The European Union's sales tax losses, now loosely estimated to have reached $120 billion per year and continuing to grow, are causing deepening concern among tax consultant professionals in Europe.In the U.S., high rates of sales tax losses due to exemptions on Internet shopping across state boundaries cost the authorities only a fraction of the losses in the EU, because rates are low compared with Europe's equivalent rates, which center around 20 percent.

Despite a thorough airing of the problem about two years ago, measures to combat the scourge have been ineffective, and any recovery during the months - or even years - ahead appears unlikely.

Some national treasuries could be losing up to 10 percent of their potential take from the tax, members of the International VAT Association were told at their recent meeting in Dublin.

In response, several European countries are coming up with their own stopgap moves to quench the revenue hemorrhage. So far, Austria, France, Germany and the United Kingdom have suggested different versions of passing all of the value-added tax liability on to the end supplier to the final consumer, instead of it being charged at each stage of the production or sales chain.

At the last count, the European Commission had received applications for some 140 derogations from the common standards set by Europe's 6th VAT Directive. For exporters to the EU, including the U.S., such de-harmonization of existing rules threatens to introduce added complexities to the paperwork for traders dealing with the European Single Market.

Overall, the most worrying EU sales tax scourge concerns the growing "carousel" fraud, named after the fairground ride because the European VAT system involves adding the tax to the chain of invoices. The system can be likened to a circular trip where traders in the chain reclaim their share from their own tax authorities. Only the final consumer, the last link in the chain, has no recourse for reclamation, and bears the full brunt of the tax, which is collected in stages.

Sales tax fraud may occur when a perpetrator acquires goods from a supplier in another EU state - often small-volume, high-value items - that are sold to another trader at a price that ostensibly includes the VAT. The goods are then passed on - possibly at a discount - whereupon the seller disappears without paying to the authorities his share of the VAT collected from customers.

As an example of carousel fraud (sometimes referred to as missing trader fraud) products such as mobile phones might be exported out of the EU to, say, Dubai or Switzerland, and then re-imported to a different European country to confuse tax inspectors.

Tax consultants often have to square the accounts of the innocent traders who have been caught by the national taxation auditors with the goods supplied by the fraud perpetrator.

"We are worried about the small man, who is trapped because the fraudster has run away," explained Jean-Claude Bouchard, president of the IVA. "We have to find ways to protect that next man in the chain," he told the Dublin gathering.

Other delegates criticized the derogation attempts. Stephen Dale, chairman of the indirect taxation working party at the European Federation of Accountants, explained that the practice could lead to other, serious fraud problems. Removal of controls in place within the VAT system could result in an increase in cheating on corporation tax, and even personal income tax, he explained.

"If you start de-taxing any transaction in the chain of VAT-liable transactions, this effectively allows tax-free goods to enter your home market," warned Dale.

Like-minded skepticism of derogation attempts came from the head of taxation at the Association of Chartered Certified Accountants, Chas Roy-Chowdhury. "All that will happen is the types of derogation demanded by the U.K. will move the fraud to elsewhere."

Another barrier to a single, unified system, explained Roy-Chowdhury, would be that all VAT rates on different products would have to be harmonized.

Continental communication

In 2000, the European Commission and the EU civil service railed against the "unacceptable level of VAT fraud."

In its staff working document on VAT collection, the commission lamented that, "The related past recommendation on easy access by electronic means to all relevant information from tax and non-tax sources has not yet found sufficient resonance in the member states. ... The creation of better records of controls was recommended in the past by the commission. This recommendation is still valid."

In Dublin, Donato Raponi, a head of the commission's fraud unit, held that, fundamentally, Europe's VAT system "is a very good system." But to make it work properly, he explained, it needed proper cooperation between tax authorities across the EU borders.

Under the present version, Raponi told Accounting Today, trade data has to be forwarded by a trader on to its national tax authority after the end of a three-month period, and national tax authorities have another three months before forwarding it on to their counterparts across the EU. Hence, if Country A wants information from Country B, it could take at least seven months. "And this is far too long," he said. Member nations were not coordinating with each other, Raponi told the tax consultants.

As for attempts at quantifying the VAT losses, a recent questionnaire from Brussels to EU national tax authorities on VAT losses produced little cooperation. Germany did estimate its total annual VAT tax damage to be 17 billion euros ($21.6 billion), of which 6.8 billion euros ($8.5 billion) was due to the "black economy," 5.7 billion euros ($7 billion) to insolvency, and 2.1 billion euros ($2.6 billion) to carousel fraud.

The requirements to solve the losses, said Raponi, were modernization, simplification, more uniform application and cooperation. One solution to the fraud problem could be a shared database for all EU taxation authorities involved. "With a database, you don't have to send off for information," explained Raponi. On the role of the commission, he added that controlling what the different European countries did was not within its competence. It could only propose and suggest.

Despite the current moves to derogations, he thought that most EU nations seemed to be against a major change to the system. "They think it is too dangerous," he said.

Raponi said that in 1992 the European Council of Ministers brought together national finance ministers at the Ecofin committee and decided that the Single Market could make do with the then-existing system. That gave rise to the current transitional taxation regime.

At press time, the national finance ministers were scheduled to discuss the matter at a June 7 meeting.

Register or login for access to this item and much more

All Accounting Today content is archived after seven days.

Community members receive:
  • All recent and archived articles
  • Conference offers and updates
  • A full menu of enewsletter options
  • Web seminars, white papers, ebooks

Don't have an account? Register for Free Unlimited Access