If you’re a small business selling goods or services online and are based outside of the European Union, there’s a high chance that VAT either hasn’t crossed your radar or is being ignored entirely.
You might think that remaining tax-compliant in your own country is complicated enough and then be inclined to bury your head at the thought of dealing with any other tax authority. When you add in the fact that there are 28 member states in the EU and 75+ different VAT rates, the complexity really starts to add up.
Here’s the thing though, you only need to be able to answer one question to know whether or not you can ignore VAT:
Do you have customers in the European Union?
If not, carry on as you were. If so, we need to talk about VAT.
What Is VAT?
VAT (Value Added Tax) is a kind of consumption tax on consumer spending, which is paid by the consumer at the time of purchase of a product or service. This is implemented on all goods and services sold within the European Union.
The rates vary across the different member states and for digital goods (such as what many offshore entrepreneurs are selling) range from 17% to 27%.
Why Should I Be Concerned About VAT?
You may have heard of VAT changes which came into effect for European-based businesses on 1 January 2015.
As a foreign business, if you sell digital goods, a directive has actually been in existence since 2003 requiring EU countries to collect VAT from you. A copy of the directive can be found here. The law change of January 1st 2015 makes this directive set in stone – you are absolutely required to collect and pay VAT on digital goods sold to EU customers.
If you sell physical goods then you can no longer exploit a loophole that used to exist whereby VAT was charged based on the location your business is registered (so $0 for non-European businesses). You must now charge VAT based on the location of your customer.
This was done for a few reasons: 1) governments were not receiving taxes for digital goods consumed by their citizens, 2) big companies such as Amazon were only paying taxes in the country of their European headquarters, whereas other EU governments wanted to collect the tax if goods were sold to their citizens, and 3) to level the playing field for European-based businesses who could be undercut on price by foreign businesses, purely because the foreign business didn’t have to charge the tax.
The VAT charge is paid by the consumer, but it is up to the seller to collect it, report on it, and file it. This means that it should be built into the final price of any goods or services you sell to customers in the European Union.
In a nutshell, you may be required to:
- Charge VAT based on the requirements of the location of the customer.
- Register your company for EU VAT.
- Provide detailed invoices showing VAT rate used, amount charged, and requirements of the individual country of the consumer.
- Submit quarterly VAT returns.
This table from Turbine Room explains when VAT should be charged on digital goods;
What If I Just Ignore VAT?
The short answer? Perhaps nothing. But you are risking that your chances go the other way, the tax authorities catch up with you, and you are held accountable for missed VAT as well as penalties.
Currently, every country in the EU enforces tax requirements themselves via audits, which can include receipts sent in by consumers (who send them in because they are entitled to tax reductions on certain goods). This is where your non-compliance could be picked up.
If you are based in a country outside of the EU, of course enforcement of the tax laws would involve some cooperation via the authorities in your home country. Many companies are carrying on business as usual, ignoring VAT because they’re willing to bet that seeking that cooperation will not be easy for EU tax authorities.
Are you willing to take that kind of risk? Potentially, you could be held liable for years of back-taxes and penalties should that cooperation with European authorities come about. Additionally, if you’re found to have intentionally broken the rules, you could find yourself answerable to a court.
You could also look at it as a question of ethics; if you enjoy the privilege of being able to sell to customers in their country, should you then be playing by their rules?
I Heard There Is A Revenue Threshold For VAT
There used to be, but that is no longer the case. Businesses of all sizes and revenue levels are now required to comply with VAT. That means that even if you sell just one or two ebooks to an EU customer, VAT applies to your transactions.
For EU-based businesses, there are still thresholds in place. These can be found here.
What’s The Difference For A Business Vs. A Consumer?
The two are treated differently under EU tax law. VAT is to be charged in transactions with consumers (private individuals and non-business organisations), however transactions with businesses are exempt with a “reverse charge” (0%) mechanism.
Usually, a business should provide you with their VAT registration number to prove that they are a business, but in some cases other evidence such as a company website or commercial documents are acceptable proof.
What Do I Need From My Customers?
There are a few bits of information you are required to collect in order to be compliant with your reporting and invoicing. Remember, different states will have differing invoicing requirements, so you’ll need to ensure compliance with each.
General information you require from each customer includes;
- Which country they reside in. We wrote about this a few months ago – you need to collect two pieces of non-contradictory proof of residence.
- Their VAT number (to determine if they are a business). This tool will help you to confirm the number is valid.
- The total amount invoiced.
- The VAT amount and percentage charged.
Are There Any Exemptions?
There are some goods or services on which VAT is not applied. The rules for these vary between the member states so you need to check up on where your specific product/s fit in the country you are selling in. This guide shows rates current for 2016; however the rules do get quite lengthy and complex, so you may want to talk with an accountant with expertise in VAT applications to save yourself time and ensure that you are compliant.
What Is A MOSS?
A MOSS (Mini One Stop Shop) is authorised to administer your VAT returns and distribute VAT collected to applicable member states (those in which your customers reside). This is designed to make the process a little easier for sellers, as otherwise you’d need to file a return in each applicable country.
This Sounds Complicated For Small Businesses
Yes. There’s no getting around it, VAT is by no means a simple system, especially with all the variables involved between different member states. Even larger businesses who have greater resources have been known to accidently non-comply with the laws.
One of the aims of the more recent changes was to ensure a more level playing field for locally-based EU businesses who were required to charge VAT based on where their business was based, therefore allowing non-EU businesses to undercut their prices. However, the requirement to tax based on the customer’s location instead creates not only complications with different tax rules, but questions for businesses on what to do with their pricing.
As this article from Forbes put it; “ …many will need to make a decision about pricing. If they don’t change their prices in countries where VAT is higher, they’ll have to absorb the additional costs themselves. On the other hand, if they seek to pass on the additional costs, they run the risk of losing business.”
Some small businesses (including many based in Europe) have even opted to stop selling to European customers because of the administrative hassle.
This is a shame if both businesses and their customers may miss out, so this is why we have created a solution at Quaderno to untangle complicated invoicing and automatically handle correct VAT processing. Your customer’s location is automatically taken into account so that correct VAT is applied without any administrative headaches.
If you are an online business based outside of the European Union but selling to EU-based customers, you have three choices when it comes to VAT;
- Keep ignoring it – there’s a chance you’ll get away with it.
- Pull out of doing business in the EU – it seems too complicated.
- Get your business up to speed and compliant with VAT laws.
We’d never recommend taking the risk of option one; small businesses can be ruined by tax complications. If you have very few EU customers, ceasing business in the EU might be a viable option, but then you’re missing out on the opportunity to grow your customer base in large markets too.
If your business already has a large European customer base, or if you are already growing in the EU, then you’re really only left with the option to comply with VAT laws. Get a good accountant, figure out the parts of the law which apply to you, and utilise tools which make the administration of VAT less of a hassle for you.