The future is digital - starting with VAT
21 August 2019A key takeaway from the Base Erosion and Profit Shifting (BEPS) Action Plan was the challenge of taxing a global economy in the throes of digitalisation. The OECD and G20 therefore conceived the Task Force on the Digital Economy (TFDE), which is due to deliver a final report on the implications of digitalisation for tax in 2020.
In anticipation of the report's findings, tax administrations all over the world are thinking about how to update their regimes to reflect the fiscal reality of their economies. It is no longer appropriate to think of this challenge as taxing a discrete digital 'sector'; in reality all large businesses, and most SMEs, are already 'digital' to some extent.
The UK's first step towards digital taxation is the Making Tax Digital programme, which came into effect on 1 April 2019. The first phase of the programme required VAT registered businesses with a taxable turnover above £85,000 to:
1. keep digital records of all VAT transactions; and
2. use software to submit their quarterly VAT reports to HMRC directly, the first deadline for which was on 7 August 2019.
The aim of digital taxation is to create a system which is more fair, efficient and secure than traditional regimes. Firstly, taxing electronic as well as physical economic activities should capture a percentage in the tax net that is proportionate to the value created in the economy. Secondly, implementing taxation through electronic, rather than physical, systems should require fewer resources. Lastly, an electronic taxation system should be less susceptible to fraud and evasion than paper.
For many tax administrations around the world, VAT is the first tax on which new technologies are being tested in a bid to boost compliance.
VAT has taken the tax world by storm since it was first introduced by France in the 1950s and now accounts for more than 20 per cent of annual global tax revenue. But the VAT system is susceptible to fraud:
1. traders may neither account for nor pay the tax they owe on their sales (for example, online traders who never register for VAT in the countries in which they sell their goods);
2. traders may collect but not pay the tax they owe and then abscond (the so-called “missing trader” or “carousel” frauds); and
3. customers may collude with sellers to buy goods and services without seeking a receipt, or any other record of the transaction, so that they are not charged VAT.
In Russia, the VAT gap was reportedly about 20 per cent. To address this shortfall, the Russian tax service has built two huge data centres and has legislated so that businesses must submit a copy of every invoice that passes between a supplier and customer. It has also mandated every retailer to buy new cash registers that are linked securely and directly to the data centres.
In real time, the Russian tax authorities can now check every invoice within 90 seconds to ensure the VAT refund it pays to a buyer is linked to an invoice issued by a seller and that the seller has accounted for a corresponding amount of VAT. Using artificial intelligence, it can quickly analyse patterns in the data in order to identify businesses which have many broken links, allowing the authorities to target its audits more efficiently. The VAT gap is now reportedly about 1 per cent (compared to about 9 per cent in the UK in 2017-18). Real time VAT audit reporting has also been implemented in Spain, Poland and Hungary.
In Portugal, technology has also been used to introduce a different kind of incentive. To encourage retailers and consumers to charge and record VAT using receipts, it is now possible to add a consumer's personal tax number to an electronic receipt so that the number is added to a monthly lottery for a substantial prize, such as a new car. It has quickly changed the mentality and now retailers routinely ask customers if they want to add their tax number on to any bill.
It remains to be seen how administrations will balance the benefits of these advances with the risks of technical failure and the complexities of integrating new technology into the pre-existing tax ecosystem (see our earlier blog), but innovations such as those discussed above are a positive start. It will also be interesting to see whether the authorities collecting these vast amounts of data choose to harness it towards other applications. For example, the head of the Russian tax service was reportedly shocked to hear that UK inflation is measured by a monthly swarm of clipboard-wielding officials checking prices across the UK. In Russia, the real-time VAT reporting allows them to see the price of anything bought anywhere in the country, providing a quicker and more accurate measure of inflation.
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