Communication from the Commission to the Council in accordance with Article 27(3) of Directive 77/388/EEC
Date: 2006-07-19
Institutions: European Commission
Subjects: EC Directive, EU Member State, VAT, derogation from EU law, tax harmonisation

COMMISSION OF THE EUROPEAN COMMUNITIES 

Brussels, 19.7.2006 
COM(2006) 404 final 

COMMUNICATION FROM THE COMMISSION TO THE COUNCIL 

in accordance with Article 27(3) of Directive 77/388/EEC 

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1. 

BACKGROUND 

In  accordance  with  Article  27(1)  of  the  Sixth  Council  Directive  77/388/EEC  of  17 
May 1977 on the harmonisation of the laws of the Member States relating to turnover 
taxes  -  Common  system  of  value  added  tax:  uniform  basis  of  assessment1,  the 
Council, acting unanimously on a proposal from the Commission, may authorise any 
Member State to apply special measures for derogation from that Directive in order 
to  simplify  the  procedure  for  charging  the  tax  or  to  prevent  certain  types  of  tax 
evasion  or  avoidance.  As  this  procedure  provides  for  derogations  from  the 
harmonised general principles of VAT, in accordance with the consistent rulings 
from the European Court of Justice, such derogations should be restricted and 
proportionate. 

By  letter  registered  with  the  Secretariat-General  of  the  Commission  on  27  October 
2005, the Republic of Austria has requested to be authorised to introduce measures 
derogating  from  Article  21  of  Directive  77/388/EEC.  In  accordance  with  Article 
27(2) of Directive 77/388/EEC, the Commission informed the other Member States 
by  letter  dated  8  June  2006  of  the  request  made  by  Austria.  By  letter  dated  9  June 
2006,  the  Commission  notified  Austria  that  it  had  all  the  information  it  considered 
necessary for appraisal of the request. 

By  letter  registered  with  the  Secretariat-General  of  the  Commission  on  18  April 
2006, the Federal Republic of Germany has requested to be authorised to introduce 
measures  derogating  from  Article  21  of  Directive  77/388/EEC.  In  accordance  with 
Article 27(2) of Directive 77/388/EEC, the Commission informed the other Member 
States by letter dated 7 June 2006 of the request made by Germany. By letter dated 8 
June  2006,  the  Commission  notified  Germany  that  it  had  all  the  information  it 
considered necessary for appraisal of the request. 

2. 

SUMMARY OF THE REQUESTS 

2.1. 

The Austrian request 

Austria  would  like  to  introduce  the  reverse  charge  in  respect  of  all  Business  to 
Business  (B2B)  supplies  of  goods  or  services  where  the  invoice  value  exceeds 
€10,000.  Where  the  value  of  an  individual  invoice  does  not  exceed  €10,000,  the 
reverse charge would be applicable where the supplies to a customer exceed €40,000 
in the accounting period.  

The reason given by Austria for introducing this request is in the pretext of being a 
tool  to  tackle  carousel  or  missing  trader  fraud,  and  because  it  had  positive 
experiences  from  the  introduction  of  reverse  charge  in  the  construction  sector. 
Austria  believes  that  VAT  fraud,  especially  carousel  fraud  and  fraud  by  means  of 
fictitious  invoices,  can  no  longer  be  prevented  using  conventional  methods.  It 
believes  that  such  a  measure  would  prevent  certain  types  of  tax  evasion  and  tax 

1 

OJ  L  145,  13.6.1977,  p.1.  Directive  last  amended  by  Directive  2006/18/EC  (OJ  L  51,  22.02.2006,  p. 
12). 

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avoidance, such as partial payment of the VAT shown on an invoice or non-payment 
of the VAT shown on an invoice by taxable persons who disappear without paying 
the  liability  to  the  treasury.  Austria  also  believes  that  applying  the  reverse  charge 
would  reduce  the  burden  on  tax  administrations  which  would  otherwise  have  to 
pursue  the  tax  due  by  defaulting  taxable  persons  or  carry  out  inspections  before 
granting VAT refunds. From the perspective of the business, Austria claims that the 
reverse charge would be beneficial to business as they would no longer have to pre-
finance2  VAT.  In  order  to  counter  possible  new  fraud  patterns,  Austria  wants  to 
impose  an  obligation  on  business  to  provide  monthly  global  turnover  figures  for 
individual business customers.  

2.2. 

The German request 

Germany  would  like  to  introduce  the  reverse  charge  in  respect  of  all  Business  to 
Business  (B2B)  supplies  of  goods  or  services  where  the  invoice  value  exceeds 
€5,000.  The  taxable  person  making  the  supply  would  confirm  the  validity  of  the 
special VAT identification number of the customer before making a reverse charge 
supply. This confirmation of validity would be done electronically and on-line. Once 
the customer number was verified as being valid, the supplier would not account for 
VAT on the supply, but the purchaser would declare to the authorities the VAT for 
which  he  is  liable,  which  he  can,  under  normal  circumstances,  also  declare  as 
deductible input VAT. In addition to the verification of the customer’s number, the 
taxable  person  making  the  reverse  charge  supply  would  notify  the  tax  authorities 
electronically each time that he is making a non-taxed supply and declare the value 
of  the  supply.  From  the  perspective  of  the  customer,  he  would  have  to  declare 
separately in his return the reverse charge supplies received. The tax administration 
would  proceed  to  cross-check  the  information  received  electronically  from  the 
supplier with the information declared by the purchaser. In this way, Germany wants 
to protect itself against new fraud opportunities created by the reverse charge system. 

The  reason  given  by  Germany  for  introducing  this  request  is  similar  to  that  of 
Austria,  but  unlike  the  Austrian  proposal,  the  German  system  foresees  significant 
additional reporting by the taxable persons. 

3. 

THE BACKGROUND TO THE REQUESTS – THE PROBLEM OF VAT FRAUD 

VAT fraud has long been a concern for the Commission in the context of ensuring 
that  Member  States  take  all  the  necessary  action  against  fraudsters  to  avoid 
distortions  of  competition  in  the  Single  Market.  Because  of  recent  budgetary 
problems, VAT fraud has become a major preoccupation of certain Member States. 

The Commission welcomes the fact that Germany and Austria are concerned about a 
specific type of VAT fraud, known as “carousel” or “missing trader” fraud. This type 
of fraud has an impact on VAT receipts as a taxable persons passes on a VAT credit 
to  another  taxable  person,  and  then  the  former  disappears  without  paying  the  tax. 
Germany and Austria believe that this could be solved by applying the reverse charge 
between taxable persons in respect of domestic supplies within the Member States. 

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Depending  on  the  credit  terms  given  to  customers,  and  the  periodicity  of  VAT  declarations,  taxable 
persons often have to pay VAT to the treasury before they have collected it from their customers. 

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This  would  have  the  effect  of  nullifying  the  fraud  insofar  as  the  potential  “missing 
trader” would not have a VAT liability. However, the rule of thumb in all Member 
States is that 80% of the VAT is paid by less than 10% of the taxable persons. This 
means  that  very  little  control  effort  has  to  be  invested  by  Member  States’  tax 
administrations to be guaranteed the bulk of their VAT revenue. 

Very few Member States make figures available on VAT losses due to fraud. Austria 
estimates that total losses due to VAT fraud amount to 4.4% of total VAT receipts, 
but they have no accurate estimate of what proportion of this is attributable to MTIC 
fraud. Germany estimates that it looses in the region of 2% of its VAT receipts as a 
result of “missing trader” type frauds. These are not insignificant figures and clearly 
show  the  importance  which  has  to  be  given  to  VAT  fraud,  and  MTIC  fraud  in 
particular. For its part, the Commission is responsive to the importance of tax fraud. 
Reducing  tax  fraud  is  therefore  an  important  goal  within  the  Lisbon  strategy,  since 
tax  fraud  not  only  reduces  the  revenues  necessary  for  the  Member  States  for  the 
implementation of public services at national level; it also creates unfair competition 
between traders. In this context the Commission intends to present later this year a 
Communication  to  the  Council  and  the  European  Parliament  with  a  view  of 
developing a new anti-fraud strategy at European level. VAT fraud, and MTIC fraud 
in particular, will be a major issue of that Communication. 

Nevertheless,  the  figures  for  missing  trader  fraud  must  be  looked  at  in  context, 
particularly when a proposed change in the system of taxation affects both legitimate 
traders and the fraudsters who exploit the inability of tax administrations to deal with 
them swiftly and permanently. 

It  is  to  be  expected  that  new  forms  and  patterns  of  fraud  would  occur  after  the 
introduction  of  a  more  generalised  reverse  charge  system.  Passing  down  the  tax 
liability would make it more interesting for the last business in the supply chain to 
disappear. It should also be clearly noted that the reverse charge mechanism is not an 
answer  to  “black  sales”  (i.e.  off  the  record  sales)  which  remain  outside  the  official 
circuit. For a taxable person, who has to charge VAT at the end of the supply chain, 
the incentive to obtain “black” supplies will increase as he has to account for the total 
amount  of  the  VAT  and  no  longer  just  for  the  fractionated  part  in  relation  to  his 
“value added”. 

4. 

REVERSE CHARGE AS A CONCEPT 

Generally  speaking,  in  respect  of  supplies  of  goods  and  services  within  a  Member 
State, VAT is charged by the supplier. If the customer is a taxable person, then the 
latter can recover the VAT charged by declaring the input tax  in his periodic VAT 
declaration.  The  deduction  is  immediate,  i.e.  it  is  not  contingent  on  the  supplier 
having paid over the VAT to the treasury in the first instance. The problem is that if 
the person issuing the invoice does not pay the VAT to the treasury in the first place, 
then the treasury gives VAT input credit which it has never received. In addition to 
liquidations/bankruptcies,  Member  States  have  experienced  problems  with  traders 
who trade for a short time, charge VAT and then disappear without paying the VAT, 
but in the vast majority of cases (90% to 95% depending on the Member State), the 
correct amount of VAT is paid at the right time to the authorities.  

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Currently, a large proportion of the VAT collected by each Member State is paid by 
a  very  small  group  of  large,  compliant  taxable  persons.  Applying  a  generalized 
reverse charge would mean that the tax would be collected from a far larger group of 
taxpayers, making control proportionally more difficult.  

The  application  of  reverse  charge  of  the  type  being  considered  by  Germany  and 
Austria would require a supplier to check on the status of the customer to establish 
whether or not he is a taxable person and  therefore  whether  or  not  VAT  should  be 
charged. The current VAT system does not require such a check to be carried out, as 
VAT is generally charged independently of the status of the customer. Similarly, the 
requirements  to  provide  monthly  global  turnover  figures  for  individual  business 
customers (in the case of Austria) and to notify the tax authorities electronically and 
to declare the value of each non-taxed supply (in the case of Germany) would be new 
and additional requirements. 

5. 

THE COMMISSION’S VIEW OF THE REQUESTS 

When the Commission receives requests in accordance with Article 27, it examines 
these  requests  to  ensure  that  the  basic  conditions  for  granting  such  requests  are 
fulfilled i.e. whether the proposed specific measure simplifies procedures for taxable 
persons and/or the tax administration or whether the proposal prevents certain types 
of  tax  evasion  or  avoidance.  In  this  context,  the  Commission  has  always  taken  a 
limited, cautious approach to ensure that derogations do not undermine the operation 
of the general VAT system. It was in this context that it made the proposal3 in 2005 
for  the  purpose  of  amending  Directive  77/388/EEC  as  regards  certain  measures  to 
simplify  the  procedure  for  charging  value  added  tax  and  to  assist  in  countering  tax 
evasion  and  avoidance,  and  repealing  certain  Decisions  granting  derogations  which 
would allow all Member States to apply derogations which had proven to be useful 
and effective. 

While the special scheme for gold as provided for in Article 26b of the Sixth VAT 
Directive  could  be  described  as  an  established  reverse  charge,  the  application  of 
these  provisions  are  carefully  targeted  and  limited  in  scope  and  size  and  could  not 
therefore be compared with the current requests. 

5.1. 

The German and Austrian requests 

In  the  view  of  the  Commission,  the  requests  received  from  Germany  and  Austria 
attempt  to  use  Article  27  of  the  Sixth  VAT  Directive  for  the  purpose  of  making  a 
fundamental  change  to  the  VAT  system,  and  in  so  doing,  eliminating  one  of  its 
characteristics, which is the fractioned payment. The context behind these requests is 
the apparent insufficient capability of Germany and Austria to control the businesses 
engaging in “missing trader” fraud, which results in estimated losses in Germany and 
Austria of up to 2% of total VAT receipts. Germany and Austria are of the opinion 
that  if  a  business  is  not  permitted  to  charge  VAT  in  the  first  instance,  then  the 
incentive to “go missing” disappears. 

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COM(2005) 89 of 16.3.2005. 

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Austria estimates that the result of applying a restricted generalised reverse charge to 
Austrian  taxable  persons  would  affect  7  million  invoices  issued  in  Austria,  while 
Germany  estimates  that  their  proposal  would  affect  0.5%  of  all  invoices  issued  in 
Germany  which  nevertheless  represents  some  130  million  invoices.  Nevertheless, 
any taxable person is likely to be affected and to be obliged to run reverse charge in 
parallel with the “normal” VAT rules. 

6. 

CONCLUSION 

The requests from Germany and Austria attempt to use Article 27 for the purpose of 
making  a  fundamental  change  to  the  VAT  system  in  the  sense  of  a  generalised 
reverse charge, and in so doing, eliminating one of the characteristics of VAT, which 
is the fractioned payment. It would also mean that taxable persons would effectively 
have to deal with three different types of tax regime: 

•  The “classical” VAT system 

•  The reverse charge system for B2B supplies where certain criteria were fulfilled 

•  The intra-Community system. 

This would add an extra layer of difficulty to the accounting burdens already faced 
by  business.  Similarly,  additional  compliance  burdens  (verifying  the  nature  of 
customers and reporting transactions) would be imposed on honest traders operating 
in  areas  where  fraud  is  not  prevalent.  Additionally,  the  German  and  Austrian  tax 
administrations would have to invest significantly more resources to control VAT as 
the  number  of  taxable  persons  who  pay  the  bulk  of  the  VAT  changes  from  the 
minority of taxable persons to the majority. 

The Commission believes that these requests fail the tests  required by Article  27 
insofar  as  they  would  make  life  more  complicated,  rather  than  simpler  both  for 
taxable  persons  and  tax  administrations  in  addition  to  providing  more,  rather  than 
less scope for tax evasion. 

The Commission considers that Article 27 is not a correct legal basis for proposing 
a  generalised  reverse  charge  of  the  type  proposed  by  Germany  and  Austria.  The 
Commission  has  previously  proposed  to  the  Council  that  Member  States  be 
authorised to apply reverse charge, but previous applications were generally different 
insofar  as  they  applied  to  specific  sectors  (construction,  waste,  wood  etc),  and  the 
reverse  charge  always  went  up  the  supply  chain  (thus  only  eliminating  the  weak 
level  at  the  beginning  of  the  chain),  so  that  the  more  risky  small  and  ephemeral 
business did not charge VAT, but this was accounted by the larger, easier to control 
businesses. The only example of a commodity concerns gold but even this remains a 
single  commodity  rather  than  a  whole  range  of  goods  touching  on  various  sectors. 
Furthermore,  the  measures  envisaged  by  Germany  and  Austria  would  affect 
transactions  in  all  economic  sectors  including  sectors  which  never  have  been 
suspected  of  being  subject  to  missing  trader  or  carousel  fraud.  The  Commission 
considers  that  derogations  such  as  those  requested  by  Germany  and  Austria  do  not 
respect the principle of proportionality as set out in several Court cases.  

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Moreover, allowing the application by individual Member States of special measures 
of such scope and with such an impact on businesses would lead to disbanding of the 
internal market for VAT purposes. Indeed, depending on the value of the supply, the 
type  of  product  or  whatever  other  criteria  which  could  be  envisaged,  businesses 
would  be  confronted  with  divergent  rules  and  procedures  applicable  to  internal 
supplies in different Member States. For this reason, these measures go well beyond 
the scope of Article 27 of the Sixth VAT Directive. 

Furthermore,  under  the  reverse  charge  system,  the  financial  risk  arising  from  the 
non-payment  of  VAT  is  transferred  from  the  treasury  to  businesses.  It  is  the  latter 
that bears the risk when deciding whether or not to charge VAT based on validating 
the status of their customer as a genuine taxable person. Such shift of responsibility 
from the tax administration to business with potential costs for business runs counter 
to the Lisbon objectives. 

In  addition,  a  reverse  charge  system  weakens  considerably  the  control  towards  the 
end  of  the  distribution  chain.  Consequently,  tax  administrations  would  have  to 
significantly  increase  the  number  of  control  officials  to  deal  with  the  greater  risk 
arising  from  the  tax  debt  being  spread  over  a  larger  number  of  taxable  persons. 
Furthermore, the result of an extension of reverse charge proposed by Germany and 
Austria effectively introduces a much more complex alternative system to the normal 
VAT scheme. 

The  requests  received  from  Germany  and  Austria  attempt  to  use  Article  27  for  the 
purpose  of  making  a  fundamental  change  to  the  VAT  system,  and  in  so  doing, 
eliminating one of its characteristics, which is the fractioned payment. The requests 
are predicated on the assumption that if a business is not permitted to charge VAT in 
the first instance, then the incentive to “go missing” disappears, which will result in 
additional VAT revenue. 

However,  while  the  Commission  continues  to  believe  that  the  solution  to  missing 
trader fraud can be found in increased VAT control based on risk analysis rather than 
in  changing  the  basic  tax  rules,  it  is  not  opposed  to  examining  complementary  or 
even alternative instruments. Given the fact that Austria and Germany consider that 
weaknesses do exist in the current VAT system, the Commission will invest further 
work in order to determine whether a more general action within the framework of 
the Sixth VAT Directive is needed. 

On  this  basis,  the  Commission  believes  that  the  correct  legal  basis  which  would 
allow Member States to introduce very broad measures which are intended to counter 
VAT fraud tax avoidance would be Article 93 of the Treaty. 

Accordingly,  the  Commission  concludes  that  the  requests  made  by  Germany  and 
Austria  do  not  fall  within  the  scope  of  Article  27  of  the  Sixth  VAT  Directive,  and 
because of this, the Commission objects to the derogations requested. 

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