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VAT reduced rates: Commission launches a political debate on how to simplify current EU legislation
(see also MEMO/07/277)

Commission Européenne - IP/07/1017   05/07/2007

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IP/07/1017

Brussels, 5 July 2007

VAT reduced rates: Commission launches a political debate on how to simplify current EU legislation
(see also MEMO/07/277)

The European Commission, in its Communication adopted today, considers that there is a real need for a simplification and rationalisation of the current VAT rates structure, in particular the reduced VAT rates. It believes that there is a place for more flexibility which would allow Member States to apply VAT reduced rates to local supplies. However, this flexibility needs to be balanced to ensure the proper functioning of the Internal Market and to avoid disproportionate compliance costs for business. To this extent, possible ways are put forward but no concrete proposal is made for new categories of products or services, given the need for prior political consideration by Member States. At the same time, the Commission proposes to extend, until the end 2010, most of the derogations coming to an end soon.

"The application of VAT reduced rates is a very sensitive issue in an area where the unanimity principle forces all stakeholders to be inclined to compromise. Today I am very happy to launch a broad political debate between Member States; we need their views before defining a coherent and achievable long term policy.", said László Kovács, the Commissioner for Taxation and Customs Union. "We consider that a new framework for reduced rates is needed, more rational, more transparent and more flexible for the Member States".

The Communication is based on, and presents the results of, an economic study conducted by an independent think-tank, as well as on other reflections on the possible way forward in the field of reduced rates.

The main conclusion of this study is that from an economic perspective a single uniform VAT rate (per Member State) is the best policy choice. It would slightly improve consumer welfare in comparison with the current situation, reduce distortions in the functioning of the Internal Market, simplify the rules and thus reduce compliance costs for business.

However, there may be specific economic benefits from operating a reduced rate in carefully targeted sectors. According to the study, lower VAT rates could contribute to economic growth if they can induce consumers to spend more on bought–in goods and services. Such a change in consumption habits often also allows more time to be spent on leisure activities with an associated increase in expenditure. For (certain) locally supplied services – notably those usually referred to as "do-it-yourself" - such a shift could take place. There are also arguments for introducing VAT reduced rates in sectors employing many low skilled workers in order to permanently create new jobs. However, overall net gains seem to be minor.

The study also stresses that other economic instruments (such as subsidies) might often be more efficient than reduced VAT rates to achieve environmental, social, cultural and economical policies.

Flexibility balanced with some imperatives

The Commission considers there is a place for more flexibility to be given to Member States to apply VAT reduced rates. However, the room for manoeuvre is narrow. Indeed, the Internal Market requires that goods and services can be traded within the EU without giving rise to unacceptable distortions of competition for companies or for Member States. These distortions could arise when consumers buy in other Member States in order to benefit from reduced prices. Locally supplied services (which cannot be delivered from a remote location) could be a candidate for reduced rates, as they do not pose any major risk to the internal market. However, political input is required here to determine what distortions can be deemed to be acceptable.

Moreover, there is a danger that introducing additional reduced VAT rates may lead to increased costs, making single market access more difficult for traders. Having to deal with different VAT rates in different Member States clearly creates a cost; which becomes particularly burdensome where the variation of rates concerns not just a few goods or services but hundreds, with different definitions for the scope of each reduced rate. Here again, political input is needed to find the appropriate balance between flexibility and the risk of increasing compliance costs.

Other criteria need to be taken into consideration, such as policy coherence (does it make sense to allow for a reduced rate on gas or electricity if we assume that this would generate more energy consumption?) and sustainability and legal certainty for stakeholders (use of reduced rates for the promotion of certain goods depends largely on political priorities that can evolve over time).

Equal treatment and measured debate

Derogations for reduced rates granted to Member States which joined the EU before 1 January 1995 are valid until the adoption of the definitive VAT system. However, many reduced rate derogations granted to the other Member States expire at the end of 2007 or in 2008. This difference in treatment creates inequality between Member States without any substantial justification. This could prejudge the outcome of the future discussions on the use of reduced rates.

Therefore, the Commission proposes to extend till the end of 2010 these last mentioned derogations providing they do not conflict with a smooth functioning of the Internal Market, with another Community policies or became obsolete. This planned prolongation aims at allowing an in-depth debate, without undue time pressure, in order to design new common rules to apply after 2010.

Background

The current situation as regards VAT rates remains highly disparate and very complex. Yet the basic rules are simple: supplies of goods and services subject to VAT are normally subject to a rate of at least 15%, but the Member States may apply reduced rates of not less than 5% to goods and services set out in a restricted list. However, these simple rules are complicated by a multitude of derogations granted to certain Member States – and not to others – during the negotiations preceding the introduction of the VAT rates Directive (1992) or in Acts of Accession.

Given that this situation is not satisfactory, the European Council requested in February 2006 the Commission to present an overall assessment report on the impact of VAT reduced rates in terms of job creation, economic growth and the proper functioning of the internal market, on the basis of a study carried out by an independent economic think-tank.

Further information is available on the following website:
http://ec.europa.eu/taxation_customs/taxation/vat/how_vat_works/rates/index_en.htm

The study made by an independent think-tank is available at this following link:
http://ec.europa.eu/taxation_customs/resources/documents/taxation/vat/how_vat_works/rates/study_reduced_VAT.pdf


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