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Digital revolution shakes up tax collection

As e-commerce grows, tax authorities try to protect their indirect tax revenue without increasing their administrative burden or slowing cross-border trade.

When the first value-added tax (VAT) systems were implemented around 60 years ago, cross-border trade was not much of an issue.

Goods were mainly produced and sold locally, and if goods were imported, it involved a few traders in large quantities.

But globalization saw a massive expansion in cross-border trade.

By 1990, the global trade of manufactured goods had increased tenfold from rates in 1960. With the emergence of the internet in the 1990s, the first online shops came into being.

What started as a niche business has evolved into a multibillion-dollar e-commerce trend over just a few years, with two-digit growth rates each year.

By 2018, global e-commerce sales are expected to have passed the USD1,500 billion mark.

Nowadays, consumers order goods from almost anywhere in the world and have them shipped directly to their homes.

As a consequence, millions of individual parcels, many with values below the thresholds for levying customs duties and taxes, cross borders every day.

Losing tax revenue

In many markets, these low-value consignments are giving foreign suppliers a competitive advantage over local suppliers, and they are causing significant losses of tax revenue, such as import duties and VAT and goods and services tax (GST).

As a result, customs authorities are taking steps to protect this source of revenue. In many countries, the threshold below which goods are free of import duties and taxes is declining toward zero.

In theory, this makes every import taxable. But, in practice, it increases the administrative burden for customs authorities and slows down cross-border trade.

What should they do?

So should customs authorities look for new ways to tackle cross-border sales?

Another approach has been chosen by Turkey, for example, which has announced new filing requirements, effective 1 July 2016, for carriers and logistics companies to report on the aggregate shipments from a supplier, regardless of the identity of the importers.

In the European Union (EU), an extension of the Mini One Stop Shop (MOSS) system is being discussed for EU suppliers of goods that have to register and pay VAT in the EU country of arrival if they sell goods to private consumers there.

Switzerland plans to implement such a procedure in 2017 — one of the first non-EU countries to do so.

Digital disruption

Digitalization is forcing these developments to go even further.

Increasingly, orders of physical goods are giving way to a simple download of data.

Books are bought as electronic books; music and movies are streamed; and, with the development of 3-D printers, consumers will create more and more goods on the spot and in real time, acquiring from the seller just the necessary data to program the printer.

All these developments could affect the revenues collected from indirect taxes.

Revenues from taxing supplies of goods decrease (also because barriers to international trade continue to fall) and, at the same time, traditional VAT systems cannot tax cross-border supplies of services and intangibles or can do so only to a limited extent.

Uncoordinated response

Many countries are developing rules to tax foreign providers of electronic services.

However, this is happening in a rather uncoordinated way, with most countries simply requiring foreign service providers to register in the country and pay VAT/GST.

Some countries, such as Switzerland and Norway, have had such rules for years.

The EU followed with a uniform system for all 28 Member States in 2015, introducing the MOSS concept as a single point of contact for taxpayers to declare tax charged on digital sales made to individuals.

Most recently, Australia, Canada, Japan, New Zealand, Russia, South Korea, Thailand and Turkey announced that they will require foreign e-service providers to register and pay taxes.

At the same time, many countries are considering lowering or abolishing thresholds for the importation of low-value consignments, allowing them to tax physical cross-border e-commerce deliveries as well.

Impact on merchants

Although there may be progress for governments, this uncoordinated approach poses significant problems for online merchants.

Just imagine a supplier of music downloads having to register for VAT/GST in 150 countries, to file VAT/GST returns in them all and to apply the different local VAT/GST rules.

Or think of a small start-up store selling goods online to customers in many jurisdictions and having to comply with all tax rules in foreign languages and exotic currencies. Both businesses also must be able to identify the place of residence of their customers to apply the correct VAT/GST treatment.

Impact on tax authorities

But, in reality, it seems questionable whether these new rules are manageable for tax authorities.

They definitely come with an additional workload and — if a foreign merchant does not register — little or no means to collect the tax due.

We therefore need a shift toward a global framework for applying VAT or GST to cross-border flows of services and intangibles.

The Organisation for Economic Co-operation and Development (OECD) has already started this work by issuing the Global VAT/GST Guidelines in 2015, which recommend levying VAT or GST in the place where goods and services are consumed, not where they originate.

However, the OECD has no solutions for how to enforce compliance. It simply recommends that countries adopt a simplified registration system and calls for stronger international cooperation in the exchange of information and the enforcement of taxes.

Governments have an incentive to do so, given that they otherwise run the risk of having to rely on more difficult and costly enforcement and collection mechanisms.

A simpler way?

A possible example of such a simplified system can be seen in the EU, where, as of 1 January 2015, a MOSS was established that not only invokes the destination principle for business-to-consumer (B2C) transactions but also seeks to simplify the compliance burden for business across EU Member States.

Beyond the EU, however, such common registration and collection systems are unlikely to become operable in the near future.

That means providing services to consumers in other countries bears greater indirect tax risks for e-commerce businesses — which are rapidly becoming most businesses in today’s economy.

This article was first published in EY´s Indirect tax developments in 2016 publication.

End notes

[1] “Digital tax developments December 2015,” EY website, www.ey.com/digitaltax, accessed 2 February 2016.

[2] “A look at OECD’s International VAT Guidelines, 21 January 2016,” EY website, taxinsights.ey.com, accessed 2 February 2016.

CONTACT

Global Director of Indirect Tax

Gijsbert Bulk

+31 88 40 71175

gijsbert.bullk@nl.ey.com

 

Americas

Jeffrey N. Saviano

New York +1 212 773 0780

Boston +1 617 375 3702

jeffrey.saviano@ey.com

 

Robert S. Smith

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robert.smith5@ey.com

 

Asia Pacific

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+65 6309 8787

adrian.r.ball@sg.ey.com

 

Europe, Middle East, India and Africa (EMEIA)

Kevin MacAuley

+44 20 7951 5728

kmacauley@uk.ey.com

 

Global Trade

William M. Methenitis

+1 214 969 8585

william.methenitis@ey.com

 

Neil Byrne

+353 1 221 2370

neil.byrne@ie.ey.com

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