IN097 - Tax Time Bomb Ticking for Non-European Enterprises Providing Internet Delivered Services and Products within the EU

The United States has re-stated that it does not intend to propose that sales tax should be collected on internet delivered services within the United States of America.

The European equivalent of sales tax (VAT), has been applicable within Europe on all internet delivered services supplied by European registered businesses for many years.

Until 1st July 2003, businesses from outside of Europe had not been required to collect and pay VAT on internet delivered services within the European Union.

From 1st July 2003, a European Directive required that all non-EU companies not already registered in the European Union for the payment of VAT must register in each of the countries to which the services were being supplied. Alternatively registration could take place in one of the member countries through the creation of a subsidiary, from which all services to the other EU countries could then be supplied.

This requirement was introduced with the objective of creating a level playing field and to ensure that all internet delivered services and products within the EU were subject to the same tax base, whether by EU or non-EU suppliers.

Implications of the Requirement to Register for VAT within the EU

Registration in all countries of the European Union is complicated. In addition, with VAT rates varying from 25% in Scandinavia to a low of 15% in a few countries, including Madeira, Portugal, applying the different VAT rates generates a number of price variations.

The registration of a subsidiary in Madeira, Portugal for the supply of products or services can help to secure a low rate of VAT (15%) and a more simplified reporting and accounting process.

To date very few non-EU companies providing electronically delivered services have registered for VAT, even though the liability to the tax falls due on all services provided since 1st July 2003.

Potential Tax and Penalties of Non-Registration for VAT

The tax and penalties, together with interest, could increase year on year to amounts of up to 50% of the turnover within the EU and this “tax time bomb” appears to still be generally ignored. Whether this is a lack of advice on the issue in countries outside of the EU or a general belief that the tax will not, in any event, be collectable, is unclear, but the businesses concerned must beware.

There is no Europe-wide mechanism for enforcing the new VAT registration and payment obligations. It will be left in the first instance to each member country of the EU to endeavour to collect the VAT obligations which are now being incurred. In time, no doubt, the EU will turn its attention to this position and establish ways in which the obligations can be collected, since clarification from credit card and bank transmissions will be simple to establish.

USA Approach with regard to Collection of USA Tax Obligations

The USA has concluded a number of agreements regarding the collection of its own overseas tax obligations and has implemented a number of ideas which may be adopted in Europe to assist in enforcing these obligations. It may be anticipated that some of these provisions will be copied by the EU in securing collection of their international tax obligations.

The Potential EU Response

At present the EU is clearly letting the time bomb tick, but will, in time, be looking at the mutual agreements entered into with the USA for exchange of information and tax collection support, and will perhaps take some ideas from the provisions of the USA Patriot Act. This Act provides the USA with the ability to retain, by forfeiture of funds from inter-bank, correspondent balances and liabilities to tax of the customers of those banks, even before any Court Order for the collection of any liability is entered into outside of the United States.

Therefore the provision for tax collections from companies outside the EU could well be implemented through another EU Directive. This would then, with local legislation, enable collection of these VAT obligations through inter-bank Euro balances with correspondent banks in Europe, or from Sterling correspondent bank accounts in the UK.

Summary

It is therefore clearly important to ensure that all non-EU internet delivered service companies are aware of the VAT liability arising now, and the speed with which the potential tax time bomb is ticking. Professional advisers have an obligation to ensure that their clients are aware of this situation.

Further Information

If you would like information on the provision of data centre facilities in Madeira and the local management facilities available for the immediate registration and organisation of a company, please contact John Dias or Carlos Lourenco in Madeira or your usual Dixcart contact.