See also IP/17/3441
What is VAT?
Value Added Tax (VAT) is a consumption tax, charged on most goods and services traded in the EU. The tax is levied on the 'value added' to the product at each stage of production and distribution. This means that VAT is charged when VAT-registered businesses sell to other businesses (B-2-B) or to the final consumer (B-2-C). VAT is intended to be 'neutral', in that businesses are able to reclaim any VAT that they pay on goods or services. Ultimately, the final consumer should be the only one who is actually taxed. Businesses are given a VAT identification number and have to show the VAT charged to customers on the invoices. The VAT system in the EU is governed by a common legal framework.
What is the VAT Gap?
Put simply, the VAT Gap is defined as the difference between the estimated VAT revenues that Member States expect to receive ('VAT Total Tax Liability' or VTTL) and the amount of VAT actually collected.
The VAT Gap measures the effectiveness of VAT enforcement and compliance measures in each Member State. It estimates revenue loss due to fraud and evasion, tax avoidance, bankruptcies, financial insolvencies as well as miscalculations.
How does this study fit in with the Commission's work to reform VAT in the EU?
The figures released in this year's study offer an important snapshot of the problems of collecting VAT in the EU and what needs to be done to improve revenues and fight tax fraud. Following the publication of the Commission's VAT Action Plan in April 2016, we have worked alongside Member States to put in place immediate measures to tackle VAT fraud. We estimate that a move towards a wholescale reform, with a new definitive EU VAT regime based on the destination principle, would reduce VAT fraud by 80% in the EU.
What are the main findings of the 2016 Report on the VAT Gap?
During 2015, the overall VAT that should have been collected in EU Member States grew by about 4.2 %, while collected VAT revenues rose by 5.8 %. As a result, the overall VAT Gap in the EU Member States decreased by about €8.7 billion in absolute terms, down to €151.5 billion. As a percentage, the overall VAT Gap decreased by 2.1 % to 12.7 %. In 2015, the highest VAT Gap was recorded in Romania with a figure of 37.18 % in Romania. In absolute terms, the highest VAT Gap of €35 billion was in Italy. Overall, the VAT Gap decreased in most Member States, with the largest improvements noted in Malta, Romania and Spain. Seven Member States saw a small increase in their VAT Gaps: Belgium, Denmark, Ireland, Greece, Luxembourg, Finland and the UK.
The VAT Gap measured in this study includes for the first time revenues emerging from new VAT rules for cross-border sales of e-services which came into force on 1 January 2015, following a Commission proposal.
Why did the Commission sponsor this study?
The aim of this study is to quantify the VAT Gap and to better understand trends in the EU in the field of VAT collection. This can then help to address policy measures to improve VAT compliance and enforcement. The figures can serve as a yardstick to monitor progress in this area.
How does this study fit in with the European Semester?
Many European Semester recommendations call on Member States to improve tax compliance and their tax administration capacity. More should therefore be done to exchange and implement good practices in this area. A method to accurately and regularly provide an estimate of the VAT Gap is a tangible means to support the efforts required from Member States tax administrations towards a more efficient tax collection.
What input did Member States provide?
Nearly all Member States were involved in the creation of this study and report. The work incorporates numerous observations from Member States in an effort to include accurate data. Member States demonstrated their interest in developing a VAT Gap estimation tool to better understand the trends in the field of VAT collection - a positive signal of shared willingness to tackle the VAT Gap within the EU.
How big a problem is VAT fraud?
VAT fraud results from weaknesses in the current VAT system and the way in which tax administrations manage VAT collection. A recent study suggests that on average 36% of the VAT Gap is due to VAT fraud. As VAT is a major revenue source for Member States, VAT losses, including those due to VAT fraud, have a big impact on the State budget. The Commission's VAT Action Plan has already set out ways to make the EU's VAT system more fraud proof. Immediate efforts being undertaken by the Commission include efforts to enhance cooperation between Member States by supporting the sharing and joint analysis of information, improving tax compliance by cooperating with businesses to address fraud and supporting the modernisation of tax administrations to prevent and fight fraud. Recent media reports have also linked large-scale VAT fraud to organised crime groups including terrorists.
Why do we need a single VAT area and how will it work in practice?
The VAT system is a major and growing source of revenue in the EU, raising almost €1 trillion in 2014. But the VAT system has been unable to keep pace with the challenges of today's global, digital and mobile economy. It needs to be modernised because it is too complex for the growing number of EU businesses operating cross-border and leaves the door open to fraud. The Commission will shortly table proposals on this.
The current system splits every sale across EU borders into a VAT exempt transaction in the country of origin, and a taxable purchase in the country of destination. It is like a customs system, but lacks equivalent controls and is therefore the root of a significant amount of cross-border fraud [see factsheet]. For example, missing trader fraud can occur when the importing company sells the VAT exempted imported goods, collects VAT, but disappears before passing on the VAT collected to tax authorities.
A robust single European VAT area would treat cross-border transactions in the same way as domestic transactions (i.e. cross-border trade will no longer be exempt from VAT), putting an end to the inbuilt weaknesses of the system. The current system is too fragmented and not in line with the needs of the Internal Market. It is no longer viable or realistic to base the EU system on 28 different VAT procedures. The current rules can discourage businesses from expanding their businesses across borders.
The creation of an EU-wide VAT system would support a deeper and fairer Single Market. It would also help to boost jobs, growth, and investment and competitiveness.
How would VAT be collected in future?
The Commission will soon propose a future VAT system where VAT is charged under the rules of the originating country on sales that are made across borders to another country in the EU, at the rate applicable in the country of consumption. The VAT on a cross-border sale (goods or services) would be collected by the tax authority of the originating country and transferred to the country where the goods or services are ultimately consumed.
Businesses that trade within the EU will be able to sort out their VAT far more simply and easily, via an online web portal in their home country. Otherwise, traders would have to register for VAT, file returns and make payments in every EU country where they operate. The online portal would also allow VAT to be collected by the country where the sale is made and transferred to the country where the goods are consumed.
In order to allow for a gradual transition, trustworthy businesses that are certified by their tax administrations, including SMEs, could initially continue to purchase goods free of VAT in another Member State and pay VAT in their own country.
What is the Policy Gap?
The 2017 Report also provides further information on the Policy Gap for the EU. The Policy Gap indicates the additional VAT revenue that a Member State could theoretically collect if it applied the same VAT rate to all goods and services.
The Policy Gap as defined above can in turn be broken down into the Rate Gap and the Exemption Gap. As the terminology suggests, the Rate Gap represents the potential revenue loss due to the existence of reduced rates, whereas the Exemptions Gap represents the potential revenue loss due to goods and services which are exempt from VAT in some Member States.