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RMcH states: Vat can be quite complex, this article simplifies slightly the changes as a result of doung business with UK businesses.
The way VAT, Customs and Excise duties operate in the UK may change after Brexit. The scale of change that may occur will depend upon the outcome of the UK–EU free trade agreement negotiations.
The Withdrawal Agreement means that different rules apply on VAT and excise apply to Northern Ireland.
Value Added Tax (VAT) is a tax on the consumption of goods and services. In general, a business charges its customers VAT on its sales (output tax). It then remits the VAT it has collected to the national tax authority, offsetting the VAT it has paid to its own suppliers (input tax). In this way, at each stage in a good or service’s production, tax is collected on the value added at that stage.
The UK was obliged to introduce VAT when it joined the European Economic Community (EEC) in 1973. VAT broadly replaced a purchase tax on luxury goods. The six original members of the EEC harmonised their VAT regimes[1] to reduce the distortion of export refunds, which gave member states a potential competitive advantage over one another and produced economically distortionary effects.
The UK VAT system operates within parameters set by EU VAT directives, a system that only applies to EU member states. Typically EU VAT directives[2] do not apply to members of the European Economic Area (EEA).
At the end of the transition period, the UK will leave the VAT area. However, under the terms of the Withdrawal Agreement, Northern Ireland will remain fully aligned with the EU’s VAT rules on goods. The UK government will be responsible for implementing these rules in Northern Ireland and the UK will retain any revenue raised, rather than passing it on to the EU as now.
In theory the UK could abolish VAT after Brexit, but in practice it is very unlikely. VAT is a major revenue raiser[3], forecast to raise approximately £125bn in 2017/18, which amounts to 18% of tax receipts.
VAT is also the International Monetary Fund's “tax of choice” and over 160 countries have now introduced it – it accounts for 20% of tax revenue globally. The UK has been party to the internationally agreed standards of the OECD International VAT/GST guidelines[4] and is unlikely to reject this approach.
The government’s technical guidance for businesses preparing for the end of transition indicates the government plans to continue to have a VAT system in the UK.[5]
The UK could, depending on the terms of the final agreement, gain more flexibility on the structure of VAT after Brexit.
The current constraints include:
The EU has become increasingly concerned that intra-EU trade has become a major source of fraud and it plans to move to a single EU VAT area[7] which would see a fundamental shift in the way VAT is accounted for. Measures have recently been agreed to reform the VAT[8]system, including proposals for more flexible VAT rates[9]. It remains to be seen to what extent the UK will adopt these measures in its own system.
The potential flexibility created by Brexit means UK ministers may come under more pressure to lower VAT rates or remove and reform exemptions and reduced rates. This could lead to further complexity and is likely to be politically challenging.
But this flexibility could open the way to more radical reform like a lower standard rate of VAT on everything. For example, the Goods and Services Taxes of New Zealand and Australia apply a single rate of 15% and 10% respectively, with far fewer exceptions. But there would be many potential winners and losers from such reform.
The UK already has a comparatively high registration threshold for VAT at £85,000, which has been fixed until April 2022 whilst the government consults on the recommendations from the Office of Tax Simplification.[10]
VAT law is interpreted, ultimately, by the Court of Justice of the European Union which is binding on the UK. Post-Brexit, this will change, although the UK’s courts may need to take account of previous CJEU’s decisions when deciding VAT cases. How this will affect the interpretation and direction of the UK’s case law remains to be seen, especially when dealing with general VAT principles that have evolved over several decades.
In Northern Ireland, the UK government will be only be able to change VAT rates on goods in line with EU rules. It may also apply VAT exemptions and reductions, including zero rating, to goods in Northern Ireland if they are also applicable in the Republic of Ireland.
The big change after Brexit will be how VAT is charged on trade with the remaining 27 member states. The scale of change will be contingent on the final negotiated outcome.
In normal domestic transactions, the seller charges the buyer VAT and then pays the money collected to the tax authority. At the moment, for EU transactions, VAT is generally not charged on the supply of goods between businesses from another European country by the supplier. Instead, a business recipient is generally required to charge itself VAT, known as acquisition VAT, which is typically an accounting transaction on the VAT return. There are different rules for private customers and other exceptions. For services, the ‘place of supply’ rules determine the country in which VAT is charged and accounted for.
When the UK leaves the EU VAT area, it will become a third country. This means that the way businesses manage VAT on goods and services exported and imported to/from the EU will change. Sellers will not charge VAT, but buyers will have to pay VAT to HMRC at the point of import (alongside any applicable customs duties).
The payment of VAT at the border will have potential cash flow consequences[11] which the UK government proposes to mitigate for imports, through the introduction of postponed accounting for import VAT. This would shift the VAT accounting and payment away from the border to the VAT return. Postponed accounting would also apply to rest of the world imports, not just those from EU countries.[12]
The Withdrawal Agreement means that the rules on cross-border VAT will be different in Northern Ireland. Northern Ireland and the rest of the EU will continue to be treated as now for VAT purposes: for business-to business transfers, exports (technically despatches) will be exempt from VAT, which the purchaser of the good or service will pay at the rate applicable where they live. But there will be a new VAT border in the Irish Sea, because the rest of the UK will be outside the EU VAT area. This means that Northern Ireland customers buying goods from Great Britain will have to pay VAT to HMRC when they import the goods, rather than to their supplier (who would then pass the tax on to HMRC). In practice, the introduction of postponed accounting means this may not make much difference.
Some businesses will have to make import-export declarations for the first time – a change that may affect between 145,000 and 250,000 businesses[13] who conduct their trade solely between the UK and EU27. A further 73,000 businesses[14], who trade with both EU and non-EU countries, will have to make declarations for their UK-EU trade in addition to their non-EU trade.
EU member states will require VAT to be paid on importation[15] unless they introduce a deferral mechanism. UK businesses exporting to the EU may need to engage VAT representatives in different countries to comply with EU VAT obligations. Businesses wishing to claim a refund of overseas VAT will no longer have access to the EU VAT Refund Portal, and are likely to face longer waiting periods to be refunded according to Daniel Lyons of Deloitte.[16]
Individuals and overseas businesses will also be affected as the rules for parcels entering the UK will change. Low Value Consignment Relief – for parcels valued as £15 or less – will be scrapped[17] on parcels arriving from the EU.[18]
There has been little detail from the government about how services will be dealt with. The EU VAT rules governing services depend upon the nature of the service provided, who receives the service and the location of the service. Certain rules regarding the export of financial services are under consideration.
UK suppliers of digital services to EU non-business consumers using the EU’s online Mini One-Stop Shop (MOSS) scheme will have to change to the ‘non-Union’ scheme to account for their sales. The MOSS allows non-established service suppliers to file a single VAT return – documenting their sales by member state of consumption – in only one member state. This return is then distributed to the relevant member states so VAT can be levied accordingly. Businesses established in non-EU countries who use the UK for their MOSS VAT return will have to move their MOSS identification to an EU27 member state to continue using the non-Union MOSS scheme.
Further information
Institute for Government would like to thank Angela Fearnside and Ruth Mace at the Chartered Institute of Taxation for their help with this Brexit explainer.
This explainer is for reference purposes only. You should get professional tax advice if you want to understand how these changes may affect your personal circumstances.
Update date:
Monday, November 16, 2020
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