The EU reverse-charge mechanism which allows foreign companies not to charge VAT is maintained until 2026
Reverse-charge VAT is a major challenge for businesses of all sizes, but especially startups that are just launching. We've put together this blog post to help you understand what it's about and to check that you follow the correct processes and procedures.
Reverse-charge VAT impacts businesses across the EU. The measure was introduced as a rapid response to widespread fraud, allowing foreign companies not to charge VAT on their sales if below 10 million euros (or 5 million euros for some countries). This means that EU companies are obliged to self-assess and pay VAT when they purchase services (e.g. consultancy) or products (e.g. e-books) from non-EU businesses, instead of having them charged differently at source by those non-EU businesses, like is the case for domestic sales. This has been a radical change from how VAT has historically been implemented within the EU, where businesses are most often used to charging their clients for VAT and paying it to their local tax authority afterwards.
No change to VAT Reverse Charge
The EU decided to maintain the VAT reverse-charge mechanism, which allows foreign companies not to charge VAT on services or digital products sold in the EU, until 2026. This remains a temporary measure and will only be available until a long-term solution for cross border trade has been found.
A temporary solution to fight VAT fraud
The measure was initially introduced as a temporary solution to fight VAT fraud. To date, it remains temporary, however, and will be phased out once the agreed EU-wide VAT system has been fully implemented in all member states.
What is VAT fraud?
VAT fraud occurs when a company, often an e-commerce site or small business shop, charges VAT but fails to properly submit it to the government. This may happen if they don't have the proper documentation or if they choose not to report it for any reason (such as avoiding taxes).
What is VAT Reverse Charge?
Reverse charge VAT occurs when a business sells products on behalf of another EU-based firm without charging them for it—for example, if you're selling items from Amazon's warehouse in France for them in exchange for a commission. In this case, Amazon would be responsible for paying French tax on its sales through your marketplace account instead of yours; however, most reverse charge agreements specify that sellers need their own VIES number before becoming eligible for reverse charge registration with DGIACFA (the French Customs Authority)..
What is the future of VAT in the EU?
A consensus among EU states could be reached in 2021 by digitalizing the VAT system and concluding discussions on the Digital Services Tax.
The VAT system will be digitalized. This could lead to an agreement among all EU Member States on a common reverse-charge mechanism until 2026.
The existing reverse-charge mechanism will remain in place until then.
In conclusion, VAT reverse-charge impacts many businesses (both in the EU and non-EU) when providing services to customers across the EU. It was introduced as a temporary measure to fight widespread VAT fraud and is only applied to businesses above certain thresholds. The European Commission has proposed it should remain in place until 2026, when a more permanent solution can be implemented within the Union, but some member states disagree with this timeline. Fortunately, there are also ongoing efforts to digitalize the VAT system and conclude discussions on how to levy tech giants that operate entirely online. These moves could reduce or eliminate the need for reverse-charge altogether.
Businesses have faced a steep learning curve when it comes to understanding the reverse-charge mechanism, and its complexities have led to mistakes. It’s important to keep in mind that the system is designed to help businesses comply with local VAT rules, not simply collect revenue.
The text adopted by the European Parliament on 3 May 2022: “Common system of value added tax (VAT): extension of the period of application of the optional reverse charge mechanism to the supply of certain goods and services presenting a risk of fraud and the rapid reaction mechanism against VAT fraud”.
The EU has now finally decided to maintain the reverse-charge mechanism on certain risky products until December 31, 2026.
COUNCIL DIRECTIVE (EU) 2022/890 of 3 June 2022 amending Directive 2006/112/EC as regards the extension of the period of application of the optional reverse-charge mechanism to the supply of certain goods and certain services presenting a risk of fraud and the rapid reaction mechanism against VAT fraud published in OJ L 155/1 of 8.6.2022.