The VEG Report “VAT after Vida”: neutrality and broadening of the VAT base
The VAT Expert Group report “VAT after Vida” puts forward many suggestions discussed for years by practitioners on how to improve the functioning of the EU VAT system and, among others, the neutrality of the EU VAT and the extension of the VAT base. The present contribution places these concepts in their context i.e. (i) indirect taxes, in a common market and pursuing objectives of economic efficiency, (ii) the origin of limitations of the VAT taxable base and the collection of taxes attributed partly or totally to supranational institutions, (iii) the consequences of the limitations of the VAT taxable base and (iv) the possible alternatives, even if VAT is not adapted to some activities such as the digital economy and the financial services. It is suggested that the introduction of indirect taxes pursuing specific objectives such as green or digital taxes should, to a certain extent, be combined with VAT to ensure technological neutrality and absence of distortion of competition in the internal market. And the revenues of such new taxes could possibly be directly attributed to the European institutions, like it is already the case for customs duties.
- 1.VAT Neutrality in its context
As level playing field, the VAT Expert Group Report (hereafter VEG Report) considers that the VAT system must guarantee equal treatment for domestic and foreign taxable persons, and also for those operating in the traditional and the digital economies. The same facts patterns must be treated in the same way for VAT purposes. VAT should not have any influence on and should not drive business decisions[1].
And indeed, the EU VAT system is characterized by (i) non taxation of production, (ii) in an internal market that in the case of Europe is composed of sovereign states. Neutrality is a particular concept only applicable to EU VAT and it is not the necessarily the objective of other indirect taxes that may be designed to influence the decisions of the producers or of the consumers. But, at the same time, this absence of neutrality on business and consumers decisions should comply with the General Principle of Non-Discrimination of the producers and distributors, as well with competition in the internal market.
- 1.1.Neutrality is non taxation of production of goods and services
According to article 1(2) of the Directive 2006/112/EC[2] , VAT is a general consumption tax. But as observed by the VEG Report, VAT is not able to tax every consumption in the context of digital economies. And VAT never intended, nor can tax every kind of consumption, such as for example household work, own home improvement, etc. From the context, it appears that “taxation of consumption” mentioned in the VAT Directive is an imperfect legal wording of the “non taxation of production” intended by the EU Legislature.
The so-called “Value Added Tax”[3] is one of the indirect taxes (like customs duties, excises or transfer taxes, etc.)[4] on supplies and on international movements of goods and on services[5].Taxes are called “indirect” when they are passed on the acquirers or on the importers. They have an immediate impact on the prices and therefore on the purchase decisions of both the consumers and the producers. Most of the indirect taxes are collected at a single stage of the chain of production or commercialization process. But since the World War I in the beginning of the 20th century, the European Countries had adopted multistage transfer taxes levied on each transaction.
The distinction direct v. indirect taxes is based on a decision of the Legislature to levy such taxes by the suppliers and to pass them to the acquirers. Such distinction has major political and economic consequences. Direct taxes are taken from an individual’s or companies’ earnings and they are calculated on the paying capacity and not on the expenditures of taxpayers. Therefore, direct taxes are associated with the idea of “social justice” while indirect taxes based on prices and passed on purchasers are considered, according to a common acceptance, as “socially regressive”. According to articles III and XVI of the GATT Agreement of 1947, a compensation at the borders is only allowed for indirect taxes i.e. indirect taxes incurred in a country may be refunded at the time of exports and levied on imports in another country.
It is not because indirect taxes are passed on the purchasers or on the importers that they are, by their nature, neutral on business and consumers decisions: customs duties are tools to protect the national production, or in the case of the EU, the EU production. Excises intend to discourage the consumption or the use of certain specific categories of goods. Such lack of neutrality is deliberately intended by the Legislature, and it should be distinguished from unintended lack of neutrality. The transfer taxes on each transaction as adopted by many European countries since World War I had unintended consequence because they were an incentive to vertical integration of the chains of production: business deliberately reduced the level of taxes at consumer level by limiting the number of the transaction subject to transfer taxes[6]. But at the same time, this incentive to integration was preventing specialisation, overtaxing investments and making more difficult mergers and acquisitions. Such taxes impacted the information contained in the price mechanism and led to “epidemy of erroneous economic decisions”.
In 1954, the OEEC (that will become the OECD in 1957) launched a study on the turnover taxes in Europe and their impact on productivity.[7] This report contained (i) a theoretical analysis of various turnover tax systems, (ii) an economic analyse of these systems in the light of productivity, (iii) a detailed description of the turnover tax systems applicable at that time in most European countries and (iv) a description of all the possible indirect tax systems: Multiple Stage Tax, Multiple Special Taxes, Single General taxes, retail, wholesale, production or raw materials, and Value Added Tax, (but more simple than the French TVA introduced in 1954).
According to this OECC report, neutrality on business and consumers decisions, as well minimal friction costs on production are best attained by a sales tax, because it is levied at the closets stage immediate prior the final consumer. Therefore, sales taxes do not distort the information contained in the prices both during the process of production and at the time of the acquisition of goods and services by consumers. Unfortunately, Sales Tax or Purchase taxes put a high pressure on the retailers because the high incentive to cheat and they are difficult to monitor by the tax authorities because of the large number of persons liable of the payment of such taxes. Therefore, in practice, the rate of such taxes can never exceed 7 to 8%[8] . In a VAT system, at the stage of retail, the benefit of fraud is mainly limited, except to some categories of services because most of the final tax has already been collected during the previous stages of production, and therefore such input taxes are only deductible as far as the retailers can bring evidence that the VAT has been levied in the relation with the final consumer. From a tax authority perspective, a VAT system allows to collect an higher amount of taxes with less efforts and to concentrate the audits on weak points i.e. imports, exports and retail. Indeed, as far as the chain of VAT collection /deduction is not broken before the retail stage, VAT is a self-monitored system before the stage of consumption, even in absence of any sophisticated technology. This is the reason why VAT has been adopted by most of the countries of the world in a few decades.
- 1.2.Neutrality and Equality in an internal market
In the years 1950’s, in addition to their transfer taxes distorting the price mechanism and hampering an optimal allocation of scarce resources, the Europeans were struggling with small national markets, the lack of competition and the customs duties. In 1951, six countries decided to integrate their national coal and steel industries into a single common market based on the principle of supranationalism (European Coal and Steel Community (ECSC)[9]. By the Treaty of Rome in 1957, they extended such “common market” to all goods and services, capital and peoples, without trade barriers such as customs duties and similar obstacles. It was based on a Customs Union[10].For duties on imports from third countries, it was easy to envisage a Customs Union with identical rules, the customs duties revenues being attributed to the supranational institutions. For the other indirect taxes, there was a conceptual problem because the person liable of the payment of the tax (the supplier or taxable person) is not the one supporting the tax (the customer). It was not easy to create a system to collect such taxes when the supplier and his customer were established in two different countries: the difficulty was to transfer without delay taxes collected by the taxpayer or person liable of the tax to the tax authorities of another country entitled to receive such revenue they have not collected. This had complex practical consequences but also political consequences because the country collecting the tax is in strong position to impose its view. In addition, the fact that the country collecting the tax was not the one entitled to receive it was inevitably leading to bias in favor of the country where the collection is taking place… The issue is not so much which country is finally entitled to receive such taxes (it is always the country where the purchaser is established), but rather the reliability and the speed of such transfers from one country to another one.
The debate has been concentrated on two alternatives: (i) taxation in the “country of origin “(i.e. taxes are collected in one country and transferred to another), (ii) taxation in the “country of destination” (taxes are collected by the country entitled to receive it, but there is an exemption on export). Other systems that would possibly be more efficient and less costly to implement by business have only been examined by the literature. [11]
For decades, taxation in the “Country of Origin” under the control of supranational institutions has been envisaged as the only way to organize collection of indirect taxes in a common market[12]. The only way proposed by the European Commission to collect indirect taxes such as VAT and excises was that the supplier would collect the tax according to the rates and procedures in his Member State, and that the European Commission would redistribute the taxes between the different Member States [13]. This is more than an historical anecdote because it had a deep influence on the proposals submitted by the European Commission on indirect taxes[14]. The objective of abolition of taxation on imports and detaxation of exports and its replacement by the taxation in the Country of origin is included in the text of the EU VAT Directives[15] and in their structure[16], even if this objective has been officially abandoned by the European Commission in 2011[17], but introduced by the One Stop Shop mechanism.[18]
The first clash between the partisans of the taxation in the “Country of Origin” and those of the taxation in the “Country of Destination” happened in 1953. The ‘steel provisions’ of the ECSC Treaty were planned to enter into force in February 1953. The German steel producers argued that all general taxes, both direct and indirect taxes (at a rate of 5 % in Germany at that time), should be considered as ‘location costs’ affecting competition in the common market. In their view, a compensation at the borders of indirect taxes was contrary to the concept of a common market.[19] France, where the taxe à la production was imposed at the rate of 15%, was (of course) in favour of the compensation system like for international trade, according to the procedures laid down by Articles III and XVI of the GATT Agreement of 1947. The dispute was settled on the basis of the Tinbergen Report, drawn up by a group of experts commissioned by the High Authority of the ECSC to elucidate the underlying economic aspects of the dispute. The experts pronounced in favour of maintaining the compensation at the border for the turnover tax on the final transactions because the compensation concerned only a few products.[20]
Despite this, there was consensus on the fact that in each country where a supply took place, the producers should be treated equally, whatever their nationality or their place of establishment. In the early 1960’s, VAT appeared to be the most suitable tax in order to meet such objectives and it offered major advantages.
First, VAT (and EU indirect taxes others than customs) combined the characteristics of national trade (ie equal treatment between producers whatever their place of establishment in the internal market) and of international trade (refund of indirect taxes on exports and taxation on imports). This was protecting the sovereignty of Member States and allowed minimal changes to the existing procedures to collect such taxes.
Second, VAT was allowing to put an end to the permanent disputes caused by the determination of the amount of national transfer taxes to refund on exports and the taxation of imports[21]. Indeed, in a VAT system, the exact amount of taxes on each transaction is known and it is impossible to grant state aides on exports and overtax imports prohibited by the European Treaties.
Third, contrary to other indirect taxes, VAT applies to all exchanges (or supplies/economic activity) by a business. Although VAT is collected at each stage of distribution and commercialization, until the retail level, it allows that the same tax applies to the same price at consumer level, as far as the right of deduction in the whole chain of production and commercialization is complete. This is the “technological neutrality” or absence of impact of VAT on the methods of production and on the business organisation.
According to the preamble 7 of the VAT Directive, neutrality means that similar goods and services bear the same tax burden, whatever the length of the production and distribution chain. And from the context of the Directive, it appears that the chain of production and of distribution is not located in one country. But in this common market composed of different states, the right of deduction of input VAT was not – and it is still not – harmonized in the different Member States. Neutrality is impacted by the right of deduction during the whole process of production and commercialization that takes place in various countries (verticality of the neutrality). Therefore, it is technically impossible that comparable goods and services produced in various countries support exactly the same percentage of tax at the retail stage, even if at the retail stage, in each country, the suppliers are treated exactly on the same way as other suppliers supplying similar or identical goods for the same price (horizontality of the non-discrimination). [22] Despite a strict application of the General Principle of Non-Discrimination, the percentage of taxes supported by the consumer cannot be exactly the same because the right of deduction is not the same in all the EU Member States, due to the express decisions of the Council allowing derogations to the Member States. And an express decision of the EU Council prevails on the General Principles of EU Law.
Therefore, it is logical that the Court of justice decides that conceptually Non-Discrimination is a Principle of EU law that can sometimes prevail on the text of a national or even sometimes of an EU legal provision, while neutrality is only a principle of interpretation not having the same force[23], because the existence of explicit decisions of the EU Council.
Over the years and following the establishment of an internal market, the way in which VAT is collected has increasingly appeared to be obstacles equivalent to customs barriers and even more unpredictable and costly than customs procedures. But this will be the subject of a future study.
2. The VAT base and it’s limitations
The VEG Report suggests a broadening to the taxable base by various means such as the elimination of VAT exemptions, derogations, options and standstill clauses applied by Member States, special VAT schemes and multiple VAT rates structures[24].
And indeed, neutrality is directly impacted by the scope of the VAT base because, as a rule, without taxation there is no deduction of the upstream tax (except with international transactions). In addition, at the same time, for a particular transaction, there is no link between taxation (and the right of deduction related to) in the Member State where the supplier is established and a possible exemption in the Member State where the customer is established[25].
There are various types of schemes in the chain of production that have an impact on the percentage of the tax supported at consumer’s level:
- VAT exemptions in the public interest that are characterised by non-deduction of input VAT;
- Special schemes regarding bodies governed by public law and immovable property;
- VAT exemptions because difficulty to determine the taxable base;
- Non taxation in the digital economy;
- Non or double taxation consecutive to derogations or options variable depending the EU Member States.
VAT exemptions on intra-EU supplies have not direct impact on the VAT neutrality. However, such exemptions with right of deduction of input VAT break the chain of deduction at a critical point (the change of authorities monitoring the transactions), and therefore they weaken the mechanism of control of the VAT and indirectly the neutrality of the VAT system.
It is important to remember the reasons why the Council has adopted provisions that today create problems.
2.1. VAT exemptions in favour of the public interest
The current list of VAT exemptions in articles 132 to 134 of the VAT Directive is a consolidated version of the exemptions existing in the early 1970’s in the majority of the EU Member States at that time[26]. Contrary to what happened before the adoption of the First and Second VAT Directive[27], at the time of the adoption of the Sixth VAT Directive and later, there has been little discussions about the consequences of VAT exemptions. The current situation is the consequence of the requirement of the European Parliament in 1962 to introduce immediately a full VAT system[28]. The Parliament feared that if the VAT system would have been introduced in two stages, as proposed by the European Commission[29], a VAT system would never be fully implemented and this would have damaged the European economy. Therefore, the Parliament suggested to give total freedom to Member States (taxation, exemptions, out of the VAT scope) for the transactions having at that time no impact on international transactions i.e., at that time, on the internal market. According to the system adopted in 1967 (second VAT Directive), only a specific list of transactions was taxable[30], while the others were either “out of the VAT scope”, VAT exempt or taxable. The current list of exemptions has been exclusively designed to determine “a uniform base of assessment” for the collection of the own resources to be transferred by the Member States to the European Institutions[31]. As it appears from the Historical Archives, the Member States willing to make an exception had only to pay an additional contribution to the EU budget.
But from the fact that these exemptions concern labour intensive activities that are frequently funded by subsidies, requiring at that time little investments or outsourcing, it appears that these exemptions had been carefully designed by the Member States with a view to encouraging investment and reducing the cost of labour required to produce services supplied in the public interest at that time.
2.2. Priority to neutrality on investments
The particular scheme of bodies “governed by public law” is extremely complex because it is a combination of transactions taxable (generally where investments are necessary)[32], out of the VAT scope and VAT exempt (even if the distinction between these two categories depends from options to be left by Member States).
According to the archives of the negotiation of the Sixth VAT Directive, the French delegation feared that if traditional activities of public bodies would be subject to VAT, the price paid by the users of these services would increase and local authorities would be subject to tax inspection (!), an operation which would be difficult both technically and politically.[33] But from the content of the scheme and in particular the Annex I of the VAT Directive, it appears that the objective was to allow as much as possible the deduction of VAT on investments.
By their nature, immovable property transactions have in general no impact on the internal market. Like for the public bodies, the transactions requiring substantial material investments are taxable and therefore allow a right of deduction of input VAT. But the fight against abusive practices and fraud that would have made too invasive the investigation by the tax authorities has probably guided the decisions of the Legislature to exempt some immovable property transactions. [34]
2.3. Absence of harmonisation of taxable base in an European context
It is inherent to a process of negotiation that one of the parties agrees to give up is veto right in exchange of a temporary exception or that the majority gives up to the views of the minority to adopt at least a uniform treatment at EU level. The VAT Directive contains provisions such as option to tax or supplies as defined by Member States or “may provisions” that may imply an extension or a limitation of the taxable base.
There are various types of transitional measures. Some Member States may continue:
- to charge VAT on some transactions, while they are exempted[35],
- to exempt transactions that are taxable;[36]
- to limit the right of deduction.[37]
Another source of absence of harmonisation is the unequal application by the Member States of minutes of the Council of Ministers at the time of the adoption of the Sixth VAT Directive[38] or possibly at the time of more recent VAT Directives.
Such temporary derogations are strictly interpreted[39], even when they lead to discriminations between suppliers and when they have an impact on the amount of taxes supported by the consumer (absence of neutrality).
Option to tax services (with full right of deduction) whose place of supply is in another Member State where they are exempted and consumed is a type of derogation paving the way to non-taxation and distortions of competition.
2.4. Difficulty to determine the taxable base
Transactions on Banking, Insurance and Gambling services concern money i.e. that the price (money) and the service (money) supplied is of the same nature. They are remunerated by either a disclosed commission, or like in the case of credit, by undisclosed commissions. These services consist in contractual arrangements easy to modify and they are not protected by copyrights or know-how. Because these business consist in the negotiation of money, a disclosure of percentage of VAT due would automatically disclose the costs (including the risk) necessary to produce such supplies and would render impossible any negotiation on the prices of such services.[40] VAT is not adapted to such transactions, even if there is no difficulty to charge VAT on the commissions or on the gross margin[41] of transactions such as credit or insurance.
According to Maurice Lauré, the Banque de France rejected in the 1960’s the Commission’s proposal to charge VAT on banking services because it would have forced Banks to make a distinction between business and non-business[42]. But there is another explanation that seems to be much more convincing: the Banking sector wanted to include the financial services in the VAT system because it feared to be subject to special taxes. By including activities subject to VAT, banks hoped to be less sensitive to decisions specifically targeting their sector[43]. And over the time, this approach has been confirmed by a comparison between the banking and insurance sector: this latter is fully VAT exempt, but over the years it has been subject to multiple national indirect taxes.
2.5. Non taxation Digital economy
The price of the consumption by final consumers may be exclusively supported by business collecting data about the preferences these consumers and therefore there is no taxation on the actual consumption. This is a business model successfully adopted by the “digital economy” allowing the producer to benefit of a full deduction of input VAT on services supplied for free to the final consumers. Indeed, the advertising services financing such free services are not for free. This is an extension the business models developed a long time ago by newspapers that were partly financed by advertisers and partly by the readers. The services received from the consumers and the information that they freely communicate can hardly be qualified as a barter because a fundamental condition to charge VAT is missing ie the direct link between the supply of information by the consumers and the consumption of digital services by these consumers[44]. When a private individual consumes digital services, he allows the suppliers to use its personal data in order to refine their offer of what he wants. This individual is not business of supply of data and his position is not comparable to an immovable property owner letting a building.[45]
3. Consequence of limitation of the VAT taxable base
The objective of neutrality of tax on business and consumers decisions is particular to VAT. Other taxes are sometimes designed to influence the business and consumers decisions. But at the same time, all indirect taxes should not create distortions of competition between producers of goods of the same nature and they should comply with the General Principle of non-discrimination, both at national and at EU level.
Distortion of competition
A first consequence of the limitation of the right of deduction of VAT during the production process[46] is that the same services do not support the same tax. An example are the insurance services when they are supplied by insurance brokers (fully VAT exempt). However, the same insurance services support less non-deductible VAT when they are distributed by banks, because the banking sector is partly VAT exempt and therefore may deduct a portion of VAT when distributing insurance services.
Taxation of investments
The consequence of VAT exemptions is the disallowance of the right of deduction by a producer of goods and services. Therefore, it means taxation of production or more precisely, taxation of investments. This is a disincentive to outsourcing[47]. This non deducted VAT is not necessarily attributed to the Country where the final consumption takes place, but rather where the producer is established[48].
Concentration of activities in some Member States or migration of services outside the EU
But in an environment where there is a free movement of goods, services and capital, VAT exemptions have lead to other consequences. One may expect, and observe, that business migrate where they support low taxes on production (in particular corporate taxes, but also VAT) as far they do not support additional taxes in their relations with their consumers[49]. The distortive effects are increased by the fact that the internal market is composed of independent tax jurisdictions where some transactions benefit of a full right of deduction in the country of production and non-taxation in the country of consumption. For business, there is no difficulty to delocalize in an internal market, specially when corporate taxes and social security benefits are combined. In addition, if production of services are outsourced in third countries, there is no protection comparable to customs or anti-dumping duties for goods.
High costs of formalities, obstacle to modernisation and outsourcing and legal uncertainty
And when a producer cannot migrate, such as for the bodies governed by public law, it is observed that the most aggressive and complex tax planning structures are set up, many times with official approval of the tax authorities. This is not only motivated by VAT savings and it is mainly intending to reduce the statistics of the States and local entities budget deficit by methods that not appear in the state budgets, and therefore comply to with the requirements of the “Maastricht criteria”. Such agreements require to abide strict conditions that are sometimes difficult to meet. Such special structures are generally highly complex, require huge advisory fees, even if this does not offer a legal certainty and renders very difficult any change the organisation of such entities and outsourcing.
The fact that bodies governed by public law are “non-business” for VAT purposes has consequences on the place of supply of services to such organisations [50], but also on the taxation of self-supplies with their own personnel, as well the different methods of right of deduction[51].
Barrier to cross-border activities
VAT is a serious obstacle for cultural, educational and scientific activities in another Member State because VAT exemptions are subject to different definitions and frequently depend from a recognition of the Member State of establishment. One may understand it when such transactions are partly or totally financed by public subsidies.
4. Alternative ways of broadening the taxable base and their limits
There may be multiple reasons to modify a tax system, but for indirect taxes there are only a few tools in order to improve the collection: taxation v. exemption; one or multiple rates; one or multiple points of levy of the tax; point of levy close or not of the customers; attribution of the tax to Member-States or to the European institutions.
4.1. Taxation
Charge VAT at standard rate on transactions that are currently VAT exempt is one of the possible alternatives. But because of the increase of the costs for the consumers and the increase of the formalities for producers, such taxation at standard rate is certainly socially and economically unacceptable for most services that are currently VAT exempt in the health, education, cultural, not for profit sectors and that are mainly labour intensive. Therefore, VAT is perceived as socially regressive by many decision makers.
In the early 2010’s, a study for the European Commission suggested that an extension of the VAT to these VAT exempt or “out of the VAT scope” sectors would allow for a reduction of the VAT rate with 5% points in all Member States. The reaction of the Brussels’ lobby of local authorities has been virulent[52] . The consequence has been that the excellent efforts of the European Commission[53] have been stopped, ‘by highest level decision’, without any discussion, nor explanation. Would the opposition have been less virulent if instead of two extreme alternatives (taxation at standard rate/exemptions), a full set of alternative solutions would have been open left to discussion? Apparently, alternatives have not been envisaged
4.2. Zero-rating and reduced rates
Zero-VAT rates
VAT zero rating means that no tax is levied on output supplies, a feature it has in common with the so-called exemptions. However, where VAT zero-rating and VAT exemptions diverge is on the input side. Exempt transactions do not allow for input VAT credits, but under zero rating the full right to deduct input VAT is retained.[54] This system is applicable for financial services with third countries[55] and in various EU-Member States, but today it apparently faces a strong opposition of the DG Taxud because it would make the fraud easier.
From the archives of the negotiation of the Sixth VAT Directive, it appears that in the year 1960, during the negotiation of the Second VAT Directive, Member States were strongly opposed to zero-rating because the tax authorities would have to set up a special service to check and pay refunds. Such repayment would be inconsistent with the principle of a tax applicable to all consumption and would have to be funded by an increase of the tax rate.
During the negotiation of the Sixth VAT Directive, the arguments put forward against zero-rating were the following:[56]
– VAT is a general tax on consumption and therefore a zero-rate extensively applied would lead to full remission of tax in a large area of consumption and consequently runs counter to the principles laid down in the First VAT Directive.
– Broad application of zero-rates is liable to create distortion of competition.
– Maintenance in certain countries of zero-rates could give rise to political pressures in countries where such rates are not applied.
– Zero-rates are liable to influence the determination of the own resources attributed to the European Institutions due to the difficulty of checking the basis of assessment of such rates.
Reduced VAT rates
The VEG Report strongly opposes to multiple rates. And indeed, this is problem in the chain of production, when tax inspectors do not understand that the tax is actually supported by the final consumers. But such reduced rates would certainly not present the same difficulties for the supply of services at retail that are currently in their vast majority VAT exempt.
Twenty years ago, a British not for profit organisations suggested that if the current exemption in the view of the public interest would be replaced by a reduced rate of 3 to 4% depending on the Member States, this would have compensated the reduction of the tax revenue caused by the deduction of input VAT[57]. And this would have allowed an important simplification of the accounting procedures and the organisation (outsourcing, …) of the business currently penalized by the indirect costs of the VAT exemptions.
4.3. Collection at one stage and Digital Service tax combined with a right of deduction of input VAT
An indirect tax can be levied at multiple stages, like VAT, or at one stage like excises or customs duties. By their nature, excises are not neutral on the decisions of the business and of the consumers. Various European countries have already introduced Digital Services Taxes, unilaterally, and without coordination at EU level. This concern services such as marketplaces, advertising, intermediation, digital service, streaming video services. It is not clear whether such taxes are indirect taxes or not, but this depends from a decision of each legislature. Anyway, they should comply with other principles such as non-discrimination and competition in the internal market. For community excises on tobacco, alcohol, and oil, these objectives are attained by a combination of both VAT (allowing a right of deduction of VAT incurred during the chain of production and of commercialization) and excises harmonized at EU level. But it is not the case for other excises (i.e. not harmonized excises) as long as they do not lead to formalities at the crossing of internal borders[58] and that they are included in the VAT taxable base[59].
If the intention is to be neutral on both producers and consumers decisions, the levy of such single taxes must happen as close as possible of the consumers, i.e. at retail level. But this requires huge cost of collection, for both the tax authorities and the business collecting them. However, if the objective is to limit the consumption of some types of goods in the perspective of, for example, the climate transition, a tax may be imposed on imports in the EU or on the EU producers of such goods or services, before they are integrated in a further process of production and of commercialization of other goods and services. This would limit the cost of collection of such taxes at a stage of a limited number of producers, but it would have an impact on the competition. A possible alternative to meet the requirements of non-discrimination and of taxation on a uniform base at EU level would be to attribute directly such new taxes to the European Institutions, like it is already the case for customs duties.
Such taxes levied at one stage are already common in the banking, insurance and gambling sectors that are strictly regulated, and their activities are partly or totally VAT exempt. The VAT revenue (non-deductible VAT related to such VAT exempt transactions) is attributed to the Member State of production and not to one of consumption. This does not guarantee a fair competition. A combination of the VAT system and such excises on financial services could allow to combine neutrality and fair competition in the internal market:
- deduct input VAT on their costs, in order to allow a technological neutrality,
- zero-rate B2Business[60] and B2Goverment supplies to avoid distortion of competition,
- and charge VAT on B2Consumers supplies according to the rules developed by the Court of justice in the Case in First National Chicago Bank (the gross margin)[61] to pass the tax on the consumers and in the country of consumption.
This could have a major impact on various aspects: freedom of organisation of these sectors and reduction of organisational costs of such business. For the Member States budget, it means that the tax would be attributed to the country of actual consumption but not the country where such services are produced, as it is currently the case.
4.4. Eliminations of derogation, options in an international context
Derogations allowing some Member States to maintain exemptions (while other Member States are taxing the same transactions), to continue to tax (while others are exempting the same transactions) or to grant to business an option to tax have possibly a positive impact at national level at the time of their adoption. But their impact on the internal market has been ignored or, at least, underestimated. It is not because such kind of structures are not marketed aggressively like the “Iceland route” in the years 1990’s[62] that they do not exist. They take time to be implemented, and they are almost impossible to be challenged by the tax authorities which most of the time unaware of them. And those who contribute to implement them are not allowed to detail them in public reports.
4.5. Collection of social security levies via VAT system
Collection of social contributions by the mechanism of VAT has been discussed in France under the name “social VAT”, partly implemented in Germany, and implemented in Denmark. The financing of the social security would not depend only on the national production, but also on the acquisition of goods and services produced abroad. This is fully compatible with the VAT Directive and does not require any authorisation of the Council.
5. A shift in approach?
The originality of the VEG Report’s is to publicly discuss problems faced by the EU VAT system from a broader perspective. VAT is one of the various indirect taxes. Unlike other taxes, VAT is general, collected by fractioned payments until the retail stage and it is intended to be neutral on business and consumers decisions (neutrality) in a common market where the relations are governed by international trade rules and a strict application of non-discrimination on the nationality or on the place of establishment. The neutrality of the VAT is negatively impacted by the limitation of the taxable base during the process of production of goods and services and by the fact that VAT is not able to tax some type of services in the banking, insurance, gambling and digital services sectors.
It makes sense to pursue specific goals such as collection of own resources for the EU institutions, fight against fraud, functioning of the internal market, the increase of productivity or green economy, etc. But the discussions about the means to attain such objectives should not be overly compartmented, as it is currently the case. The originality of the EU VAT and its success are due to the integration of contradictory concepts such as internal market and international trade, tax supported by the consumer but levied by the supplier, one tax and multiple stage of collection, facilitation of trade and increase of tax collections, etc.
The issues raised by the VEG Report will merit further debates in the light of a few basic distinction applicable not only to VAT, but to all indirect taxes : equal treatment versus neutrality on business and consumers decisions; principles of subsidiarity versus functioning of the internal market; single versus multiple levy of the taxes; combination of VAT with other indirect taxes; attribution of the revenue to the Member States or to the European institutions.
According to article 113 TFUE, the Council of Ministers of the European Union is obliged to adopt provisions necessary to ensure the establishment and the functioning of the internal market and to avoid distortion of competition. This obligation is immediate, but it is subject to proposals to be submitted by the European Commission. At the time of the adoption of the Sixth VAT Directive, the European Parliament invited the European Commission to submit a Proposal for a Seventh VAT Directive devoted to neutrality of VAT and the elimination of distortions of competition[63]. This was in 1977, almost fifty years ago…
[1] VAT Expert Group (VEG) Report December2, 2024. Compare with the Opinion of Advocate General Szpunar 12 May 2021 Case C 100/20 XY v Hauptzollamt B ECLI:EU:C:2021:387, para 76 who considers that decisions of market operators should be made exclusively on the basis of economic criteria.
[2] Ex art 2 al. 1 of the Directive 67/227/EEC (First VAT Directive).
[3] As pointed out by Maurice Lauré who invented the word VAT, such tax is certainly not a tax on the value added Lauré, Science Fiscale, PUF, 1993 pp.225 to 230; see also Observations of the Belgian Conseil d’Etat on a project of a VAT Code, Doc. Parl. 88 (1968) n° 1 p. 77.
[4] See Taxes in Europe Database v4 https://ec.europa.eu/taxation_customs/tedb/#/advanced-search
[5] Such taxes have been abolished in Belgium in 1860, but still exist in overseas departments in France
[6] In Germany see Carl Friedrich von Siemens, Veredelte umsatzsteuer,Siemenstadt, 1921 ; in France, see Maurice Lauré, La Taxe sur la Valeur Ajoutée, Recueil Sirey 1952.
[7] Agence Européenne de productivité de l’Organisation Européenne de Coopération Economique, Le Régime Fiscal du Chiffre d’Affaires et son incidence sur la productivité (The Regime of Turnover Tax and its Effect on Productivity), Project No. 315 (November 1957).
[8] For a recent US view on sales tax see John L. Mikesell, Reversing 85 Years of Bad State Retail Sales Tax Policy, Tax Notes States, 2019 p.1147
[9] Treaty establishing the European Coal and Steel Community, ECSC Treaty
[10] Art. 28 to 37 TFUE
[11] Frans Vanistendael, A Proposal for a definitive VAT System: Taxation in the country of origin at the rate of the country of destination without clearing, Vol.? EC Tax Review 1, pp. 45-53 (1995). but the technology was not yet available at that time; Odile Courjon, Yolande Serandour et Guy de Cordes, Taxe sur la valeur ajoutée : chronique de l’année 2013, Droit Fiscal 204 n° 10 pp. 36 ; C. Amand, Taxation of Intra-Community Supplies of Goods, 25 Intl. VAT Monitor 4, p. 188 et seq. (2014)
[12] Mariya Senyk, The Origin and Destination Principles as Alternative Approaches Towards VAT Allocation, IBFD Doctoral Series 53, 2020 p.343
[13] See S Cnossen about the misunderstanding of his proposal by the European Commission S. Cnossen, VAT Coordination issues in the European Union p. è, note 16 (CES IFO Area Conference of Public Sector Economy2008).
[14] In particular articles 370 to 393 of the Directive 77/388/EC
[15] See article 2 al. 4 and 4of the Directive 67/227/EEC (First VAT Directive) ; Art. 35 of the Directive 77/388/EEC (Sixth VAT Directive); art. 402 to 410 of the Directive 2006/112/EC (VAT Directive)
[16] The Sixth VAT Directive has been drafted in such a way that a few articles had to be modified if the Council would have adopted the Commission’s proposal at the end of the years 1980’s.
[17] See thesis of Mariya Senyk, The Origin and Destination Principles as Alternative Approaches Towards VAT Allocation, IBFD Doctoral Series 53, 2020 ; Communication from the Commission to the European Parliament, the Council and the European Economic and Social Committee on the future of VAT: Towards a simpler, more robust and efficient VAT system tailored to the single market, COM(2011) 851 final, p. 5 (6 Dec. 2011).
[18] Council Directive (EU) 2019/1995 of 21 November 2019 amending Directive 2006/112/EC as regards provisions relating to distance sales of goods and certain domestic supplies of goods
[19] Maria Dolores Schulte, The Economic Theory of the Destination Principle and the Origin Principle in Comparison and Harmonization of Public Revenue Systems, Especially of Fiscal Systems, Congrès de Luxembourg, September 1963, XIX Session.
[20] European Coal and Steel Community, High Authority – Report on the Problem Raised by the Different Turnover Tax Systems Applied within the Common Market (Tinbergen Report), Luxembourg, 1953.
[21] Articles 96 to 98 of the Treaty of Rome
[22] see C. Amand, Neutrality versus Equality in Virtues and Fallacies of VAT: An Evaluation after 50 Years, Rob Van Brederode Editor, Wolters Kluwer 2021, p.59; see more recently “Literal versus restrictive interpretation (limits of the wording)” in CJEU Case Law in VAT” – Recent Developments in Value Added Tax 2024, M. Lang, ea Ed. Linde 2025
[23] CJEU, 19 July 2012, C-44/11, Deutsche Bank AG para. 45.
[24] VEG Report p.3, 14-16, 27-28.
[25] CJEU, 7 December 2006, C-240/05, Eurodental; CJEU, 21 October 2004, C-8/03, BBL; CJEU, 22 December 2010, C-277/09, RBS Deutschland Holding; CJEU, 17 July 1997, C-190/95, Aro Lease; CJEU, 7 May 1998, Case C-390/96, Lease Plan Luxembourg.
[26] Proposal for a sixth Council Directive on the harmonization of legislation of Member States concerning turnover taxes – Common system of value added tax: uniform basis of assessment submitted by the Commission to the Council of 29th June 1973 art.14 Explanatory Memorandum
[27] Commission, General Report of Sub-groups A, B and C, set up to examine the different possibilities for harmonization value added taxes, 3310/IV/62-F (European Commission, January 1962).
[28] The Parliament had rejected the First Proposal of the European Commission to introduce a VAT system in two stage because it feared that the second stage would never be adopted see Report of the Committee for the internal market on the Proposal of the Commission to the Council (Doc 121, 1962-1963) concerning a Directive on the harmonization of the legislations of the Member States on turnover taxes (‘Deringer Report’) (European Parliament, Documents Session 1963-1964, Document 56, 20 August 1963).
[29] Proposal of 5 November 1962 for a [First] Directive for the harmonization amongst Member States of turnover tax legislation, IV/COM(62)217 of 31 October 1962, Bulletin of the European Economic Community No. 12 – 1962.
[30] Directive 67/228/CEE
[31] This is why the title of the of the Directive 77/388/EC contains the words “Uniform base of assessment”. The Preamble 2 of this directive refers to the Council Decision of 21 April 1970 on the replacement of financial contributions from Member States by the Communities’ own resources. This decision provides that the budget of the Communities shall, irrespective of other revenue, be financed entirely from the Communities’ own resources ; these resources are to include those accruing from VAT and obtained by applying a common rate of tax on a basis of assessment determined in a uniform manner.
[32] Art. 13 and Annex I of the Directive 2006/112/EC
[33] Historical archives of the Sixth VAT Directive, folder 12, Working Document T/373/74 (fin).
[34] See Jean-Pierre Scholsem La T.V.A. européenne face au phénomène immobilier : essai de problématique en droit fiscal comparé Université de Liège. Faculté de droit. Collection scientifique ; no 41. One may expect that buildings would be rented to related persons only to deduct input VAT on the construction of such buildings…
[35] Art. 370 and 375 to 390 quater juncto enclosure X of the Directive 2006/112/EC
[36] Art. 371 and 375 to 390 quater juncto enclosure X of the Directive 2006/112/EC
[37]standstill provisions article 176 regarding the limitation to the right of deduction
[38] Historical Archives Statement to be written into the minutes of the Council meeting at which a Directive is adopted – Directive 77/388/EEC Brussels, 25 March 1977, R/716/77 (FIN 151)
[39] CJEU, 12 June 2008, C-462/05, Commission v. Portugal, ECLI:EU:C:2008:337 para. 54; CJEU, 7 March 2002, C‑169/00, Commission v Finland, ECLI:EU:C:2002:149 para. 34, and CJEU, 7 December 2006, C-240/05, Eurodental, ECLI:EU:C:2006:763 para. 54
[40] C. Amand, EU VAT and Financials Services: Which Rules, What Consequences and Which Possible Solutions?, 30 INTL. VAT Monitor 5 (2019), Journal Articles & Opinion Pieces IBFD, https://doi.org/10.59403/3de11mv.
[41] CJEU, 14 July 1998, C-172/96, First National Bank of Chicago
[42] Maurice Lauré, André Babeau et Christian Louit, Les impôts gaspilleurs, PUF 2001 p. 140.
[43] This is the explanation given by Jean Pardon, head of the Belgian association of financial institutions in the years 1970’s. It seems to be much more logical than the one given by Lauré
[44] Christian Amand What does VAT Actually Tax ? International VAT Monitor 2022 Vol 33 n°2
[45] CJEU, 4 December 1990, C-186/89, van Tiem.
[46] Services because most of the VAT exemptions concern services and not goods.
[47] The VAT Directive contains corrective measures such as cost sharing groups or additional exemptions, but these provisions are largely insufficient.
[48] C. Amand, EU VAT and Financial Services: Which Rules, What Consequences and Which Possible Solutions?, 30 Intl. VAT Monitor 5 (2019), Journal Articles & Opinion Pieces IBFD,
[49] One of the examples has been the migration of non-EU telecom operators in Luxembourg pursuant to the Council Directive 2002/38/EC of 7 May 2002 amending and amending temporarily Directive 77/388/EEC as regards the value added tax arrangements applicable to radio and television broadcasting services and certain electronically supplied services, OJ L 128.
[50] As a rule, for services to non-business not identified for VAT, the place of supply is where the supplier of services while if the recipient would perform taxable or VAT exempt transactions, the place of supply would be where the recipient is established
[51] For non-business, the only method of deduction acceptable is the direct attribution while for business performing VAT exempt activities a direct attribution or general prorate is acceptable.
[52] Council of European Municipalities and Regions, VAT and Tax Exemptions on Public Bodies: No Taxation Without Representation, CEMR draft response to the European Commission consultation on the review of existing VAT legislation on public interest (April 2014),
[53] Copenhagen Economics and KPMG, VAT in the Public Sector and Exemptions in the Public Interest (2013), https://ec.european.eu/taxation_customs/sites/taxation/files/resources/documents/common/publications/studies/vat_public_sector_exemptions_en.pdf (accessed on 16 February 2011).
[54] This is also the solution adopted by Australia where the ‘social goods’ such as basic foods, education, healthcare, childcare, water and sewage, various religious and charitable activities and cars for disabled people are GST free. i.e., contrary to the VAT exemption in the EU, the tax burden is fully removed by GST Act 1999 subdivs. 38 A, B, C, D, F, G, I and J. See Rebecca Millar, Rebecca Millar, The Principle of Neutrality in Australian GST 17 Austl. GSTJ.) 26 (2017). Maurice Lauré considered that UK and Ireland were the two European countries having the best understanding of the VAT because they extensively used zero-rating (Maurice Lauré, Science Fiscale, PUF, 1993 p. 265).
[55] Art. 169 (c) of the Directive 2006/11/EC.
[56] Sixth Directive Historical Archives, folder10_1979, T/289/74(fin).
[57] S.J.C. Hemels, Effectiveness of EU VAT Treatment of Charities, 22 Intl. VAT Monitor 5 (2011), Journal Articles & Opinion Pieces IBFD, https://doi.org/10.59403/3xg397d.
[58] Art. 401 of the Directive 2006/112/EC.
[59] Art. 78 of the Directive 2006/112/EC.
[60] According to Maurice Lauré[60], this proposal has been rejected by the Banque de France because it would have forced banks to make a distinction between business and non-business. Maurice Lauré, André Babeau et Christian Louit, Les impôts gaspilleurs, PUF 2001 p. 140.
[61] C. Amand, EU VAT and Financial Services: Which Rules, What Consequences and Which Possible Solutions?, 30 Intl. VAT Monitor 5 (2019), Journal Articles & Opinion Pieces IBFD, https://doi.org/10.59403/3de11mv
[62] See CJEU, 17 July 1997, C-190/95, Aro Lease
[63] See the Declaration of Harry Notenboom on behalf of the Finance Commission of the European Parliament, Annex to OJ 216, Apr. 1977, Débats du Parlement Européen, session of 20 April 1977, p. 181.
