to institute change in the operation of VAT throughout the EU can be more challenging. Furthermore, many countries that have only recently introduced a VAT, have learned lessons from those that have gone before them.

What we now see, and this may be a little confronting to those based in the EU, is that the source of change and innovation in the operation of VAT systems throughout the world may no longer be the EU. Instead, many of those countries that have adopted modern VAT systems, such as New Zealand, Canada, Australia and Singapore, may be regarded as among the leaders in this area. We also have countries like India, with its adoption of software to enable the pre-filling of returns and invoice matching; China, which applies VAT to financial services as its default model, as well as taxes on certain C2C transactions (in real estate); and Brazil, China and India, with their highly-regulated government invoicing systems that demonstrate remarkable ingenuity in the development of their VAT systems.

In short, the future of indirect taxes from a policy development, administration and technology and systems perspectives, may lie outside the EU. It is quite conceivable that measures adopted in, say, the BIC countries or in smaller jurisdictions without legacy systems, may be a more reliable signpost to the future.

Having said that, the EU has remained steadfast to the fundamental principles of a VAT as compared with the BIC countries – enshrining concepts of fiscal neutrality (driven by the key principles of an internal market and free competition) and VAT, as a consumption tax, into the first VAT directive and its substitutes and in the case law of the European Court of Justice.

Proposition (2014)

Assessment

Comments

Indirect tax will be charged at the place of consumption

Highly accurate

At the time, this was not a terribly bold prediction given that several countries had implemented measures designed to align the collection of VAT with the place at which consumption takes place. However, aspects of the rules in the EU had still not evolved. For example, rules seeking to tax electronically supplied services within the EU were still based on the location of the supplier until 2015.

There will be a customs duty regime for services

Right idea, wrong tax

At the time, many of us foretold the demise of customs duties, but as of 2019-20 and in the midst of an era of heightened trade tensions and Brexit, customs duties are clearly on the ascendancy.

However, what prompted this prediction at the time was the beginning of the digitisation of service delivery – for example, consumers no longer purchasing CDs, DVDs, software, newspapers and the like in tangible form; 3D digital printing was also in its infancy. Interestingly, while this prediction is clearly not accurate as regards customs duties, we have still seen a considerable expansion of the customs duty base to capture the value of services or intangibles which are related to goods – for example, product warranties and guarantees, and the value of trademarks and other IP rights.

The broader point we were seeking to make with this proposition was the rise of taxes on cross-border digitised services, and with the advent of both VAT measures for electronically supplied services, as well as digital services taxes, it is a case of saying that the trend was observed correctly, but the tax through which it would be implemented was not.

Every country has a VAT regime

Highly accurate

VAT now applies in more than 160 countries throughout the world. Aside from the US, there are only a handful of relatively small economies without a VAT system either already implemented, or scheduled for implementation.

Proliferation of new and old indirect taxes that you will own

Accurate, and beginning to really emerge

The introduction of digital services taxes, new environmental taxes, and other ‘miscellaneous’ forms of indirect taxes (often industry specific, such as proposals for financial transaction taxes) continue to grow. What many of these taxes have in common is that they are consumption based, and therefore typically ‘owned’ by the indirect tax function within the organisation.

Indirect tax rates accelerate dramatically

Accurate, but stabilising

For a short period after this prediction was made, VAT rates ended their significant run of increases in many countries in the wake of financial and economic crises. However, VAT rates have since largely plateaued from 2015-18, with the unweighted average standard VAT rate of OECD countries remaining stable (OECD’s Consumption Tax Trends 2018, p. 45). Notwithstanding, an average increase could still be observed in certain regions, for example, Africa (KPMG indirect tax rates table, 2019). It now appears that VAT rates in many European countries are already at a natural high, and governments are seeking to increase VAT revenues by other means, while rates in the Asia-Pacific region may still have room for further increases.

‘We know where you are’: use and enjoyment provisions are here to stay

Highly accurate

Use and enjoyment provisions essentially allow for the imposition of VAT if the relevant consumer ‘uses and enjoys’ the relevant service in that jurisdiction. This principle underpins much of the OECD guidelines for determining the place of consumption.

‘From paper to data’

Highly accurate

This statement was intended to capture the shift from paper-based invoicing, to a more data-driven approach. It also encapsulates the shift from document-based analysis carried out by tax auditors, to the use of data and analytics techniques.

No more periodic returns – tax will be settled in real time

Highly accurate, but way ahead of its time

Even in 2019-20, only a handful of countries pre-fill VAT returns, or otherwise require point of sale tax collection. This prediction clearly has another five years or more to really come to fruition, but remains as accurate a prediction now as when it was made in 2014.

Big data will close the VAT gap

Accurate, but not as successful as it could be

According to a September 2019 press release issued by the European Commission, the VAT gap across the EU fell by €8 billion ($8.8 billion) to €137.5 billion in 2017, and as a percentage it fell from 12.2% to 11.2%. In simplistic terms, it means that around 11.2% of all VAT revenue theoretically collectible is not being collected. While the reduction in this percentage which has been achieved is certainly a positive step forward, this is one of those predictions that will likely take some time before even more significant inroads can be made. Clearly, the broader shift away from cash-based economies to a cashless society will provide the means for tax authorities to plug the VAT gap. Right now, tax authorities around the world typically fit into three categories: (1) those that do not have the data but wish they had it; (2) those with the data but without the skills (yet) to fully interrogate it; and (3) those with the data and the ability to interrogate it. Expect more and more tax authorities to move up the curve over the next few years.

The tax transparency debate will shift to indirect taxes

Not really accurate

At the time of this prediction, the tax transparency debate for corporate taxes was in its infancy. That debate is now in full swing, but is yet to really shift to indirect taxes. Perhaps that is because the role of business in indirect taxes is as a tax collector, with the true imposition of the tax falling on end consumers.

Interestingly, in some ways the tax transparency debate in corporate taxes has suffered from a lack of understanding of the balance between direct and indirect taxes. For example, some news chapters have criticised certain companies in the energy and natural resource industry for their perceived lack of corporate tax contributions, in circumstances which ignores their very substantial contribution of indirect taxes, especially excise-based taxes.

Data quality and analysis will be the new audit battleground

Accurate, and beginning to really fully emerge

Similar to the prediction on big data closing the VAT gap, tax authorities are yet to have optimised their data and analytics capabilities, though this will change. However, as of now, with the rise of e-invoicing through government systems as well as real-time (or near) reporting, this is increasingly putting pressure on tax functions to get the data right the first time.

You won’t control all your own data anymore

Highly accurate

Whether it be the tax authorities obtaining access to your data (increasingly on a real-time basis), or third parties, data control continues to be a major issue with broader impacts than tax.

Your data will become very interesting to others

Highly accurate

Similar to the above comment.

Indirect tax legislation will become written with data analytics in mind

Highly accurate, but still only just emerging

We already see this with rules written to deal with B2C supplies of digital services. For example, in the European Union (Council Regulation 1042/2013, Chapters 24b(d) and 24f), to determine the place of supply of certain digitised services, the service provider needs to obtain two non-contradictory pieces of evidence about the location of the consumer. The adoption of similar ‘data points’ in other areas of VAT will surely also occur.

You will be redundant by 2020!

Well, are you?

This statement was intentionally provocative and not really intended to be taken too literally at the time. However, the broader point being made was that technology and data, and analytics capabilities, would render many tax professionals redundant.


Lachlan Wolfers

wolfers-lachlan.jpg

Partner, Tax

KPMG China

Hong Kong SAR

Tel: +852 2685 7791

Mobile: +852 6737 0147

lachlan.wolfers@kpmg.com

Lachlan Wolfers is the national leader of indirect taxes for KPMG in China, and since 2019 he has also been the global head of indirect taxes for KPMG.

Before joining KPMG China, Lachlan was the leader of KPMG Australia's indirect taxes practice and the leader of KPMG Australia's tax controversy practice.

Lachlan led KPMG's efforts in relation to the VAT reform pilot programme in China. During the course of this work, he provided advice to the Ministry of Finance (MOF), the State Taxation Administration (STA) and other government agencies in relation to several key aspects of the VAT reforms, including the application of VAT to financial services, insurance, real estate and business transfers, as well as other reforms relating to the introduction of advance rulings in China.

Lachlan was formerly a director of the Tax Institute, which is the most prestigious tax professional association in Australia. In this role, he was frequently invited to consult with the Australian Taxation Office and Commonwealth Treasury on tax issues, as well as consulting with government officials from both China and the US about indirect tax reform.

Before joining KPMG, Lachlan was a partner in a major law firm. He has extensive experience in a broad range of taxation and legal matters. He has appeared before the High Court of Australia, the Federal Court of Australia and the Administrative Appeals Tribunal, including in the first substantive GST case in Australia.

Lachlan is a noted speaker on VAT issues and has presented numerous seminars for various professional associations, industry groups and clients on the VAT reforms in China.


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