Just before Christmas, HMRC issued a Consultation Document about the proposed changes to the place of supply rules that are due to be introduced between 2010 and 2015. It can be downloaded here http://customs.hmrc.gov.uk/channelsPortalWebApp/channelsPortalWebApp.por....
There has been a lot of discussion about the proposed changes to the rules in the VAT world. But for the majority of UK businesses, there will be little or no difference. In fact unless you sell services to customers or buy services from suppliers in other EC countries or outside the EC, you can stop reading now and go and do something more useful! All you really need to know is that the UK legislation is being updated to reflect certain rules to do with EC business.
For those of you who are reading on, you might want to get yourself a cup of tea as it's a bit of a long read. Unfortunately it's one of those subjects that can't be discussed quickly.
Section One: The Place of Supply
The issue of the Consultation Document does provide a good opportunity to talk about the subject of the “place of supply”. It is one of those phrases that crops up regularly whenever we refer to international business of any kind and it’s important to understand it.
It is a concept unique to VAT, in practice the VAT equivalent of the concept of “residence” for tax purposes. It means where, ie in which country, a supply takes place for VAT purposes and in which country the VAT is payable.
For VAT purposes, it usually means that the person making the supply is required to register for VAT in the country concerned, charge VAT at the appropriate local rate and submit VAT returns to the local tax authorities.
So you could be a UK company but if you are making supplies of goods or services in say France or Spain, you would, in principle, be required to register for VAT in that country, charge VAT at the local rate and pay VAT to the local, ie, French or Spanish tax authorities. There are, however, a number of “simplification” rules that in many cases avoid the need for businesses to be registered in countries where they have no establishment.
There is a very helpful guide to this subject published by HMRC, VAT Notice 741: Place of Supply of Services, which explains all these issues in detail. I have referred to various sections of this notice throughout this article and it can be found here http://customs.hmrc.gov.uk/channelsPortalWebApp/channelsPortalWebApp.por... on the HMRC website.
Section Two: Changes from 1 January 2010
Most of the changes that are coming into effect during the period from 1 January 2010 and 1 January 2015 are necessary to bring into UK law certain changes being made at EC level, to ensure that all member states are applying the same rules in the same way. So even for those of you who do EC business or have clients who do EC business, the practical changes will be limited.
The main changes are as follows:
• The technical definition of the place of supply of services (or “POSS” as I’ll refer to it for brevity’s sake) is being amended from 1 January 2010. What it will do is to establish into UK law the principle that for B2B transactions, the POSS is where the customer is established, whilst the POSS for B2C transactions is where the supplier established. This will be known as the “general rule” in the future. It reflects current practice throughout the EC for the majority of intra-EC business so will not affect most business transactions.
• The majority of changes will affect the VAT treatment of a limited number of business transations, including the hire of means of transport and certain “supplied where performed” supplies (eg entertainment, sport, cultural events).
• From 1 January 2010, UK businesses will be required to complete EC sales lists for taxable services which are supplied to businesses in EC countries, in the same way as they are currently completed for supplies of goods to EC businesses.
• From 1 January 2015, there will be an optional One-Stop Scheme for business supplying electronically supplied services, telecoms and broadcasting for non-EC businesses which provide such services to EC consumers (ie non EC businesses to EC consumers). It will be based on the existing One Stop Scheme for suppliers of electronically supplied services, which enables non-EC suppliers to register in one EC country and account for VAT on sales in all EC countries on one return form.
• Finally, there will be an electronic refund scheme presumably to replace the existing EC VAT refund scheme.
So there will be little practical change for most businesses, but the introduction of these legislative changes is important as it marks a significant development in the merging of the EC market.
Section 3: Simplification rules and a bit of history
For those of you who need to understand a bit more about how the POSS rules work, we need to go back in history to remember one of the fundamental concepts of the “Common Market”, as it was originally called. The idea was to provide an economic framework to allow businesses from member countries to operate with the same rules and regulations for equality of competition.
In principle, businesses should bear VAT on goods and services supplied from overseas at the same rate as local suppliers (or alternatively should be able to reclaim VAT charged by foreign suppliers) so that businesses from all EC countries would be able to operate on equal competitive footing.
The problem has always been that the original VAT rules were based on the principle that the supplier would charge VAT where his business was established. Ultimately it was thought that businesses would only have to register in one EC country state and charge VAT to all businesses all over the EC at the same rates. The VAT collected would be passed around the EC tax authorities by some sort of super clearing house system and business customers would be able to claim VAT charged by overseas suppliers on their normal VAT return.
Now you can imagine how difficult this would be to set up and operate. Trying to get member states to agree on the interpretation of existing rules is difficult enough without trying to get countries to share out VAT revenues on a regular and routine basis. Various other options were considered over the years and we ended up with the sort of half-way house system we have at present.
Section Four: A sort of half-way house
Remember 1992 and the introduction of the EC Single Market?
When the EC Single Market was introduced in 1992, this marked a huge change in the way that many EC businesses operated. Quite literally, the physical barriers (ie the border controls) between member states were removed and it was possible to move goods and people from one country to another without going through border controls.
Now we all know this did not happen overnight and even nowadays if you are travelling anywhere on the mainland of Europe, you need your passport to avoid any problems at local borders. But the one thing that did happen was that EC businesses were able to start moving goods from one EC country to another without having to go through customs controls at each border. New documentation (including the Single Administrative Document or “SAD”) accompanied such deliveries and the supplier and customer accounted for VAT on such transactions on their VAT returns instead of at the borders.
The VAT system was changed for supplies of goods throughout the EC and is now as follows:
• Where the customer is a VAT registered business in another EC country, the supplier zero-rates the sale of the goods and the customer accounts for VAT on its VAT return, so the place of supply is where the customer belongs.
• For B2C supplies, the supplier charges VAT at his local rate, so the place of supply is where the supplier belongs.
This is the same as the new "general rule" for services.
Obviously there are exceptions to this rule, for example the distance selling rules for B2C transactions which require businesses to register for VAT in the customers’ country if the value of sales to customers in that country exceeds certain limits. But the principle was established and is now normal practice.
The intention was always to follow this with similar rules for the supply of services. But it simply wasn’t possible for the EC or the member states to introduce the legislation or make the administrative changes to enable all cross-border supplies of services to be handled in this way at the same time.
Section Five: Services “supplied where received” and the reverse charge
But by that stage, the EC legislation did include certain mechanisms that had the effect of treating services under the “general rule”. This is the concept that certain services are “supplied where received”.
•Sales of “services supplied where received”
What this means in practice is that the services are treated as taking place in the customer’s country. It works as follows: if the customer is a business in another EC member state, the supplier does not charge VAT but VAT is accounted for by the customer using a procedure known variously as the “tax shift” mechanism, or the “reverse charge”.
These services include a range of what might best be described as intellectual or professional types of service, including consultancy, advisory, legal, marketing, IT services. They are listed at section 13 in VAT Notice 741. So if a UK business consultant provides services to a French business, the consultant does not charge VAT on his invoice. The French customer accounts for French VAT on the value of the services on his VAT return.
If these services are supplied to any customer, business or non-business customer, outside the EC, then the supplies are also “supplied where received” so not liable to UK VAT.
•Purchases of “services supplied where received”
When a VAT registered business imports any of these services from a supplier in another EC state or from a supplier based outside the EC, the customer accounts for local VAT under the tax shift rule. The effect is that the customer pays VAT on these services as though the services had been acquired from a supplier in his own country, so the customer doesn’t benefit by importing services from abroad free from VAT or at a lower rate of VAT.
Typical examples, which often come up, are the invoices from Google for internet advertising. Many UK businesses receive these on a monthly basis and have to account for UK VAT on the value of the imported service.
The customer can claim the VAT as input tax on his VAT return under the normal rules in the same way as he claims VAT on supplies in his own country. There is an explanation of how the reverse charge works in detail at Appendix 1 to this article.
I know that this concept of the services which are “supplied where received” is difficult to get your head round, but the best way of thinking about it is to compare it with imported goods. We’re all familiar with the concept of paying import duty and VAT on imported goods, for example if we’ve been on a shopping trip to a non-EC country, maybe a Christmas shopping trip to New York. In this case, you pay the duty and VAT when you go through UK Customs at the airport when you return. The reverse charge procedure simply provides the mechanism that allows the local tax authority to collect VAT on certain types of imported services.
Section Six: Other services
What about other types of services that are not covered by the "supplied where received" rules
There are special rules for various other categories of services.
For example, the place of supply of any type of “performance” service, such as entertainment or training, is where the performance takes place. So if you are a UK training company and you send some staff to France to carry out training in France, the place of supply would be France and in principle you would have to register for VAT in France.
Another example is the supply of services relating to land – for example construction services, architects’ services, estate agents or solicitors services where they relate to specific areas of land or property. In these cases, the place of supply is the country where the land or property is located. The actual term in the legislation is “immovable property” which would normally refer to land or buildings, but might include infrastructure such as pipes or wires, bridges or roads
However even for some of these services, the member state concerned may allow the customer to account for VAT using the reverse charge mechanism if the customer is a VAT registered business, so that the supplier doesn't have to register for VAT in that country.
This facility also exists in UK law – as long as the customer is registered for VAT, they can use the reverse charge for certain services in addition to those listed as “supplied where received” above. See section 16.12 of VAT Notice 741 for the services that are included. However if the customers are not registered for VAT, eg private individuals, then the supplier would generally have to register for VAT in the country concerned.
The reverse charge can also apply to other types of supplies of services under specific EC simplification rules. These include work on goods including valuation or repair, transport of goods or the hire of means of transport. See section 16.11 for these details.
There is another class of supplies covered by the “use and enjoyment” provision which applies to services such as IT, telecoms and hire of certain goods. It requires non-EC suppliers of such services to register for VAT and charge VAT on services supplied to EC consumers. See sections 14 and 15 of the Notice for information on this rule.
There is also a “Special Scheme” for non-EC suppliers of IT services. Rather than having to register for VAT in each EC country, the supplier can choose to register in just one country.
Section Seven: So what about the 2010 – 2015 changes?
By now, you’ll understand that the POSS rules are one of the most complex and messy parts of EC VAT. Even when you can get the member states to agree the rules themselves, you then have to deal with each country’s own tax authorities and tax practices. So not only do you have to be a technical genius to be able to understand the rules, you’ve also got to be multi-lingual and a cultural anthropologist to be able to operate the rules throughout the EC.
The EC is therefore trying to modernise and simplify the system. It won’t be possible to completely change things to the “supplied where received” system, but the existing legislation is being amended to remove anomalies and ensure that every country’s legislation properly reflects the EC rules.
The main change for most businesses will be that from 1 January 2010 they will have to submit ESLs for supplies of services to other EC businesses. It appears that these will be 3 monthly and will have to be submitted for calendar quarters. They will have to include details of customers’ VAT registration numbers and values of supplies to each customer.
The other changes will really only affect specific business sectors but are worth mentioning as they will necessitate practical changes for those businesses.
• Hire of means of transport
Currently this is taxed under the general rule, ie where the supplier belongs. But from 1 January 2010, there will be a distinction between long term and short term hire and changes to the rules about the place of supply.
First, short term hire will be defined as hire up to 30 days continuous possession (vessels up to 90 days) and will be taxed where the vehicle/vessel is put at the customer disposal. So if a UK car hire company has some cars in Ireland that are available for hire in Ireland, it would have to register for VAT there and charge Irish VAT on such supplies. Long term hires will continue to be subject to the general rule.
Second, from 1 January 2013, the place of supply for B2C long term hire will change to where the customer is established – presumably his place of residence. For pleasure boats it will change to where put at the disposal of the customer if the service is provided from the supplier’s place of business or establishment in that place.
Now this second point concerning pleasure boats could affect a number of UK suppliers who own yachts which are generally berthed in UK ports. It is interesting because at present, the UK legislation zero-rates the hire of certain “qualifying” vessels which is beneficial for many owners, but presumably this could change as well in line with these new rules. HMRC have been aware of this anomaly and I suspect that this change is being brought in with this in mind.
• Services supplied where performed
The second of the practical changes concerns the interpretation of the “supplied where performed” rule. The intention is to tighten up the application of the rule so that it only applies to admission type services and services that are ancillary to admission, such as storing of coats etc. It makes sense to do this as there are several different interpretations of this part of the legislation at present.
• One stop scheme for BET
The other major change is that the existing One-Stop Shop for non-EC suppliers providing IT services to EC non-business customers will be extended to include broadcasting and telecommunications services from 1 January 2015. This should help reduce the costs of such suppliers doing business in the EC as they will only have to be registered for VAT in one country.
Section Eight: So what next?
The VAT treatment of international services is a difficult area and of course VAT is only one aspect of doing business with overseas suppliers or customers. For most UK businesses, these changes won’t have any significant effect and even for those involved in international business, the only significant change will be the requirement to submit ESLs.
One final point that is worth mentioning is the issue of how you determine whether or not your customer is a business customer, as not all businesses are registered for VAT. Also, what do you do if your customer is a charity or other non-profit organisation, such as a local authority or government department?
The starting point should always be to ask if the customer is registered for VAT in their own country and if so ask for their registration number. If they are not registered for VAT, you should ask them to provide other evidence that the services are being used for business activities. If they cannot provide you with such evidence, you should charge UK VAT.
If you are in any doubt, the best advice is to request guidance from HMRC. See section 12.5 of Notice 741 for further information on this subject.
In the meantime, I’ve set out below as an appendix an explanation of how the reverse charge works in practice.
Appendix: Shifting the Place of Supply
This is how the tax shift mechanism works:
• If the customer is a business and belongs in another EC country, the supplier does not charge local VAT. Instead the customer accounts for VAT on his VAT return in his own country using the “reverse charge” mechanism. So the place of supply has been shifted to the customers’ country.
The “reverse charge” is so called because the customer, instead of the supplier, accounts for the VAT on his VAT return.
This is how it works:
• The customer includes as output tax on his VAT return VAT on the cost of the services at the rate he would have paid if the services had been obtained from a UK business, in this case 15%. He can also treat this VAT as input tax and claim it back in the same way.
So if the customer is “fully taxable” and can claim back all of his input tax, he will account for output tax and recover input tax of the same amount on the same return.
The reverse charge VAT is simply an accounting entry on the VAT return and doesn’t affect the VAT payable to Customs. It’s the same principle as accounting for acquisition VAT on goods imported from the EC.
• For example, if the value of the imported services is £1,000, then the customer includes £150 as output tax and claims £150 as input tax. The customer’s net VAT liability on that return is not affected.
If, however, the customer is partly exempt and can only recover a proportion of his input tax, he can only recover that proportion of the VAT as input tax.
• A UK insurance company with a recovery rate of 20% would have to account for £150 output tax but could only recover £30 input tax. So the net effect would be an additional VAT cost on that return of £120.
Finally, the customer must also include the value of the imported service, the value shown on the bill from the overseas supplier, in boxes 6 and 7 of the return.
Further information about the reverse charge can be found in section 16 of Notice 741.