What is VAT fraud, and why is the EU worried? – Q&A
29 Dec 2017

The European Commission (EC) has launched plans to tackle VAT fraud as it looks to modernise its current system for both industry and government.

The proposals include cutting red tape and shaking up the bloc’s VAT laws to cut down on fraud, which is depriving member states of much-needed revenue.

Overall, over 150 billion of VAT is lost annually. Of this figure, around 50 billion euros – or 100 euros per EU citizen – is estimated to be due to cross-border VAT fraud, according to the EC, which says this money can be used to finance criminal organisations, including terrorism.

Under the current EU system, companies and consumers face 28 different VAT regimes when operating cross-border.

On Wednesday, senior EU officials called for an end to this ‘anachronistic system’, which they said was based on national borders and set up a quarter century ago on a temporary basis.

Here’s our quick take on how the proposed measures could be received by states like the United Kingdom.

What is the VAT dilemma all about? Here’s an abridged Q&A version of the issue, sourced from the European Commission:

What is VAT?

Value Added Tax (VAT) is a tax levied on most goods, products and services available for purchase in the EU. In principle, everything we buy includes VAT in the price. When selling domestically (i.e. not across borders) companies also pay VAT on the goods that they buy and which they plan to sell on to another business or to consumers.

VAT is not currently charged on sales between businesses in different EU Member States. The new proposal envisages a future VAT system where VAT will be charged on sales that are made across borders to another country in the EU. The rate applicable in the country of destination will be charged.

Who commits VAT fraud?

VAT fraud is a major EU-wide problem. It is carried out by criminals and organised crime networks. VAT fraud can occur in many sectors including electronics, cars and carbon permits.

While VAT carousel fraud is set up by individuals sometimes involved in other criminal activities, fraudulent VAT schemes generate financial profits which are then subject to money laundering in the same way as profits from other criminal activities.

Which products or sectors are most prone to VAT fraud?

The most attractive goods for fraudsters have been those of high value and low volume such as mobile phones or computer chips, which generate huge amounts of VAT in the lowest number of transactions and in the shortest possible time.

In recent years, by taking advantage of the shortcomings inherent in the current VAT regime, VAT carousel fraud has rapidly moved from one product or economic sector to another with criminals quickly adapting to any counter actions taken by enforcement bodies.

It is also now possible for VAT fraud to take place without any tangible goods being moved at all: carousel fraud circuits have recently moved from real economic flows to entirely virtual operations supported by fake invoices.

What are the links between VAT fraud and organised crime, including terrorism?

Several cases of VAT fraud investigated in recent years have repeatedly highlighted the link between VAT carousel fraud and money laundering:

• In 2016, an EU-wide VAT fraud and money laundering network operating in Spain and Portugal was dismantled. It had been committing VAT fraud with fuel oil and precious metals and laundering the proceeds.
• A 2015 case involved the dismantling of an organised crime network operating in Czech Republic, Netherlands, Germany and Poland.

In addition, investigations are ongoing at Member States level which could potentially reveal links to the financing of terrorist activities.

How will the switch to a definitive VAT regime help to fight fraud in the EU?

The proposed cornerstones of a definitive regime scrap the exemption of VAT that is currently in place for cross-border trade within the EU, which is the main case of large-scale, cross-border VAT fraud today.

In future, VAT should be collected and paid in the same way as for domestic transactions.

This would dramatically decrease the risk of non-payment of VAT to governments and eliminate the main weakness of today’s cross-border VAT calculation (see diagram).

What are the next steps for this proposal?

The proposal will be forwarded to the European Parliament for consultation and to the Council of Ministers for their agreement. It will require unanimous agreement from all Member States in the Council before it can enter into force.

A second directive overhauling the whole VAT Directive will be proposed in which the cornerstones will be implemented and the current transitional articles will be replaced or deleted.

The adoption of this second proposal is currently scheduled for 2018 and the definitive regime should enter into application in 2022.

KYC360 News, Irene Madongo

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