The reform plan, published on October 4 2017, is accompanied by a proposal to adapt the VAT Directive, a proposal to adapt the VAT Implementing Regulation and a proposal to amend the regulation on administrative cooperation and the fight against fraud. These proposals lay the foundation for the definitive VAT regime, introduce the concept of a certified taxable person (CTP) and introduce some quick solutions to the current system. Therefore, these are the first, but not the last, proposals to introduce the definitive VAT regime for cross-border trade.
VAT as we know it today emulates the tax created in France in the 1950s. The TVA (Tax sul le valeur ajoutée) was established after several attempts to create a neutral tax for businesses, which affected (only) consumption, was easy to apply (and therefore easily controlled) and stimulated production growth and investments. The taxes applied starting from 1917, on the other hand, did not meet these requirements:
They did not apply to small businesses (e.g. artisans and cooperatives). The exemption encouraged the subjects to remain small;
They allowed the deduction (according to the revenge-deduction mechanism as we know it today) only for the raw materials incorporated in the asset sold; thus discouraging investments in slow-moving production factors and creating a duplication of taxation since, in addition to the impossibility of deducting the tax at the time of the purchase of the instrumental asset, the depreciation rate of these was added to the final cost of the finished product, on which the TVA was charged at the time of consumption.
This is the tax that was adopted by the six founding member states of the European Economic Community (EEC). following the first (67/227/EEC) and second (67/228/EEC) European Directive.
Immediately the weakness inherent in the functioning mechanism of VAT was highlighted, in which a subject (transferor/lender), who is liable to pay the tax, does not pay the amount due and another person (assignee/client) has the right of credit towards the Treasury. If the non-payment of the tax arises from real tax fraud, aimed at placing the goods on the market without paying the tax, the subjects involved in the fraudulent operations can sell the goods to the final consumer at a lower price (as they are not burdened by VAT) to that of the market, creating distortion to competition and going, therefore, in the opposite direction to that of the creation of a common and free market.
This weakness was revealed especially in the aftermath of the demolition of the borders from 1993.
The absence of customs duties to collect taxes at the time of import and the lack of harmonisation of tax rates between the various member countries has required a temporary solution for the collection of the tax in transnational transactions: it was therefore decided to tax B2B intra-community purchases at destination.
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In its first report on the functioning of VAT in intra-community trade (COM (1994) 515), the EC highlighted how the taxation mechanism at destination was somewhat vulnerable and subject to fraudulent behaviour by community operators. Subsequently, the EC clearly stated: The identified VAT fraud mechanisms showed that the exemption from import VAT when import is followed by a supply or an intra-community transfer can be abused and is one of the weak points of the current rules.
The VAT system for cross-border supply of goods has existed since 1993 and was envisaged as a temporary system, before the definitive VAT system was established.
At the time, the idea was that the supply of goods should be subject to VAT in the member state of origin (for example, if the goods were transported in relation to the supply in the country of departure).
If the customer was a taxable person established abroad, they could offset the VAT on that sale as deductible VAT in their VAT return (in another member state) regardless of the origin of the goods. It is up to the customer's member state and the member state of the supplier to settle the balances between them. This mechanism is defined as "compensation".
However, due to a lack of trust between member states and technology that was not so developed, the transitional system was implemented instead. Under the transitional system the principle of origin applies. However, if the goods are transported from one member state to another in relation to the supply and the customer is a taxable person, the supply is so-called non-taxable. The client must report an intra-community acquisition in the member state of arrival, paying local VAT in that member state. If you have full right to deduct VAT, you can offset this VAT as deductible VAT in the same VAT return, so there is no VAT to be paid.
The transition system lends itself to VAT fraud. This is because goods can be bought without VAT in other member states. When a scammer sells the goods locally, he can disappear with the VAT received from his client. It is estimated that, in 2015, the VAT revenue lost throughout the EU due to VAT fraud amounted to €50 billion. VAT fraud causes revenue loss for member states and disrupts competition and increases compliance costs for businesses. Since tax evaders do not pay VAT, they can charge lower prices.
Another reason to change the VAT system for cross-border trade is the complexity of the current transitional VAT regime. This entails additional costs for companies involved in cross-border trade. It is estimated that VAT compliance costs for intra-EU trade are 11% higher than domestic trade. The main areas of complexity for intra-community trade are the additional VAT obligations associated with the transitional VAT regime and the divergent application of VAT rules in all member states.
The European Commission, together with stakeholders, examined different options for a definitive VAT regime for cross-border trade through 1) limited improvement of current rules; and 2) taxation based on the flow of goods.
The changes planned for 2019 already introduce the concept of a certified taxable person (CTP).
Certified taxable person
Most of the improvements to the current system, which is expected to come into retrospective effect from January 1 2019, are based on the CTP concept.
In short, a CTP is a reliable, passive subject. The concept of CTP is also relevant for the application of the reverse charge rule under the definitive VAT regime.
The CTP concept is based on the principle of an authorised economic operator (AEO) used to identify compliant and reliable companies for customs purposes. Under the proposal, AEOs are granted CTP status on request.
Companies that do not have AEO status can become CTPs when there are no serious infringements or repeated infringements of tax laws and customs legislation, there are no serious offences related to the economic activity of the taxable person, a high level of control of operations and the flow of goods and evidence of the financial solvency of the taxable person. It is up to the member states to set up a framework they use to grant, verify and withdraw CTP status. The CTP status is open only to taxable persons established in the EU.
Any taxable person who has been granted CTP status from their home member state must be regarded as a CTP by other member states.
European legislation does not yet distinguish between entrepreneurs who can be considered reliable passive subjects and unreliable passive subjects. The introduction of the CTP concept lends itself to putting an end to this distinction. Introduces a status for reliable taxable persons who can benefit from simplifications from January 1 2019.
How does international VAT fraud work?
VAT is charged on sales of goods between businesses in the same country. This means that businesses are incentivised to collect VAT on their onwards sales to the final consumer or to another company (so they can deduct the VAT paid by them to their suppliers of goods or services). But goods sold cross-border between businesses are exempt from VAT. 
This difference makes fraud very easy. A dishonest company can buy goods in another EU country – without VAT – and sell them on legally in their own country and charge VAT. 
The company then fraudulently takes the cash from the sale, without paying the VAT collected on the sale to its tax administration. And very often these companies disappear, without even being audited. |
In short, these simplifications are:
One simplification for 'call-off stock';
A simplification for chain transactions; and
A simplification for proof of exemption for intra-community supplies.
From January 1 2022, according to the European Commission's plans, cross-border supplies of B2B goods will be subject to VAT in the member state of arrival of the goods.
Certified taxable person status will allow the taxable person to apply the reverse charge rule when buying cross-border goods in the EU.
This may entail a cash benefit for the customer and de facto prevents the supplier from charging the VAT of another EU member state with respect to their 'home' member state, with the result that he may encounter errors in the determination of VAT treatment, such as the correct indication of the applicable rate.
For suppliers it could therefore be interesting to deal with CTPs only when dealing with cross-border transactions.
It is also important to underline the benefits of cash flow and on the other hand, a supplier does not necessarily have to be a CTP to apply the reverse charge rule, only the customer.
CTP status does not affect the number of VAT audits or give taxable persons favourable treatment in their dealings with the competent tax authorities.
Conditions
Certified taxable person status can only be obtained if the following conditions are met:
The taxable person has their head office or 'fixed' residence in the EU;
The taxable person is involved in intra-community trade or is a supplier or customer in a so-called 'call-off' stock agreement;
There is no serious infringement or repeated violation of tax laws and customs legislation and there are no serious offences related to the economic activity of the taxable person; and
The taxable person demonstrates a high level of control over their operations and the flow of goods through a system that manages commercial and, where appropriate, transport registers. The system must allow for appropriate tax controls through a reliable or certified audit trail.
It is important that there is evidence that the taxable person is financially solvent. This can be demonstrated by a good financial situation or the taxable person can provide guarantees provided by insurance companies or other financial institutions or economically reliable third parties.
Taxable persons who fall within the scope of the flat-rate scheme for farmers, the exemption for small businesses or the taxable persons who make supplies of goods or services for which VAT is not deductible are 'outside' the scope.
Procedure
It also seems that member states must establish the rules for the procedure of taxable persons requesting CTP status and granting CTP status. However, there are limited procedural rules in the proposed amendment to the VAT Directive.
Member states must grant CTP status to a taxable person when the conditions are met.
If an application is rejected, the member states must state the reasons for the refusal. The taxable person must also be given the opportunity to appeal against this refusal.
Once CTP status has been obtained, it may be revoked at any time by the tax authorities if the initial conditions for awarding are not met. The CTP is obliged to immediately inform the tax authorities about any factor that may affect this allocation.
In addition to this, there are no procedural rules proposed for obtaining or losing CTP status, let alone 'temporal' deadlines. This could also cause differences between member states.
Taxable persons will not be able to choose which member state they apply for a CTP status. They will have to apply in the member state of the 'legal' office or, if the registered office is outside the EU, in the member state of the permanent establishment which holds their main 'economic interest' relationships.
If a taxable person has their headquarters in a member state and one or more permanent establishments, they must have recourse to the member state of their headquarters in order to obtain CTP status.
It is assumed that it is the central/legal office that any established organisations taken together must meet the requirements for being a CTP.
In the case of group companies qualifying as separate taxable persons, it is assumed that each of them must obtain the status of CTPs separately because CTP status is granted to a taxable person as such. The AEO guidelines provide some indications on the monitoring of the AEO status both for taxable persons and for customs authorities and for a new assessment of AEO status. Both guidelines are absent in the case of the CTP.
Authorised economic operators
AEOs can obtain the CTP status without further testing the requirements for the CTP status. This makes sense because similar requirements apply to obtain AEO status. However, the opposite does not work. A CTP cannot be considered compliant with the requirements of the AEO status, because there are some additional requirements for AEO status, such as safety and security standards for AEOs and the practical standards of competence or professional qualifications for the AEOC. Because of the similarity of the CTP status and AEO status requirements, customs authorities may consider the CTP status granted when verifying whether AEO requirements are met.
CTPs should therefore be able to obtain AEO status more quickly and with fewer procedural implications.
Non-EU taxable persons
Non-EU taxable persons cannot obtain CTP status. This would also affect companies based in the UK without an establishment in the EU under most forms of Brexit, if Brexit goes ahead.
Non-EU taxable persons will presumably be excluded from the CTP system because they are not easy to monitor because their administration and operations are outside the EU. However, in the event that there is a treaty or mutual cooperation agreement in place, the EU should, in my view, assess and consider extending the CTP regime to taxable persons established in those countries as well.
How?If VAT were introduced on cross-border trade today under the current rules, businesses would have to register for VAT, file returns and make payments in every EU country where they operate. 
That’s why we're introducing the ‘one-stop-shop’ concept for VAT on cross-border trade between businesses. VAT will be declared and paid by the seller via the one-stop-shop mechanism in the country and language of the company. 
National tax authorities will then transfer the taxes due to each other directly. This already happens for sales of e-services and the system works remarkably well. In 2016, member states were projected to collect around €3.2 billion through the online portal. This system will make it simpler to do business across the borders while also reducing VAT fraud. Companies big and small, tax administrations, as well as citizens will all benefit. |
Improvements to the current system
The improvements to the current system are indicated as four quick solutions listed here:
1. Simplification of the rules on VAT for agreements with the so-called 'call-off' stocks.
Based on the simplification proposed in cases where both the supplier and the customer are CTPs, simplification allows the supplier to report an intra-community supply (in the member state of origin of the goods) at the moment when the goods are extracted from the stock by the customer, when the ownership of the goods is transferred from the supplier to the customer.
The customer signals an intra-community acquisition at the same time (in the member state in which the stock is held). Under simplification, the supplier is no longer required to report an intra-community supply deemed to be in the member state of departure and an acquisition considered intra-community in the member state of arrival at the time the goods are transferred from one member state to another. Simplification therefore prevents a VAT registration of the supplier in the member state of arrival of the goods. Both the supplier and the customer must comply with certain conditions.
2. Simplification for chain transactions.
In the case of chain transactions (ABC transactions) there are more taxable supplies for VAT. However, where goods are transported from one member state to another, intra-community transport and supply may be attributed to one of those supplies. A proposed simplification helps the CTPs to attribute the transport to one of the supplies. The simplification that applies when both parts A and B are CTP, provides a simplification to determine which supply is the intra-community supply. Where Part B communicates to Part A the name of the member state of arrival/destination (the exact position in that member state is not necessary) and Part B is identified for VAT purposes in a member state other than the member state in which the transport of goods begins, the supply of AB is considered the intra-community supply. The B-C offer is therefore a local supply in the member state of arrival/destination. In the event that the conditions are not met, the B-C supply is considered 'the intra-community supply'. The A-B supply is therefore a local supply subject to VAT in the member state of departure.
3. Simplification of the proof of the transport of goods.
A supplier wishing to apply the 'non-taxability' for intra-community supplies must show that their client is a taxable person and that the products are transported from one member state to another member state in relation to the supply. A simplification is proposed for the CTPs. Under simplification, the supplier must collect two non-contradictory pieces of evidence to prove transport to another member state.
Documents that qualify as evidence include: a customer declaration of receipt of goods, transport documents, contract between seller and customer indicating the destination of the goods, or correspondence between the parties involved in the transaction indicating the destination of the goods and VAT declaration of the person who purchases the goods in which the intra-community supply is reported.
The cornerstones of a new VAT system for the EU |
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4. New material requirements for an intra-community supply.
The last quick solution is motivated by the member states and is proposed as an addition to the current requirements to apply the 'non-taxability' for intra-community supplies. According to the proposed rules, the supplier must also have the valid VAT number of the customer and a reference in the intra-community sales listing of the person who purchases the goods. Currently, the subsequent requirements are only formal requirements, which means that the taxable person does not lose the right to non-taxability when these conditions are not met if they can otherwise prove that they meet the requirements for an intra-community supply.
According to the European Commission, rapid solutions are required by the member states unanimously.
A possible reduction in VAT fraud is expected. However, the CTP status still allows taxpayers to purchase goods abroad without actually paying VAT, the defect of the current system that leads to VAT fraud. It is therefore important that member states carefully monitor the CTP status of resident enterprises and take action in case of irregularities. It will be more difficult for the fraudsters to operate, but they can still show compliant behaviour to get the CTP status and then disappear again or buy a business that already has a CTP status. So, in my opinion, perhaps an effective payment of VAT on cross-border supplies will be necessary to mitigate VAT fraud. However, because cross-border trade in the EU includes substantial amounts, the impact of the cash flow of such a system is enormous.
It remains to be seen whether this system will be fully implemented and it is important that the EU considers other methods such as a split payment method, real-time relationships and the SAF-T in the battle against VAT fraud in the near future.
Next steps
• Proposal for a modernised system of setting VAT rates Modernising the VAT rates framework and give greater flexibility to member states as regards VAT rates. • Proposal to reinforce administrative cooperation between member states Enabling member states to share information more quickly and to cooperate more. • Proposal to simplify VAT for SMEs An update of special VAT rules for smaller companies, including looking at how to ease VAT obligations for small and medium-sized enterprises. • Full technical adaptation of the VAT directive to reflect the changes needed to practically implement the VAT definitive regime as proposed by the Commission. • Entry into force of the single EU VAT area, once agreed. |
Antonio Lanotte (alanotte10@gmail.com) is a European senior finance manager and professional tax advisor
