A silent revolution is spreading across Europe. As governments across the EU seek to close their VAT gaps, increasingly we’re seeing the trend towards government-controlled, real-time invoice control platforms, known as the ‘clearance’ model.
Post-Audit vs Clearance
In the standard post-audit model of invoice compliance, invoices are exchanged between the supplier and the buyer. Both parties then use the document as evidence of the ‘supply’ taking place, as booked and reported, in case of a tax audit. In a post-audit model, an actual audit can and does often happen up to a decade after the actual business transaction took place.
In the clearance model, the invoice data flows are orchestrated between three parties: the supplier, the tax administration, and the buyer. The government places itself at the heart of the B2B transaction (leading to triangular ‘B2G2B’ data flows), allowing for real-time audit control of invoices and other tax-relevant data.
Preparing for the revolution
With clearance mandates being introduced across two EU countries in phases – Italy from July 2018 and in Greece at the start of 2019 – enterprise software and service platforms are finding it increasingly challenging to decide on a consistent way to onboard the capability for integrating with the varying clearance platforms. Beyond classic buy-or-build decisions, this creates a new strategic dilemma that will require vendors to think differently about the choice between local vs global compliance partnerships.
The fundamental tax trends that will dominate business solution design in the next decade
Based on what we know today, it’s safe to predict that the tax compliance landscape will be dominated by the following trends over the next 5-10 years
- The real-time or near-real-time tax control of business transactions will become the norm for the enforcement of indirect tax law. Hence, every sale or purchase of goods or services will involve data integration between at least three parties: the supplier, the buyer, and the tax administration.
- The same will be true, minus the data integration on the consumer end, for B2C receipts.
- Tax administrations will increasingly add similar integration requirements for non-transactional data and for systems that are relevant to income and other direct taxes.
What this all adds up to is chaos. How these trends are implemented will differ from tax jurisdiction to tax jurisdiction. There will be many hundreds or even thousands of different ways that business systems need to communicate with tax authorities and other regulatory or law enforcement platforms. Organizations will need to ensure they are compliant amidst this global chaos. So, what can they do?
Strategic questions for software vendors and business networks
This revolution will unfold at an unprecedented pace and this pace will push software and business network vendors into making difficult, strategic decisions, in a relatively short time period. The key questions they will need to answer are:
- Which data standards will dominate in the future – and more specifically, how will the formats, defined by tax administrations, influence developments in this area?
- How will typical order-to-cash and procure-to-pay cycles be affected by the imposition of prior or parallel ‘clearance’ and reporting processes for tax purposes?
- To what extent will my value as an enterprise software vendor in the future be determined by the scope or quality of our integration with tax administration platforms?
- Should I perform such integration with tax administration platforms myself, or should I partner?
- If I establish partnerships, should I integrate with a local vendor or should I choose a global compliance solution?
Determining the role of compliance in your value proposition
If you are a vendor, the last three questions will have the deepest impact on your business strategy.
Key Question: “To what extent will my value as an enterprise software vendor in the future be determined by the scope or quality of our integration with tax administration platforms?”
We strongly believe that enterprise software and services vendors have no choice but to embed relevant tax administration connections into their portfolio. Business transaction platforms will have to embed real-time transaction controls, and systems, where other types of tax-relevant data and periodic reporting functions are generated. The reason for this is, you cannot expect your customers to outsource a business process to your software or service platform if you cannot provide support for the associated tax compliance requirements. Having such integrations for the country scope of your typical customer will simply be a market expectation.
Key Question: “Should I perform such integration with tax administration platforms myself, or should I partner?”
Every vendor will have to make up its own mind, but if you have multinational enterprise customers, you’ll likely be forced within the next couple of years, to integrate with more than ten real-time tax control systems. Within ten years, you will have to support government platform connections in 20 to 50 jurisdictions. To understand the impact on your solution per jurisdiction, you need to consider the following functional categories:
- Regulatory mapping – There will be mandatory structured data formats (nearly always XML based) for the mandatory exchange of invoices and possibly other data with the tax administration platform.
- Regulatory transaction orchestration and process alignment – Your e-business transaction platform will need to be able to send and receive different types of transactions, both to and from, the tax administration platform. Examples include specific types of invoice processes (e.g. cancelation, contingency issuance or confirmation, buy-side acceptance or rejection) and increasingly, similar processes for other types of tax-relevant documents. Your business and trading partner’s data exchange process may need to be revised to ensure that the mandatory data exchange with the tax administration platform can be performed as required. You and your customer may never have thought to create a supplier invoice cancelation message, but in some countries you’ll need one to comply with tax law. And in some jurisdictions, particularly in Europe and probably India, this type of exchange of business data with government control platforms will evolve by tax administrations slowly increasing the frequency, automation requirements and granularity around historical VAT reporting requirements.
- Authentication and security – Most real-time or near-time tax administration platforms require some combination of transmission security and data-level control technology requirements. These are usually in the form of an electronic signature and web server authentication based on public key certificates issued by a government-approved, or government-controlled, certification authority (CA).
- Tax determination – Since every line of every invoice will be available for deep analysis by the tax administration, it becomes imperative for both trading partners to ensure that their tax determination decisions are 100% correct.
- Archiving – Where archiving remains compulsory – which is currently the case in most countries with real-time or near-real-time VAT controls – the ‘legal invoice’ and the ‘business invoice’ exchanged between the parties, if different, needs to be archived and available for audit.
If your core strategy is to be the leading B2B transaction automation vendor, you may be able to implement the required mix of these functions into your software for your home country – and maybe one or two more jurisdictions within your geographic or cultural proximity. But, and here’s the crux of the matter, ultimately, you’ll find that the level of compliance complexity across several countries puts too much strain on your resources and the support you can provide to your customers with your core business process optimization tools. Put simply: there is not enough similarity in the production capabilities required to deliver excellence in business process automation and excellence in tax compliance.
Key Question: “If I do partner to fill the compliance gaps, should I integrate with a local vendor to ensure compliance or should I choose a global compliance solution?”
Local vs global partnering for compliance services can easily be misunderstood. If one accepts the conclusion, that simple economics will force most B2B transaction automation vendors to buy or partner, rather than build their own clearance functionality, the next question is whether such vendors should partner with a local compliance vendor or a single specialized vendor that covers multiple jurisdictions.
To make an appropriate assessment in this area, it is important to understand how clearance mandates are generally introduced. Countries that have decided to implement some form of real-time or near-real-time business transaction controls, for the most part, do so to plug a significant hole in their indirect tax revenue. The time for local taxable businesses to adjust to this completely new way of working has often been less than a year, and often much shorter. Many tax administrations have been remarkably good at making technology specifications available to the local IT vendor community during their preparation for the mandate. They do this to ensure the local business community can source technology solutions to meet the mandate competitively.
In many cases, this collaboration with the tax administration to prepare for a nation-wide mandate is a once-in-a-lifetime opportunity for these smaller IT companies to onboard a significant number of essentially captive customers. There has rarely been a safer investment case in the history of IT. Thanks to the clearance mandate, many of these companies could multiply their revenues by ten to thirty times in just two years.
But, there is one catch: the short deadlines coupled with the fact that local IT vendors adopted these e-invoicing solutions almost exclusively for reasons of tax compliance, and virtually never for reasons of business optimization, made these local vendors design monolithic solutions focused on clearance-based compliance functionality, which was inextricably bundled with rudimentary business transaction automation functionality. In other words, the vast majority of these local providers are both B2B transaction automation and compliance vendors – and you cannot separate these two roles.
A B2B transaction automation vendor that wants to onboard clearance services through a local partnership will therefore often be partnering with a company that is also its competitor. In our experience, this competitive dimension is often overlooked due to time pressure – and is then bitterly regretted weeks, or months afterward. Often, these kinds of partnerships end in tension because the local vendor’s platform wasn’t designed to separate compliance and B2B transaction functions. The only working model for such local partnerships is to treat them as interoperability agreements. The result of this approach is nearly always a significant dilution of business value, resulting in many unhappy customer and partner relationships.
Partnering with a company that offers a global compliance solution ensures that B2B transaction automation vendors can offer their customers the best of both worlds: an optimized platform for B2B transaction automation, combined with a seamless integration of legal, process and technical experts with decades of experience in guaranteeing continuous compliance, regardless of legal changes across all supported territories.