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Internet to be taxed Back  
The EU have published their proposals to ensure that internet based services sold into the EU will bear VAT. It marks a decisive end to the internet’s tax honeymoon.
In the early days of the internet (which means only two years ago) the international consensus was that tax authorities should not stifle it at birth. The major economies agreed at a conference in Ottawa that no new taxes would be applied to the internet and concluded that existing taxes could cope quite well with it. That consensus is already falling apart.

Draft VAT directive
The EU have published a draft directive to impose VAT on internet based services sold into the EU from outside the EU. They insist that this is a mere implementation of the Ottawa agreement in that they are adapting an existing tax, VAT, to meet the requirements of the internet. What they are doing is making a radical change to the principles of VAT.

Broadly speaking, VAT has been based on the principle that the tax is to be charged according to where a business supplying goods or services is located within the EU, and on imports of goods into the EU, and of imports of certain services for business purposes from outside the EU. The consumption in the EU by private consumers of services supplied from outside the EU has not been subject to VAT. It is proposed to change that.

The proposal is that where certain services are provided from outside the EU, business consumers will continue as at present to account for the VAT on those services that they themselves consume, under the so called “reverse supply” system under which the consumer rather than the supplier accounts for the VAT; but private consumers will now be charged VAT by the non-EU supplier.

The non-EU supplier will be obliged to register in some member state of the EU and account for VAT according to the rules of that state. A single registration is all that is required, no matter in how many states of the EU the non business consumers of his services are located.

The proposed change will mean that a supplier of hit pop music downloaded over the internet, who is located in New York and who does an internet transaction with a teenager in (say) Dublin will have to register in some EU state, and account for VAT on that transaction.

How it will work
Of course to account for VAT on the transaction he must first determine two matters:
• Is the customer located within the EU. The EU proposals don’t go into detail as to how you determine in cyber space where a person is located, or indeed who is the person you are dealing with. It appears to place the onus on the foreign supplier to determine, if he is not to charge VAT, that his customer is outside the EU.
• Is the customer registered for VAT in the EU, or is he a private customer. It is proposed to create a user friendly database of all VAT registered persons so that the music supplier in New York can check on the status of his customer. If it is a business customer who is registered for VAT, he need not charge VAT. If it is a private consumer, or a non registered business, he must charge VAT.

Why should the New York supplier bother with all of this? The EU suggests that any major supplier would surely be reluctant to chalk up large unpaid tax bills in a major market. Non compliance is ultimately too dangerous, they suggest.

A carrot is offered. The non EU supplier can choose the country in which he is to register. Logically, he will choose the country with the lowest standard VAT rate. That will lead him to Luxembourg, currently at the bottom of the rate league with a rate of 15 per cent. Ireland’s 21 per cent just isn’t at the races. Registration will only be required when sales into the EU exceed 100,000 Euros.

The directive leaves a host of questions unanswered, including the position of non-EU suppliers already registered for some purpose within the EU, and how input credits will operate once they do register in their country of choice. There is also the anomaly in that the “register in one country only” system is not available to the telecom sector.

Services affected
The type of services targeted for the new system are the electronic or broadcast supply of software, of data processing services, of computer related services such as web hosting, web design, and of electronic supply of information. Also covered is the electronic supply of cultural, artistic, sporting, scientific, educational, entertainment, or similar activities.

The directive would also clarify that the supply of these services by EU suppliers to persons outside the EU will not be subject to VAT.

Long finger?
The United States has expressed reservation regarding EU moves. The whole issue of taxing cross border internet based services is a huge political hot potato within the United States. Municipalities and states are feeling the same pressures there as the EU is feeling in terms of cross border supplies.

Congress is split between those wishing to ensure that internet based services delivered cross border electronically suffer the same taxes as those delivered in any other form, and those who adopt a “tax-man’s hands off the internet” stance.

The draft EU directive can be regarded as merely the first shot in a battle. Its implementation is, at best, years away.

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