Given the complexity of international VAT and the potential risk, pitfalls and associated costs, finance directors face a predicament. Unlike direct taxes, which tend to be retrospectively determined, VAT is effectively calculated in real-time. It’s linked to various aspects of the supply chain. If the related transaction has incorrect VAT calculations or erroneous codes, these errors can result in unintended financial consequences. These include fines, loss of the right to deduct input VAT etc.
For most finance departments their first and only involvement with VAT is when they are processing sales or purchase invoices. In the absence of a customer purchase order, there is often little, or no appreciation of what sales invoices are coming through until they need raising. However this may be too late. The transaction completing crystalises the VAT liability and the taxpayer cannot make any retrospective changes.
Incoterms and VAT
One component of VAT determination for goods is an understanding of if they are moving across a border and if yes, who is responsible for moving them – supplier or customer.
Within international trade the Incoterms issued by the International Chamber of Commerce are used to determine which party has responsibility for which aspect of the movement.
Within the EU the Incoterm used doesn’t determine the correct VAT treatment of a movement of goods. Although it can help to understand the intention of the parties. Most contracts for the supply of goods within the EU do, nevertheless, mention incoterms. In many cases contracts quote “Delivery Duty Paid” (DDP) even though it is often inappropriate. If a French company sells goods DDP to a German customer then the incoterm implies that the French supplier is responsible for all taxes due on the delivery. But if this is a B2B transaction, meeting the exemption conditions, then it’s the German customer who accounts for the acquisition tax.
While the UK was a member of the EU, incoterms weren’t really relevant for VAT. It also had little impact on the ability to move goods within the EU. It also had little impact on the need for EU VAT registrations since in many cases the customer would account for acquisition tax.
But now, post-Brexit, UK companies may have “DDP” contracts with EU customers where there are potentially unintended consequences:
- DDP requires the UK seller to export the goods from the UK and then import them into the EU. This gives rise to import VAT and possibly duty which may not be catered for in the budget.
- DDP also requires the UK seller to account for local VAT unless the extended reverse charge applies – and for this, a local VAT registration may be required resulting in yet more cost and possibly a delay in delivery.
Now the only possible course of action is to renegotiate incoterms. This will take time and will only work if the goods haven’t already been delivered.
If the goods have been delivered but the required VAT registration is not in place there is the possibility of penalties and interest for late registration and late payment of VAT.
Automation can help here. A tax engine can process order information and determine the correct tax code. This is when placing the order and not when raising the invoice.
If this gives an unintended result, there may be time to renegotiate the incoterms or arrange the relevant VAT registration.
Need help reviewing your VAT position and contracts post-Brexit? Find out how Sovos can help your business simplify VAT determination for every transaction, in any jurisdiction.