Opinion of the Economic and Social Committee on 'A common system of VAT - a programme for the Single Market` (97/C 296/10)

On 18 February 1997 the Commission decided to consult the Economic and Social Committee, under Article 198 of the Treaty establishing the European Community, on 'A common system of VAT - a programme for the Single Market`.

The Section for Economic, Financial and Monetary Questions, which was responsible for the preparatory work, adopted its Opinion on 10 June 1997. The rapporteur was Mr Walker.

At its 347th Plenary Session (meeting of 9 July 1997) the Economic and Social Committee adopted the following opinion by 78 votes in favour, 7 against with 4 abstentions.

1. Introduction

1.1. Since 1993, when the present, so-called transitional system of VAT was brought into effect, substantial developments have taken place at Community level. While the move to abolish the internal frontiers of the European Union was a major step forward, it only partly reflects the process of economic integration which has taken place.

1.2. A further strengthening of the Single Market policy is necessary if full advantage is to be taken of its initial conception. This is particularly true for a tax such as VAT, which is a tax on goods and services whose free circulation is a basic element in the construction of the Single Market and which is, in its conception and legislation, a Community tax. The existence of fifteen different systems of compliance and control is inconsistent with the principle of a Single Market and with the need for Europe to position itself competitively vis-à-vis the rest of the world.

1.3. As long as VAT is collected by fifteen different tax authorities in Member States with different legal and regulatory traditions, interpretations, processes, systems and languages, it is pointless to pretend that cross-border transactions (which involve two, or more, tax and legal jurisdictions) can be taxed identically to domestic transactions involving only one jurisdiction. That would be so, even if there were a single European currency. Changes should therefore be aimed at minimising distortions and the costs of administration and compliance.

1.4. For example, it is far from obvious which country has the fairest right to tax a transaction, say, between people who are temporarily domiciled in Austria and Belgium but whose respective normal places of residence are Portugal and Italy, which is carried out electronically via computers located in Spain and Luxembourg and concerns goods originating in Greece which end up in Sweden. It is equally difficult to determine how the liability is to be assessed or the tax collected. The difficulties are compounded when one or more of the countries involved are located outside the EU.

1.5. VAT is a tax where the practical details can make a huge difference, especially to the costs of compliance for businesses and the scope for tax avoidance and fraud. It is therefore essential that any proposals for amending the system should be examined carefully in order to assess the practical effects of their implementation on businesses and consumers and their implications for fiscal policy.

1.6. The Economic and Social Committee considers that the VAT transitional scheme has assisted the implementation of the Single Market by facilitating the movement of goods through the reduction of border checks but this scheme is complex, leads to more insecurity in certain cases, amplifies the risk of fraud and discriminates between domestic and intra-EU transactions. The ESC therefore accepts the Commission's proposition that steps must be taken to modernise the VAT system as soon as possible.

1.7. The present system lacks objectivity and imposes unacceptable compliance costs on traders because of the diversity of factors which have to be taken into account. These include the tax implications of:

- the place at which the seller and the buyer are established for tax purposes;

- the tax status of those to whom goods or services are supplied;

- the VAT identification number of the buyer;

- the location of the goods at the time of supply;

- who provides transport and the point of departure or arrival;

- the nature of the goods or services supplied;

- the turnover of the seller in the Member State in which the goods or services are supplied;

- the need to report intra-EU purchases separately from other purchases and to account for VAT on them;

- the need, as a rule, to treat the transfer of own assets to another Member State as though it were a sale and purchase.

1.7.1. In addition, there are other important defects in the existing system.

1.7.1.1. Traders face problems in obtaining the deduction or refund of VAT paid in Member States in which they are not established and may have to provide proof that VAT has actually been paid.

1.7.1.2. Businesses can also be required to register in other countries than their own Member State, even where they do not have any trading presence in those countries.

1.7.1.3. Furthermore, small firms, which might not have to charge VAT and would accordingly be relieved of any VAT obligations in their own Member State, because their relevant turnover is below a certain threshold, may still have to report intra-EU transactions and issue regular lists; they may also, in certain cases, have to be identified and account for VAT in their home country because they acquire goods in excess of a specified threshold value from suppliers in other Member States and/or may have to avail themselves of the services of tax representatives to meet their payment and declaration obligations in Member States within whose territory they have no physical establishment.

1.7.1.4. SMEs, and particularly the micro-businesses, have been prevented from exploiting to the full the opportunities which the Single Market should have presented to them.

1.7.1.5. The present system does not even provide equal treatment of all transactions within a single tax administration. For instance, in some countries, the deductibility of input tax connected with the raising of finance for business purposes is more dependent upon the method of financing than on the taxable status of the underlying business.

1.7.1.6. Trade and industry in the EU is hampered by the lack of a common system and by the uneven interpretation and application of the existing VAT directives by Member States.

1.7.1.7. There is evidence that fiscal degradation is increasingly eroding the VAT revenue yield.

1.8. The ESC is, therefore, in favour of a simpler and clearer scheme and in its Own-initiative Opinion on Direct and Indirect Taxation (), it gave qualified approval in principle to a definitive system of VAT based on taxation in the country of origin and stated that 'a generalised application of this principle would be incompatible with excessive differences in VAT ...`. It went on to conclude that 'Without aiming at complete harmonisation of rates ... it is necessary to bring rates into a narrower band ...`

1.8.1. However, harmonisation of rates is a pointless exercise without a simultaneous harmonisation of the tax base.

1.9. The VAT rates currently in force in the various Member States are set out in Appendix I.

1.10. The ESC opinion stated that 'a definitive scheme should be introduced only if clear benefits (both initial and on-going) have been identified which are of sufficient magnitude to warrant the cost of change.`

1.10.1. The criteria by which the proposed changes should be judged were and remain:

- there must be a reduction in compliance burdens on business;

- there must be no greater risk of fraud - and preferably less;

- there must be minimum distortion of competition;

- there must be less differentiation between domestic and intra-EU transactions;

- there must be no reduction in Member States' VAT revenues;

- tax neutrality in terms of competitiveness must be maintained, as far as possible.

2. The Commission's programme for introducing a common VAT system

2.1. The Commission's work programme is focused on the setting-up of a common VAT system which is to be based on three pillars:

- modernisation of the present VAT system;

- uniform application of the common VAT system throughout the EU;

- the taxation system itself being the new VAT system sensu stricto.

2.1.1. It is intended to address the most urgent matters at the beginning of the programme; the existing system requires modernisation in order to adapt taxation to recent technical and other developments in a number of fields.

2.2. The changeover to the origin-based system is scheduled towards the end of the programme. VAT being a tax on goods and services, and the free circulation of goods and services being at the heart of the Single Market, the Commission has based the new system on Single Market considerations.

2.2.1. To meet the Single Market criteria in the field of VAT, the Commission's declared objectives are:

- to abandon the segmentation of the Single Market into fifteen separate tax areas;

- to simplify and modernise the system to meet the challenges of the 21st century;

- to guarantee the equal treatment of all transactions carried out in the European Union;

- to ensure effective taxation and proper monitoring, thereby maintaining the level of VAT revenues.

2.3. In order to achieve this, the essential characteristics of the system under consideration are:

- no distinction between domestic and intra-EU transactions;

- all transactions within the EU to be taxed on the basis of the origin principle;

- a new mechanism to decide the place of supply of goods and services.

2.4. The key elements of the Commission's programme are intended to meet these criteria.

2.4.1. Each trader would have to register in only one country and that registration would cover the whole of the trade carried out by that trader within the EU.

2.4.1.1. All transactions in the EU, wherever they took place, would incur VAT at the rate in force for the time being in the trader's country of registration and the trader would have to account to the fiscal authorities of that country in the currency of that country for all output tax due in respect of those transactions.

2.4.1.2. This approach implies that the right to deduct must be exercised strictly and exclusively in the country of registration.

2.4.1.3. Traders with a presence in more than one Member State would be required to register in just one country but the basis on which the country of registration would be determined is not indicated.

2.4.1.4. Where a trader had a presence in a Member State other than the country of registration and that presence took the form of a branch of the main enterprise, then all such branches would be covered by the single registration and tax would be levied on the transactions entered into by each branch at the rate in force for the time being in the country of registration, regardless of the Member State(s) in which the branch(es) were located. Returns would be made to the authorities of the country of registration in the currency of that country. Where the presence took the form of a subsidiary company or other separate legal entity, then this would be deemed to be a separate business for this purpose and would be required to register in the country in which it was located, charge tax at the rate prevailing in that country and account to the authorities of that country in the currency of that country.

2.4.2. Although VAT would be collected by national tax departments at their own rates from traders registered within their jurisdiction, the money collected would form a single fund to be re-allocated among the Member States in proportion to the consumption within their territories. The governments of the Member States would therefore collect the tax as agents for the central fund, to whom they would have to account for the sums collected.

2.4.2.1. The Commission stresses that the re-allocation of revenues between Member States cannot be based on data provided in the tax returns of taxable persons and considers that the best means of determining the revenues due to each Member State in terms of taxed consumption which occurs on its territory is to quantify that consumption by means of statistics.

2.4.2.2. The Commission argues that, on the basis of National Accounts, appropriate input-output tables and other information, such as statistical surveys and annual reports, it is possible to establish the yearly consumption of the various economic sectors, such as the private sector and the State sector, both classified by function and broken down into more detailed figures. Such information is also held to be available from other sectors and sub-sectors, such as non-profit making private bodies, the credit sector, insurance companies, the health sector etc.

2.4.2.3. Those parts of the economy which, though being final consumption, were not subject to taxation would need to be eliminated from the consumption figures used to calculate the amount of tax due to each Member State. Thus, the figures inserted into the GNP calculation for the shadow economy would have to be deducted again. The same would be true of consumption which was legitimately untaxed, such as supplies by traders below the threshold for VAT registration and supplies of services that were defined as exempt in the Sixth Directive or were outside the scope of VAT.

2.4.2.4. The share of each Member State in the total of all Member States' theoretical VAT revenues thus calculated would be the key to redistributing the total VAT revenue of the EU among the Member States. The consumption of each Member State would be weighted to take account of variances in the VAT rates between Member States and differences in the extent to which consumption was of goods and services liable to VAT at the reduced rates.

2.4.2.5. Member States would retain the revenues which they had collected on behalf of the central fund but monthly adjustments would take place to account for the difference between the sum which each Member State had collected and the amount to which it was entitled according to the statistically-compiled consumption ratios. These would be fixed for periods of one year and based on the most up-to-date figures available; typically, these are about two years out-of-date. Following the recent decision to adopt the 1995 version of the European System of Accounts (ESA) from the year 2000 onwards it is envisaged that the delay would be reduced to one year from that date. Retrospective adjustments would need to be made to bring the actual distributions into line with that theoretically required, once the actual figures for the period in question were available.

2.4.3. All supplies giving rise to consumption in the EU, made by a trader registered in the EU, would be subject to VAT and a distinction would no longer be drawn according to the Member State in which they were physically carried out.

2.4.4. The Commission accepts that the standard rates of VAT would need to be brought into much closer harmonisation.

2.4.5. As regards reduced rates, the Commission considers the harmonisation of their number and scope to be necessary from a purely technical standpoint and is convinced that only a small number of rates is compatible with the objective of simplification.

2.4.6. The introduction of the proposed system would require a uniform set of VAT rules across the EU. Although the Sixth Directive already lays down a single set of rules, there are numerous differences in practice. In the first place, the Directive itself gives Member States a choice between alternatives on various matters; secondly, Member States encountering difficulties have been granted derogations; and thirdly, the Directive's provisions are not interpreted or applied everywhere in the same way. The Commission proposes to widen the scope of the tax by limiting exemptions and other derogations to the system currently in force.

2.4.6.1. There would need to be widespread harmonisation of such matters as exercising the right to deduct, exemptions, the tax treatment of small firms, registration thresholds, VAT accounting periods, special schemes, non-allowable expenditure and the methodology of tax authorities.

2.4.6.2. In order to ensure that a more unified approach is taken to interpreting this legislation, the Commission intends to propose that the VAT Committee be turned into a regulatory committee, with the Commission being given powers to take measures implementing acts adopted by the Council.

2.4.7. In the envisaged system, the individual responsibility of each Member State for the administration, control and collection of the tax would be replaced by a collective responsibility. All of the Member States would be responsible jointly and severally for the global tax receipts which were due to each of them according to their consumption. The effectiveness with which each Member State carried out these functions would directly affect the national budget of every other Member State.

2.4.7.1. This would place a greater emphasis on co-operation between the Member States; it would also require new tools and methodologies for co-ordination. The Member States would need to have mutual confidence in each other in relation to powers, tasks and performance. Each Member State would need to be assured, in respect of every other Member State, that:

- a sufficient minimum level of national control and collection powers existed;

- a sufficient minimum of common control and collection tasks would be carried out;

- the quality of performance of these tasks would meet acceptable standards.

2.4.8. The Commission has published a work programme together with a timetable for putting forward proposals, based on a step-by-step approach, under which the changes would be introduced in stages between now and mid-1999, and two years would be allowed for their implementation after their adoption by the Council.

3. General Comments

3.1. In its Opinion on the Completion of the Internal Market, the approximation of Indirect Tax Rates and harmonisation of the Indirect Tax Structure (), the ESC stated that, 'the Committee fully endorses the aim of removing all frontiers and all border checks by 1 January 1993 including those checks now made for the collection of indirect taxes due (VAT and excise duties). The concepts of "export" and "import" shall cease to apply to intra-Community trade.`

3.1.1. It therefore welcomes many of the Commission's present intentions as constituting a further step towards the belated achievement of that ideal and particularly endorses the objectives of:

- abandoning the segmentation of the Single Market into fifteen separate tax areas;

- simplifying and modernising the system to meet the challenges of the 21st century;

- the equal treatment of all transactions conducted in the EU;

- ensuring effective taxation and proper monitoring;

- reducing the compliance burden on businesses.

3.1.2. In its Opinion on the common system of Value Added Tax (level of the standard rate) (), the ESC stated that it 'considers that the proposed introduction of a definitive system should not be allowed to obscure the need for further interim reforms of the existing transitional system, which should then be carried forward into the new definitive system.`

3.1.2.1. The Committee therefore agrees with the Commission's decision to make modernisation of the present VAT system the first pillar of its work programme and to give priority to these measures in its timetable.

3.1.2.2. In this context, the ESC feels that the Sixth Directive needs to be modernised, irrespective of the final shape of the definitive VAT system. Many Member States are concerned that ambiguities in the Directive have led to judgements from the European Court which have differed from what was understood to be the meaning of particular provisions; of paramount concern is the fact that these judgements are invariably retrospective in their effect. This can lead to large revenue losses and often increased complexity by having to unravel what has been long-standing practice. It would be especially desirable for certain ambiguities to be removed from the Directive so that Member States can apply domestic and European law with certainty. Preferably, the Sixth Directive should be re-written as a VAT community code.

3.1.2.3. It is also of concern to most Member States that it takes a long time to amend any of the permanent provisions of the Sixth Directive. Where Member States wish to take quick action to stop abuse or introduce simplification, theoretically Article 27 provides such a route but the use of this Article is limited and it or Article 29 should be given more flexibility.

3.1.3. In its Own-initiative Opinion on Direct and Indirect Taxation, the ESC declared that 'Detailed proposals should be worked out in conjunction with the social partners and the business community. Full consultation should take place from the outset on what business needs and on the compliance costs of alternative options, including the additional costs and administrative burdens of anti-avoidance measures.`

3.1.3.1. It therefore welcomes the Commission's approach of publishing a work programme as giving ample scope for holding such consultations and hopes that full advantage will be taken of this opportunity.

3.1.4. It notes the Commission's premise that there should be no distinction between domestic and intra-EU transactions and endorses this concept in principle but stresses that uniformity in the treatment of these two types of transaction must be achieved by simplifying the latter; it must not be obtained at the expense of increasing the existing compliance burden on domestic transactions.

3.2. However, the ESC has some reservations on certain detailed aspects which it considers could create practical problems if they were implemented as is currently envisaged and it feels that further consideration should be given to these matters before the Commission brings forward its concrete proposals for legislation.

3.2.1. The ESC accepts in principle the idea which the Commission has postulated of pooling the tax revenues and redistributing them between the Member States on the basis of consumption, as a means of avoiding the necessity for setting up a clearing-house system, which would otherwise be required in order to ensure a fair distribution of tax revenues between the Member States and which it believes would be cumbersome to administer.

3.2.1.1. However, it is unconvinced by the statistical basis on which it is proposed that the consumption of each Member State would be measured. Statistics constitute notoriously unreliable data. It would be necessary to establish in respect of the statistics produced by each Member State whether they were:

- suitable for the purpose for which they were required;

- sufficiently accurate;

- up-dated with sufficient frequency and promptness;

- prepared on comparable bases.

3.2.1.2. As regards suitability, the basis on which statistics are presently compiled may not be altogether appropriate for their new use. Statistics are useful for identifying trends and, in this context, a degree of approximation may be acceptable provided that it is consistent from one set of figures to the next, but that would not be the case where, as here, it is desired to determine absolute values. On the question of accuracy, a degree of accuracy which is acceptable for their present use may not be sufficient for their new purpose. Also, the present degree of accuracy may vary from one Member State to another. By the same token, there are widespread differences between Member States in the frequency and promptitude with which statistics are produced, as well as considerable variations in the way in which the figures are prepared and presented. The ESC recognises that the Commission feels that substantial progress is being made towards improving this situation but does not consider that true comparability can be achieved on anything other than an extended time-scale.

3.2.1.3. For instance, the ESC notes that it would be necessary to exclude that element of GNP represented by the shadow economy and would point out that the extent of this element is largely a matter for conjecture in most Member States.

3.2.1.4. The Commission document states that 'it is possible to establish the yearly consumption of the various economic sectors`. Bearing in mind that the consumption figures would be weighted by the VAT rates prevailing in each Member State, it would be necessary to distinguish between consumption at the standard rate, reduced rate consumption, exempt consumption and the consumption of goods and services which, although otherwise liable to VAT, had escaped taxation because they had been supplied by legitimately unregistered traders. It would also be necessary to quantify with reasonable accuracy the effects of the shadow economy. The ESC doubts whether all this would be possible.

3.2.1.5. For example, it is difficult to see how cross-border transactions between registered traders and final consumers or between unregistered traders could be accurately reflected in the statistics of the country in which the consumption had taken place.

3.2.1.6. It would appear that the system would require a carefully structured and strict regime of independent auditing in order to prevent any distortions caused by the use of misleading statistics, whether inadvertently or otherwise.

3.2.1.7. The ESC considers it unlikely that it would be possible to establish a statistical base for these calculations from existing government data or in any other way which would be sufficiently accurate to provide an equitable basis for distribution and, more importantly, which would engender universal confidence.

3.2.2. While it understands and completely endorses the desire thereby to simplify the tax for businesses, the ESC has some reservations about the proposal for a single place of registration for each trader and the levying of the rate applicable in the country of registration to all transactions carried out by that trader anywhere in the EU. It does not feel that this would necessarily achieve the intended simplification and fears that it might lead to complications in other directions which would out-weigh the anticipated benefits.

3.2.2.1. To take the example of a retail business which is registered in, say, Germany and has branches in several other Member States, it would have to charge the German rate of VAT in each of them. This would produce a situation in, for example, the United Kingdom where the high street in a large town would have British-registered stores charging VAT at the UK rate alongside branches of Dutch shops charging Dutch VAT, Danish stores charging Danish VAT, Swedish stores charging Swedish VAT, French shops charging French VAT and Belgian shops charging Belgian VAT.

3.2.2.2. Where the stores were quoting VAT-inclusive prices, this might not impact the consumer, since the pressure of competition would force the stores concerned to approximate their selling prices for like items; this would place the traders registered in high-VAT countries at a competitive disadvantage. Even a standard rate band of 2 % would represent a significant difference, given the low margins on which many retailers work. It might thus discourage the companies registered in high-VAT countries from setting up branches in other Member States or force those with existing branches to convert them into separate legal entities, which is not consistent with the aims of a Single Market.

3.2.2.3. Non-EU businesses entering the European market would be free to select their country of registration and would tend to locate in the low-VAT states. This would give them an advantage over their European competitors, whose freedom to select their country of registration is likely to be more circumscribed.

3.2.2.4. While the need to register in only one Member State might seem, at first sight, to constitute a simplification, it has ramifications which could lead to increased complexity. Traders would have to account to the fiscal authorities in their country of registration in the currency of that country for all their transactions throughout the EU.

3.2.2.5. This would mean that all transactions carried out in other currencies would have to be converted to the currency of the country of registration. Unless and until all the Member States are in a single currency, this would be an onerous requirement and would create opportunities for manipulation at the fisc's expense.

3.2.2.6. There might also be a requirement to transfer funds back to the country of registration in order to pay the tax due and this would involve additional costs and administration even under the conditions of a single currency.

3.2.3. There is also considerable scope in these proposals for legitimate tax avoidance manoeuvres. For instance, a company in a high-VAT country could set up a subsidiary in a low-VAT country which, because it was a separate legal entity, would have a separate registration and would pay VAT at the rate of the country in which it was located. The parent company could 'export` all its production to the subsidiary and invoice the goods at its higher VAT rate although the goods had never left the parent company's country. The subsidiary would reclaim this higher rate of VAT as input tax in the country in which it was located and would then 'transfer` the goods to branches which it had set up in the country of origin at the lower rate of VAT. Similarly, a company could be created as a shell in a low-VAT country for the purpose of importing goods from outside the EU. The goods would be ordered and paid for by the subsidiary in the low-VAT country but would be shipped direct to branches in the high-VAT countries. This does not meet the criterion of avoiding distortion of competition.

3.2.3.1. Because these operations would be much easier for large organisations to set up, the net effect of these proposals would be to give an advantage to large companies at the expense of SMEs (and particularly micro-businesses) and to give companies domiciled in non-EU states an advantage over EU-based organisations.

3.2.4. There would be a strong incentive for enterprises with their designated principal place of business in low-rate countries to organise their operations in higher-rate countries as branches, while those registered in higher-rate countries would have an equally compelling inducement to structure their operations in lower-rate Member States as separate legal entities, and this is almost certainly what would happen in practice. That would have the effect of reducing the aggregate amount of VAT collectable and would thus fail to meet the criterion that there should be no reduction in Member States' VAT revenues.

3.2.5. A further crucial point is that the fiscal authority in the country of registration would have to rely on the fiscal authorities of other Member States for verification of the transactions conducted outside its borders; this would not facilitate the process of preventing tax evasion and companies would, after all, have to deal with two or more tax and legal jurisdictions. The segmentation of the Single Market into fifteen separate tax areas would therefore be only partially removed and the objective of ensuring effective taxation and proper monitoring would not be achieved. In addition, invoices presented by suppliers in other Member States would have to be translated into the language of the receiving Member State in order to enable them to be checked.

3.2.6. In any case, the single registration facility only applies where all the trading entities in other Member States are branches of the parent organisation. Where this is not so (as would be the case with most manufacturing and trading entities except retail establishments, professional partnerships and some businesses in the financial sector) the organisation concerned would not be able to adopt a single registration. This would create a two-tier system with businesses in similar sectors being treated differently according to their legal structure. That would not meet the Commission's declared objective of guaranteeing the equal treatment of all transactions carried out in the EU and would also constitute a departure from the principles of a Single Market.

3.2.7. The ESC considers that, because of the difficulties for branch operations described above, most businesses with a presence in more than one Member State would be compelled to operate as separate limited companies and that, therefore, the principle of single registration would be of limited application. This would impair the declared aim to simplify and modernise the system.

3.3. The ESC would point out that the majority of businesses do not engage in cross-border transactions and are unlikely to do so in the foreseeable future. The proposed system should avoid disadvantaging in any way this majority, which would include a large number of SMEs and, more particularly, micro-businesses.

3.3.1. It would also observe that the majority of cross-border transactions are between VAT-registered traders and that the VAT charged by the supplier can be recovered by the purchaser as input tax. Under the proposed system of apportioning VAT revenues between Member States according to an index of consumption, a wide disparity of rates would not, therefore, cause any distortion of competition in relation to these transactions. They could, however, create tax-inspired cross-border shopping by individual consumers and by businesses which were not in a position to claim input tax deduction.

3.3.1.1. They might also give rise to a substantial increase in mail-order transactions between businesses located in low-rate countries and consumers in higher-rated countries and for these reasons a wide disparity in rates would not be sustainable under a system based on taxation in the country of origin.

3.4. Once agreement had been reached on the standard and reduced-rate bands or on the value(s) of single rate(s), it would be extremely difficult to secure agreement to alter them subsequently. The Commission argues that the constraints imposed by this factor would facilitate the achievement and maintenance of the Maastricht convergence criteria by Member States.

3.4.1. The freedom of action given by a rate band would probably prove illusory since any Member State charging more than the minimum rate would put its traders at a competitive disadvantage vis-à-vis traders registered in Member States with lower rates.

3.4.2. This gives rise to the thought that, in fact, the proposed system would not function satisfactorily unless there were a single rate of VAT and that its introduction would lead to the projected rate band being compressed into a single rate within a relatively short space of time.

3.4.2.1. The Commission document presages this development by acknowledging that 'As far as the standard rate is concerned, the introduction of a single rate would provide a perfect solution avoiding any tax-related distortion of competition and, above all, ensuring that the tax is applied simply and uniformly throughout the Union - nevertheless, an approximation within a band could prove sufficient.`

3.4.3. Whilst accepting the force of this argument, the ESC recognises that the process of achieving a significant convergence of rates is bound to create difficulties for the governments of those Member States which currently have high rates of VAT, as they would be forced to increase other taxes to compensate for the loss of revenue involved. Even in the unlikely event that harmonisation were to take place at the highest subsisting rates, these governments would still be placed at a serious disadvantage because Member States which currently have lower rates could offset the increased revenue from VAT by reducing non-wage labour costs, for example, thereby gaining a competitive advantage.

3.4.3.1. For these reasons, the ESC considers it doubtful whether this would be politically acceptable to all the Member States at present, bearing in mind that any decision would require unanimity in the Council. It therefore believes that rate harmonisation is likely to be most readily achieved by phasing it in progressively. A high degree of harmonisation will, however, need to be achieved before the new system can be considered to be fully implemented.

3.4.3.2. These considerations would apply with equal force to the reduced-rate band.

3.4.3.3. In its Opinion on the common system of Value Added Tax (level of the standard rate) (), the ESC noted the Commission's report that 'with regard to the application of various types of reduced VAT rates (super-reduced rates, zero rates, "parking" rates etc.) no major distortions of competition had been ascertained under the transitional arrangements for intra-Community trade that could be attributed to the application of various types of reduced VAT rates.` Thus, there is no reason to abandon the concept of reduced rates.

3.4.3.4. The ESC therefore agrees with the Commission's agenda concerning reduced rates and considers that these would best be dealt with by the introduction of a relatively narrow reduced-rate band to be applied to all Member States.

3.4.3.5. The ESC would point out that VAT is an inescapable tax from which there are no exceptions for the end consumer and that it is paid at the same rate by rich and poor alike. It therefore bears most heavily on the disadvantaged members of society. For this reason, the ESC considers that the reduced-rate band should be fixed at a very low level and that it should cover all those items of expenditure which comprise the necessities of life.

3.4.3.6. In its Own-initiative Opinion on Direct and Indirect Taxation (), the ESC declared that 'When harmonising tax rates it is important to maintain a reduced rate and a standard rate. For reasons of employment, environmental and incomes policy, consideration can be given to extending the range of goods and services taxed at the reduced rate.` The ESC reiterates this position.

3.5. The ESC agrees with the Commission on the need for harmonisation of the VAT rules across the EU in relation to such matters as VAT thresholds, exemptions, the right to deduct, the treatment of small firms and special schemes. It would like to have more details of the Commission's specific proposals. In order to minimise the impact of the system on microbusinesses it would advocate a relatively high threshold for compulsory registration.

3.6. The scheme would require a new department of the Commission as the consumption statistics would have to be gathered-in, chased if late, and checked. Similarly for the figures of VAT collected in each country. Then there would be the all-important calculation of the sum payable to or by each country, probably followed by corrections and adjustments. Member States which ought to pay into the fund might be late. There would be the contentious matter of sanctions against a Member State which had been slack in collecting VAT, followed by more discussion later if the Member State claimed to have collected its arrears.

3.6.1. The Commission department would also have to act on behalf of Member States in supervising the effectiveness of each Member State in collecting the full amount of VAT. One would expect this to include checking systems and also spot checks. This substantial volume of work would have to be paid for and it would not be reasonable to expect the cost to come out of the Commission's existing resources. It would be essential for the Commission's calculations to be audited for accuracy and fairness.

4. Conclusions

4.1. The ESC welcomes the general thrust of the Commission's work programme and, in particular, the benefits that traders should derive from the following factors, if it is implemented:

- the removal of the requirement to know the customer's Member State, whether the customer is registered for VAT and, if so, the VAT registration number;

- the removal of the need to show that the goods have left the seller's Member State;

- the removal of the need to enter EU supplies and acquisitions in total on the return;

- the removal of the need to provide a detailed EU sales list;

- the removal of the need to account for intra-EU purchases separately from other purchases;

- the removal of the need to treat the transfer of own assets to another Member State as though it were a sale and purchase;

- a uniform set of VAT rules, applied uniformly across the EU.

4.1.1. The ESC notes with approval that traders would no longer have to give so much information on their VAT returns but suspects that the consumption statistics available from Member States rely in part on this information. There would be no benefit to businesses if the simplification of the VAT return simply resulted in more statistical information being required in other forms. It is therefore not entirely convinced that the compliance burdens on businesses would be reduced to the full extent envisaged.

4.1.1.1. Nevertheless, some reductions in these burdens would constitute a highly desirable improvement and the ESC applauds the Commission's initiative in this regard.

4.2. The ESC strongly supports the principle of attribution of VAT revenues between Member States according to their consumption but it does not believe that a statistical basis can be established which would be, or be accepted as being, sufficiently accurate.

4.2.1. It therefore considers that some other consumption-based empirical formula should be found for re-distributing the central VAT fund between the various Member States.

4.2.2. The ESC doubts whether a statistics-based system would satisfy the criterion that there must be no greater risk of fraud. The use of statistical data for the calculation of consumption within each Member State would introduce an undesirable margin of error and scope for fraud into the system. For example, it would be difficult to calculate with any degree of accuracy the adjustment for the impact of the shadow economy on the consumption of a Member State whether this had been implicitly included in the GNP calculation or explicitly added to it.

4.3. The ESC feels that the concept of a single country of registration, while superficially attractive, would in practice create more problems than it would solve. It would have the following disadvantages, even with complete rate harmonisation:

- traders with establishments in more than one country would have to account for transactions in several currencies;

- funds would probably have to be remitted to the country of registration in many cases in order to pay the tax;

- invoices would have to be translated;

- the control of tax evasion would be made more difficult because transactions would be carried out in many countries and the regulatory authority in the country of registration would have to rely on the authorities in other states to check them.

4.3.1. For these reasons, the ESC considers that the application of the system of single registration is unlikely to be widespread, because the majority of traders would be induced to structure their operations in other Member States as separate companies, even in those instances where they are currently set up as branches, which are, in any case, a minority. It believes that there should be neutrality of treatment between branches and subsidiaries and therefore recommends that any new system should be based on the principle of traders having to register in each country where they have a physical presence and to account to the authorities of that country in the currency of that country for all transactions carried out in that country, including sales to customers in other Member States.

4.3.1.1. At first sight, this might seem to be imposing a greater burden on the traders concerned but establishing a physical presence in another Member State requires various types of registration in any case and the avoidance of the problems set out above would make this additional requirement worthwhile. For instance, businesses would have to register in each separate country for corporation tax purposes and in many Member States corporation tax and VAT are administered by the same government department. In any case, the ESC considers that the vast majority of businesses with a physical presence in more than one Member State would be induced to operate as separate legal entities under the scheme outlined by the Commission and would therefore have to register separately in each country in any case.

4.4. The ESC accepts that an origin-based system would require a standard rate band with a very narrow spread and that it would work best with a single rate. It believes that progress towards this goal should be made with due consideration for the positions of individual Member States.

4.5. The ESC endorses the idea of a reduced-rate band with a narrow spread; it believes that this band should be fixed at a low level. There would need to be complete harmonisation of the scope of items included in the band.

4.6. The ESC accepts the Commission's proposition that the decision setting the rates or rate bands (both standard and reduced), as well as the determination of the items to be included in the reduced-rate band, should be a political one and that it should take account of the need to generate sufficient revenue, the need to share the burden among the main types of statutory charges and contributions (direct taxation, indirect taxation, social contributions) and the thrust of medium-term tax policy. Social and employment considerations should play an important role: examples would be low rates of VAT on items as basic consumption and, in particular, labour-intensive services or products.

4.7. The ESC would point out that the governments of the Member States would suffer an effective loss of control over their rates of VAT, which are an integral part of their existing fiscal policies. However, the principle of transferring control over monetary policy has already been accepted in relation to the single currency and the extension of this principle to fiscal policy might be regarded as a logical development.

4.7.1. In any case, the existence of wide disparities in the rates of VAT is not compatible with the operation of a Single Market.

4.7.2. It must be remembered that VAT is but one part of the revenue-raising mechanism and that alterations to its rates and structure will have implications for other elements in the overall tax system. The knock-on effects of the measures taken by Member State governments to adjust their fiscal systems in order to compensate for the VAT revenue lost or gained through having to harmonise or approximate their rates would impact a wide variety of social groups, including consumers, the unemployed, pensioners, low-paid workers and children. The ESC believes that the social partners and other socio-economic interest groups should be consulted about these changes.

4.7.3. The proportion of the total tax revenue accounted for by VAT receipts in each Member State is shown in Appendix II.

4.8. The ESC believes that there is a number of considerations which need to be taken into account in effecting the transition to the new common system.

4.8.1. In moving from the present system, nothing should be done which could harm European participation in global markets, particularly those involving commodities and finance products.

4.8.1.1. Specifically, a consistent and enlightened approach is needed to the treatment of holding companies in order to ensure that such companies do not bear burdens which reduce the attractiveness of the EU as a location for their activities.

4.8.2. The ESC believes that a central body for the public discussion of common interpretations is required in order that solutions for practical difficulties may be examined at a lower level than the European Court of Justice.

4.8.3. The Commission's work programme does not propose a re-examination of the system of fractionated payment but instead, presumably, accepts that it should continue to act as before. The ESC believes that, even if a decision is eventually taken to retain the fractionated payment system, alternatives should be considered, especially as some of them may well improve the cash flow of SMEs.

4.8.4. A study should be conducted to examine the operation of control mechanisms. This should include a complete compliance cost audit and a fundamental analysis of the effect of different systems of control on the incidence of fraud as well as their effect on the operating costs of businesses.

4.9. The ESC notes that, in order to be workable, the proposed system would require a much closer degree of co-operation and co-ordination between the relevant authorities in the various Member States. While it recognises that progress has been and is being made in this direction, it feels that, given the disparity of systems, traditions, customs, practices, working methods, interpretations, legal frameworks and languages which exist between the Member States, it would take some considerable time for the requisite degree of conformity to be achieved and fears that, in the meantime, the working of the system would be impaired.

4.9.1. The process of apportioning the revenue collected between Member States would be very time-consuming and protracted. Not only would there be a delay before statistics relating to a given year were available but it is quite common for these statistics, once issued, to be subsequently amended, sometimes more than once. This would necessitate an extended process of re-adjustment and re-allocation; apart from being very inefficient, this process would be far from transparent.

4.10. The ESC agrees with the Commission that there would need to be very widespread harmonisation of the scope of the tax and the core VAT rules (the right to deduct, registration thresholds, exemptions and special schemes etc.). There would also need to be a close alignment between fiscal and Customs territories. Common application and interpretation of the rules by the Member States would need to be ensured. This would probably require the direct application of Regulations rather than Directives. The implication of these changes for excise duties should not be over-looked.

4.11. Particular account should be taken of the impact of the proposed changes on SMEs and micro-businesses, which is likely to be much greater than in the case of larger companies. This should be moderated by introducing much higher thresholds for VAT registration and permitting flat-rate schemes, where possible. Consideration should also be given to extending the use of cash accounting and/or annual accounting schemes for small businesses.

4.12. A desirable simplification would be for the new system to permit trading groups with operations in more than one country to have a group registration, so that transactions between members of the group could be carried out without charging VAT, regardless of whether they were domestic or intra-EU. This would satisfy another declared objective of the proposed system and should be introduced at an early stage.

4.13. The proposal that the VAT Committee be transformed into a regulatory committee implies a substantial transfer of power, as does the obvious requirement for the Commission to become involved in the process of calculating, auditing, adjudicating and administering the allocation of the central fund between Member States. The ESC believes that in order to ensure transparency in this situation the workings of the VAT Committee should be made more open by inviting tax consultants to participate and by the publication of results.

4.14. The ESC believes that the imminence of a substantial change to a definitive system should not be allowed to obscure the need for interim reforms to the existing transitional system, which should then be carried forward into the new definitive system. It therefore welcomes the Commission's decision to proceed by commencing with a modernisation of the existing system.

4.15. The ESC would wish to be consulted, where appropriate, at the various stages in the Commission's work programme and, in any case, prior to the formulation of any firm legislative proposals.

4.16. The ESC considers that the timetable set by the Commission is unrealistic and that full implementation of the work programme will require a more extended timescale than that envisaged.

4.17. The ESC welcomes the Commission's initiative and agrees in principle with the broad concept of its work programme. It has some reservations about how certain detailed concepts would work in practice and would urge the Commission to address these issues in consultation with the social partners and other interested bodies before bringing forward legislative proposals but criticisms of specific aspects should not be interpreted as calling into question the main thrust of the plan.

Brussels, 9 July 1997.

The President of the Economic and Social Committee

Tom JENKINS

() Opinion issued on 20. 12. 1995 - OJ C 82, 19. 3. 1996, p. 49.

() Opinion issued in July 1988 - OJ C 237, 12. 9. 1988, p. 14.

() Opinion issued in April 1996 - OJ C 204, 15. 7. 1996, p. 94.

APPENDIX I

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APPENDIX II

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