It is becoming an increasingly hot topic. Various different people have already raised the issue of value added tax with me. So it’s now time to write a blog post on the subject. The question is: Why is the issue of value added tax for companies becoming more and more of a pressing matter, and most importantly: How can one examine whether everything is running correctly in SAP with regard to value added tax?
VAT – the regulatory environment is getting ever more restrictive!
Value-Added Tax (VAT) has been around for a long time. It’s nothing new! But in the recent past, there has been some tightening up of legislation that aims to regulate what happens and, above all, who is liable when your company makes mistakes regarding VAT that has not been properly paid or has not been paid at all, or input tax has been reclaimed without proper justification. It is also now increasingly important that everything is done correctly and on time!
Council Directive on the common system of value added tax
While income taxes in the EU have not yet been harmonized, with Value Added Tax (VAT) it is quite a different story! This has to be the case for a number of systematic reasons, because if companies supply goods or services across borders, it would be a disaster from a tax point of view if the delivery country and the recipient country were to assess the taxability of the goods or services supplied differently. There would then be cases where VAT was due in both countries – or neither. This cannot of course be the case and the VAT system has therefore been harmonized within the EU. This Directive can to some degree be considered to be the "bible" when it comes to the harmonization of VAT within the EU. As is the case with directives, each Member State must incorporate the content of the VAT system into its national tax legislation. In my view, harmonization in itself is not the main problem here, but is a consequence of this process: the tax authorities in the different EU countries have, as a result, "joined forces" in the enforcement of taxation: "All for one, and one for all" is the motto. This is the principle of "solidarity" of the European Leviathan. We find this principle coming up again and again in tax regulations – precisely in those parts which no-one likes to read – such as right at the very back of The Fiscal Code of Germany (Abgabenordnung [AO], Section 370). Let's take a look at what it says in paragraph 1:
(1) A penalty of up to five years’ imprisonment or a monetary fine shall be imposed on any person who
1. furnishes the revenue authorities or other authorities with incorrect or incomplete particulars concerning matters of substantial significance for taxation,
2. fails to inform the revenue authorities of facts of substantial significance for taxation when obliged to do so, or
3. fails to use revenue stamps or revenue stamping machines when obliged to do so
and as a result understates taxes or derives unwarranted tax advantages for himself or for another person.
So far, nothing new, some of you might say. What is specifically critical about this when it comes to VAT? To understand this, let's take a look at paragraph 6:
(6) Subsections (1) to (5) above shall apply even where the act relates to import or export duties which are administered by another Member State of the European Communities or to which a Member State of the European Free Trade Association or a country associated therewith is entitled. The same shall apply where the act relates to value-added taxes or harmonised excise duties on goods designated in Article 3(1) of Council Directive 92/12/EEC of 25 February 1992 (OJ L 76, p. 1) which are administered by another Member State of the European Communities.
So there you have it! As a CEO of a German company, you will also be prosecuted in Germany if you have a problem in your company with Spanish VAT – or a problem in any one of the other 26 EU countries outside of Germany and Spain. That is what I meant by the "union" of European tax offices. Prosecution times 28!
Organizational faults that can have devastating consequences for those held responsible
The comprehensive geographic scope of prosecution in the EU is not the whole story however! There is another inconspicuous section of Germany’s tax regulations, namely Section 153 of the Fiscal Code (AO). What it says there has a very sobering sound to it:
Correction of returns
(1) Where a taxpayer subsequently realises before the period for assessment has elapsed
1. that a return submitted by him or for him is incorrect or incomplete and that this can lead or has already led to an understatement of tax, or
2. that a tax amount payable by way of tax mark or tax stamp was not paid in the correct amount,
he shall be obliged to indicate such without undue delay, and to effect the necessary corrections. This obligation shall also concern the taxpayer’s universal successor and the persons acting for the universal successor or the taxpayer pursuant to sections 34 and 35.
(2) The notification obligation shall further apply where the conditions for tax exemption, tax reduction or other tax privileges subsequently cease to exist, whether in full or in part.
(3) Whoever wishes to use goods for which a tax privilege has been allowed subject to a condition in a manner which does not correspond to this condition shall be obliged to advise the revenue authority of such in advance.
This regulation of course does not appear particularly surprising at first. But what does it mean in practice? The "interpretation aid" issued by the German Ministry of Finance, the Circular on Application of the Fiscal Code of May 23, 2016, provides some more information on this issue. The most important section is 2.6:
"For tax evasion to have occurred, of the various forms of intent, conditional intent is already deemed to be sufficient, which is considered to be the case when the perpetrator considers the realization of the facts to be a possible outcome. It is not necessary for the perpetrator to attempt to bring about the realization of the facts or for the perpetrator to consider it to be a certain outcome. According to the jurisprudence of the German Federal Supreme Court [Bundesgerichtshof - BGH], in order to assume conditional intent, in addition to considering the realization of the facts to be possible, it is also necessary for the occurrence of the resulting outcome to be favorably accepted. For an outcome to be favorably accepted, it is sufficient for the perpetrator to be indifferent to the outcome which appears to be possible.
If the taxpayer has set up an internal system of control, which serves the purposes of fulfilling tax obligations, this may, where applicable, constitute an indication which may be used in evidence against any existence of premeditated intent or recklessness, though it does not exempt it from an examination of the particular case."
It is the last sentence which is Important! The legislation thus considers the explicit existence of a internal system of fiscal control ("Steuer IKS" / engl. "Tax ICS") to be necessary to ensure that managing directors and management board members cannot be found guilty of (conditional) intent! Attitudes of managers such as "let’s leave that to the tax experts" can have fatal consequence in this respect and lead to serious breaches of duty of due diligence on the part of management and to not inconsiderable issues of liability.
How to avoid breaches of the duty of due diligence?
The idea behind the legislation is that a system of internal control for tax issues has to be set up within the company so that the suspicion of an organizational failure can be ruled out. In this context, I would advise that you conduct a number of different data analyses regarding possible VAT issues. This is an efficient form of action to take and demonstrates your commitment to an internal tax control system. Several such data indicators are already implemented in zap Audit.
The TOP 5 Data Indicators for VAT Compliance
In what follows, I would like to present five different data indicators for use within the framework of a internal tax control system. I will describe the selection criteria and a risk for each indicator.
1. Cross-border delivery or service with VAT
There is a risk that an intra-Community delivery has not been treated without VAT or that the VAT reverse charge procedure has not been applied within the EU.
A document is marked because the referenced customer is an company and is located in a foreign member state or the delivery country and destination country are different within the EU and VAT has been invoiced.
2. Postings with customers without VAT ID
There is a risk that VAT is not recorded correctly.
An accounting document is marked if it references a customer who is located in a EU country other than the own company and does not have a VAT ID in the master data. Natural persons are not checked.
3. Missing VAT ID within the EU
There is a risk that no VAT ID was used for intra-Community delivery or other cross-border services within the EU.
A document is marked because the referenced customer is a company and is located in a foreign member state or the delivery country and the destination country are different within the EU and a VAT ID is not shown in the document.
4. Outgoing invoice with VAT in the Group
There is a risk that VAT has been reported in an outgoing invoice even though the transaction can not be taxed (VAT group).
An accounting document is marked as VAT has been reported and the supplier belongs to the own group and is located in the same country within the EU as the own company. It is also marked if the country of delivery and the country of destination are the same and VAT has been charged (neglecting a VAT group).
5. Customers with rare Country - VAT key combination
There is the risk that VAT / input tax is incorrectly recorded.
An accounting document is selected because it refers to a customer who has a rare combination of VAT key in the master data within a country (<1% frequency).
What other indicators of Tax Compliance are included in zap Audit?
If you are interested in finding out about all the tax compliance data indicators available in zap Audit, please download the whitepaper below, in which I have summarized all the indicators: