A brief introduction to Value Added Tax in the European Union

Understanding the Value Added Tax in the European Union
The Value Added Tax (VAT) is a sales tax levied on the supply of goods and services. In some countries, this tax is known as the “Goods and Services Tax” or GST. The VAT is an indirect tax, meaning that the tax is collected from someone other than the entity bearing the cost of the tax.

The VAT applies more or less to all goods and services bought and sold for use or consumption in the European Union (EU). Goods and services supplied for exportations to customers outside the VAT area are normally not subject to VAT. Conversely, goods and services supplied for importation are taxed to maintain a balance for domestic producers to compete on equal terms within the European market with goods and services imported from outside the EU.

A common VAT system is compulsory for all EU member states. When a person or business is carrying out any economic activity supplying goods and services to other entities, and the value of the supplies passes a certain financial threshold, the supplier must register with the local taxation authorities and charge its customers VAT.

The VAT charged by a business and paid by its customers is known as output VAT, while the VAT that businesses pay to other businesses of the supplies they receive is known as input VAT. A business is generally able to recover the input VAT to the extent that the input VAT is attributable to its taxable outputs. The input VAT is recovered by either setting it against the output VAT for which the business is required to account to the state or, if there is excess VAT, by claiming a repayment from the state.

While end users, such as private consumers of products and services, cannot recover the input VAT on purchases, businesses registered for VAT can recover the input VAT on the goods and services they buy to make further supplies or services directly or indirectly sold to end users. In this way, the total tax levied at each stage in the economic chain of supply is a constant fraction of the value added by a business to its products, placing most of the cost of collecting tax on businesses rather than on the state. Please see Figure 1 for an example of the VAT chain.

Public bodies, state institutions, banks, unions, clubs, and selected industries cannot register for VAT and must bear the burden of the input VAT without being able to recover it. However, these organizations hold the advantage of not being obliged to collect any output VAT from their customers either. Any business not registered for VAT will normally be treated as described above.

Transactions conducted by businesses registered for VAT in different EU member states will be based on a so-called intra-Community acquisition built on strict invoicing and reporting rules. The seller will not add the local output VAT to their invoice but will report the transaction to their local VAT authority as a sale to another EU member state. The buyer will also report the purchase to their local VAT authority and calculate and immediately recover the input VAT at the home rate. The transaction is only a paper exercise but is important to keep the EU VAT system intact to avoid the necessity for EU-established businesses to recover VAT in and across the other 26 EU member states. Any transactions made not using the intra-Community acquisition system will include payments of the local VAT, and it is up to the buyer to recover any VAT from each respective EU member state.

The minimum standard rate of VAT throughout the EU is 17%, while some EU member states apply reduced VAT rates on certain goods and services, going as low as 5%. The maximum rate of VAT in the EU is 27%. The ultimate purpose of the EU is to create a single marketplace covering all EU member states, harmonizing local rules with a long-term plan to create one uniform VAT rate for all EU member states.

The EU VAT system has many exceptions. Some exceptions are accepted by the EU Commission prior to the entry of a new member state into the EU. Others have silently endured and sustained even though they conflict with EU VAT directives. These exceptions are terminated when discovered by the EU Commission. The 0% VAT exceptions for aircraft in Denmark and the United Kingdom, which were terminated in 2010, were never accepted prior to the countries’ accession into the EU. Despite having existed since 1967, these exceptions were terminated due to a harmonization request from the EU Commission when noticed in 2009 due to the “Cimber” court case.

Most EU member states revenue authorities have always had a particular focus on means of transportation, such as yachts, cars, trucks, trains, and aircraft, as they have a high value and easily move around. The main objective of each member state is, of course, to secure the correct VAT payment on high-value assets if used within the EU.

All international airlines and international charter operators, including AOC holders, Part 135 charter certificate holders, or similar, are still VAT-exempt, meaning that any supplier, even though registered for VAT, can invoice the airline with 0% output VAT, and the airline is further allowed to import their aircraft at the same 0% rate. However, each EU member state has its own standards for qualifying an airline as an ’international airline’, making it eligible for the VAT exemption. Any other business entity will have to account for the VAT at its local VAT rate in the country in which it is registered.

If you have any questions or comments about the above, please do not hesitate to contact us directly at info@opmas.dk

Best regards,
OPMAS

EXTRA RESOURCES
Online resources covering issues related to VAT

EU Commission
VAT rates applied in the member states of the European Union