In this modern age of global trade, it is vital to know in which country a transaction will be subject to VAT. It could be the supplier’s country, or the customer’s country; it could be the country where the supply takes place, or there might even be a dispute between two countries which both try to tax the same transaction.
Making an error in identifying the Place of Supply (i.e. where the transaction is subject to VAT) could lead to VAT being charged incorrectly. Potential consequences are not limited to unnecessary double taxation, but include disputes, delays, penalties from the authorities and so on.
Where to start?
The legislation can be confusing, as the rules are spread out in various parts of the VAT Act 1994 and other secondary sources. Moreover, the VAT laws changed on 1 January 2010, so the first step is to identify the correct version of the legislation when reviewing historic transactions.
As a rule of thumb, for services the current “Basic Rule” is twofold.
- For services supplied to non-business customers, the Place of Supply is the supplier’s country.
- For services supplied to business customers, the Place of Supply is the customer’s country.
For goods, the rule of thumb is different. The “Basic Rule” is that the Place of Supply is the country where the goods are located when supplied.
Is it really that simple?
If it were that straightforward, we would not be writing this article! Unfortunately, there are many uncertainties, some of which we consider below.
Not all entities qualify as a business for VAT purposes. For example, a holding company is not considered to be actively pursuing an economic activity. Some economic activities do not have the continuity or hallmarks of a business. Some believe the customer must be VAT registered to qualify as a business for VAT purposes, but this is not necessarily the case either. In short, the issue is not always clear-cut.
The “Basic Rule” does not cover all types of supply. There are a series of exceptions for services, such as passenger transport, vehicle hire, land-related services, etc. For goods, there are exceptions for importation, VAT warehousing, selling cross-border to VAT registered or unregistered customers, etc. Distinguishing between a “Basic Rule” supply and an exception can be very difficult. Consider for example a report relating to some real estate: is this advice on general market conditions (“Basic Rule”) or a survey of a particular building (exception)?
Determining the customer’s or supplier’s country is also a complex process. The legislation focuses on the country of establishment. Businesses can be established in more than one country, through Registered Offices, branches, agents and so on. In fact, one might be liaising with an office or agent in one country, whilst the VAT rules determine another country as the Place of Supply.
These difficulties affect businesses of all sizes. Towards the end of 2012, several multinational companies were criticised for their tax arrangements and the Public Accounts Committee called for HMRC to get involved.
Consider an online “virtual” marketplace which is provided both to business and to non-business clients. Applying the above rules of thumb, we would expect the supplier to charge VAT on its services to non-business clients (i.e. private individuals selling their second-hand goods) in the supplier’s own country. If the supplier is established in a country with a low rate of VAT, it will charge less VAT to its customers and achieve a significant competitive advantage.
But were the “virtual” marketplace services actually supplied from the country with the low VAT rate? If there is a significant presence of staff and offices in the UK where “essential decisions” of the supplier are taken, HMRC might argue that the supplier is (also) established in the UK; that the Place of Supply of its services to UK clients is the UK; and that UK VAT was chargeable on all such transactions in the past 4 years.
The concept of “essential decisions” is not defined, so we would expect the supplier to defend itself: is there really an establishment in the UK and, even if there is, are the supplies of services actually made from the country with the low rate of VAT?
This is typical of the difficulties which arise when trying to determine the Place of Supply (and therefore the place of taxation) of an international transaction.
How to handle Place of Supply uncertainties
There is no single method which will deliver the correct answer every time. Indeed, in some circumstances, only the courts can determine the correct Place of Supply in which VAT should be charged.
While the above rules of thumb are a helpful starting-point, consideration should also be given to the exceptions to the “Basic Rule”. It then needs to be determined how the rules apply to the particular facts of each scenario.