What Is Value-Added Tax, Anyway? Trends Report Excerpt

Christiaan Van Der Valk
February 12, 2020

Value-added tax (VAT) does not exist in the United States, but American companies are increasingly having to deal with VAT mandates in Latin America, Europe and Asia. Seeking to make up a massive gap in revenues, tax administrations are mandating strict policies to digitize VAT collection. American companies that fail to comply could see their businesses effectively shut down in countries with mandatory VAT controls. 

But what is VAT, anyway? If you’re not sure, don’t worry. This brief excerpt from the 11th annual Trends in Continuous Global VAT Compliance report provides a primer. 

What is VAT?

The basic principle of VAT is that the government gets a percentage of the value added at each step of an economic chain, which ends with the consumption of the goods or services by an individual. 

While VAT is paid by all parties in the chain, including the end customer, only businesses can deduct their input tax. Therefore, VAT requirements concerning invoices ordinarily only apply between businesses. Many governments use invoices as primary evidence in determining “indirect” taxes owed to them by corporations. VAT is by far the most significant indirect tax for nearly all of the world’s trading nations. Roughly speaking, VAT contributes more than 30 percent of all public revenue. VAT as a tax method essentially turns private companies into tax collectors. The role of the taxpayer in assessing the tax is critical, which is why these taxes are sometimes referred to as “self-assessment taxes.”

VAT basics 

The form, content and method of creating or exchanging invoices is often regulated because invoices are the prime source of audit for VAT purposes. VAT was first introduced in the 1950s and quickly spread throughout Europe and other countries. 

Despite the OECD’s attempts to create high-level standards for streamlined taxation of cross-border trade, there are no global rules for VAT. The EU’s VAT system is the closest any region has come to harmonization, but even its rules are notoriously complex and diverse.

The VAT gap

VAT depends on companies meeting public law obligations as an integral part of their sales, purchasing and general business operations. The dependency on companies to process and report VAT makes it necessary for tax authorities to audit or otherwise control business transactions — but despite such audits, fraud and malpractice often cause governments to collect significantly less VAT than they should. The difference is often referred to as the VAT gap. 

In Europe, the VAT gap amounts to approximately 137 billion EUR every year, according to the latest report from the European Commission. This amount represents a loss of 11.2 percent of the expected VAT revenue in the block. Globally, we estimate VAT due but not collected by governments because of errors and fraud could be as high as half a trillion EUR. This is comparable to the GDP of countries like Norway, Austria or Nigeria. The VAT gap represents some 15 to 30 percent of VAT that should be collected worldwide. These numbers only consider bona fide, registered business activity and would certainly be much higher if one added lost tax revenue due to unregistered business activity.

Take Action

Do you know everything you need to know about VAT and VAT enforcement? Download the most comprehensive guide on VAT controls in the industry and find out. 

Sign up for Email Updates

Stay up to date with the latest tax and compliance updates that may impact your business.

Author

Christiaan Van Der Valk

Christiaan Van Der Valk is vice president, strategy. Elected a World Economic Forum Global Leader for Tomorrow in 2000, Christiaan is an internationally recognized voice on e-business strategy, law, policy, best practice and commercial issues. Formerly co-founder and president of Trustweaver (acquired by Sovos), Christiaan also holds long-standing leadership roles at the International Chamber of Commerce (ICC) and the European E-invoicing Service Providers Association (EESPA). Over the past 20 years, he has presented at and authored key papers for international meetings at the Organisation for Economic Cooperation and Development (OECD), the Asia Europe Meeting, World Trade Organization and several other UN agencies. Christiaan earned his Master of Laws degree from Erasmus Universiteit Rotterdam.
Share This Post

LATAM VAT & Fiscal Reporting
May 20, 2020
Sovos Acquires Taxweb, Extends Tax Determination Capabilities in World’s Most Challenging Compliance Landscape

Earlier this month Sovos announced its second acquisition of 2020, completing our solution for Brazil with an unparalleled offering that solves tax compliance in the place where it is most challenging to do so.  Too many companies doing business in Brazil have been burdened by managing multiple point solutions for continuous transaction controls (CTCs), tax […]

EMEA VAT & Fiscal Reporting
August 4, 2020
New VAT Rules for Online Marketplaces and Imports of Goods into the UK

The United Kingdom’s HMRC has issued new guidance on the VAT treatment of cross-border sales of goods and online marketplaces beginning 1 January 2021, following the end of the transition period. Cross-Border Sales under £135 New rules will apply when a business sells goods for £135 or less to a UK customer and the goods […]

EMEA VAT & Fiscal Reporting
August 3, 2020
New EU Tax Package: VAT Priorities

On 15 July 2020, the European Commission (EC) adopted a new Tax Package, intended to increase tax compliance while reducing administrative burden on businesses. The Tax Package contains a number of proposals related to VAT, of which three in particular stand out: A single EU VAT registration for taxpayers; Modernized VAT reporting obligations; and Facilitated […]

IPT
August 3, 2020
Should Insurers Receive an IPT Holiday From Their Governments?

It’s been a tough year for businesses. Whilst many have accepted that 2020 is likely to be a year to forget, unfortunately tax still needs filing and paying. Tax authorities have been understanding – nobody could have foreseen this – and there has been a concerted effort to provide SMEs with tax relief and postponements […]

Asia Pacific E-Invoicing Compliance EMEA India
July 31, 2020
India: Last-Minute Changes to the Proposed E-Invoicing System

The October deadline is fast approaching for the Indian CTC invoicing mandate, but it remains a moving target. In a swift move that was published just two months prior to go-live, authorities have now changed the scope of who is affected by the reform, as well as updated the JSON format. Why the change? The […]

ShipCompliant United States
July 30, 2020
2020 DtC Wine Shipping Mid-Year Report

Since we released the annual Direct-to-Consumer Wine Shipping Report in partnership with Wines Vines Analytics back in January, a lot has changed when it comes to how consumers are getting their wine. The COVID-19 pandemic swayed buying channels drastically, shifting traditional retail and on-premise sales over to ecommerce sales. With brick-and-mortar retailers being closed down […]