VAT is the cornerstone of the EU’s tax harmonisation system and its impact is wider.

03-07-2017

This week, Brexit Secretary David Davis began Britain’s divorce proceedings from the European Union, and the clock is ticking until the UK leaves the EU on 29 March 2019.

But what does this mean for VAT? VAT is the invention of the EU; the EU’s First and Second Directives introduced VAT to the original six member states in 1967. Today, VAT is imposed on all 28 member states – it’s imposition is a condition for accession to the EU and the standard rate cannot fall below 15%. VAT is the cornerstone of the EU’s tax harmonisation system and its impact is wider still – it supports Union-wide free trade and ensures that the fundamental freedoms of the EU – the free movement of goods, capital, and persons – are respected and preserved.

So as Brexit looms, what comes next for the UK? Will the UK government stick or twist on VAT?

At 20%, the British standard rate is unexceptional, and falls somewhere in the middle of the EU’s VAT extremes. VAT ranges from Hungary’s 27%,Denmark, Sweden and Croatia’s 25%, toGermany’s 19%, all the way down to Malta at 18% and finally Luxembourg at 17%. Interestingly, just as the rates differ across the Union, so too does the bureaucracy that underpins VAT’s collection – in the spirit of simplification, the UK has managed to reduce VAT returns to a form comprising nine boxes; to illustrate another extreme, the Italian equivalent has 580 boxes.

Like much emanating from the EU, VAT has attracted some controversy. In 2003, the EU proposed to harmonise VAT across the EU, which would have meant imposing VAT on children’s clothing. The then chancellor, Gordon Brown, resisted the plan. Remarkably enough, VAT was levied at the standard rate on women’s sanitary products, like tampons and maternity pads, because these items are classed as non-essential “luxury” items. Thanks to lobbying from a former Labour Financial Secretary to the Treasury, Dawn Primarolo, in 2000 the UK government reduced the VAT rate on these products to 5%. This was the lowest rate possible and, despite 300,000 signatures on a petition for a change in the law, and political will to eliminate VAT on these products in David Cameron’s 2015 Parliament, under EU law the UK can’t simply apply a zero rating. Any change would require a European Commission proposal and agreement from all 28 member states. With Brexit, perhaps the government will have a chance to redress these anomalies.

The issues around VAT form some of the most thorny to be resolved in the Brexit negotiations. As members of the EU, businesses located within the bloc effectively pay 0% VAT to trade with each other – intra community acquisition and supply. However, upon leaving the EU, UK-EU trade becomes plain import and export. UK exports will need to go through customs, and be taxed in the country of consumption, with a significant increase in administration. Similarly, materials imported into the UK will need to go through customs where they will be liable for import VAT, recoverable in the tax return. The clear winners in this increase of administration will inevitably be the newly employed ranks of customs officials and tax administrators.

Regardless of what deal is done with the EU, what will the government do? Will the government decide to stick with the current VAT structure, move to a different structure, or do away with VAT completely? Britain has had a consumption tax since the Second World War which continued to be applied right up until 1973, and while there are some tax cutters for whom the elimination of VAT might be a dream, it would seem unlikely. HMRC’s VAT receipts for 2015-16 totaled £115.1bn and there are no large, industrialised nations without a VAT/GST system. Interestingly, the only nations without some form of VAT, or Goods & Sales Tax (GST) are: Afghanistan, the Bahamas, Brunei, Comoros, Greenland, Guernsey, Hong Kong, Iraq and the Maldives.

It’s likely that the government will want to remain as close as it can to the remaining EU members in order to ensure trade and regulation can be made as simple as possible for business.

Unlike corporation tax, there’s no apparent political imperative to reduce VAT – indeed, rates have only risen. As a consumption tax, it’s unlikely to be a competitive consideration for businesses looking to relocate to or from the UK. This was writ large in the recent General election; while the Conservative Party’s manifesto pledged to reduce corporation tax to 17%, there was no similar pledge regarding VAT. Despite the Conservative drive to encourage inward investment, there’s no business imperative around VAT – businesses act only as unpaid tax collectors for the government after all.

What comes next depends on a number of factors; some of which will not become clear until the talks conclude and agreements are signed. While headline rates may not change, changes are guaranteed.

Source - http://ow.ly/iZCb30dgqMM