Episode Transcript
[00:00:00] Foreign hello everyone and welcome to our podcast series NM Text Policy Updates where we bring you insights into the latest developments in global tax policy and controversy space. This is Anastasia Butner. I'm a Managing Director in the tax practice of Alvarez and Marsal, based out of Dusseldorf in Germany.
[00:00:22] My background is in indirect taxation and I help multinationals aligning their business priorities with the tax realities.
[00:00:30] Which brings me to the topic of today's Reducing Bad Complexity, Rethinking Indirect Taxes and Compliance in Evolving European Business Models if you're listening to this podcast, you are most likely well familiar with the concepts of direct and indirect taxation. Both areas of taxation are highly dynamic. They're keeping tax departments on their toes. What is interesting about indirect taxes is in my view that on one hand they've become the dominant source of tax income for the European governments in years ago, already directing a lot of attention to the VAT relevant activities of the businesses and adding scrutiny to the audits.
[00:01:09] At the same time, the fulfillment of vet compliance obligations has become a routine activity in the tax departments and a commodity in the tax advisory world.
[00:01:19] Certainly the actual value is created when concepts are developed on how to manage VAT and especially their transposition into the ERP systems and but the fact that the VAT compliance costs are relatively low may suggest that managing multiple VAT registrations has become more affordable, which could offer more flexibility to business operations.
[00:01:42] In the next couple of minutes I'll try to give another perspective on how compliance costs can be reduced further, especially in light of the evolving business operations.
[00:01:53] Every multinational business that serves customers internationally cross segments, cross channels in Europe is usually holding multiple VAT registrations.
[00:02:02] There are some extreme examples where for example European trading business managed over 250 VAT registrations across the EU countries alone as they had quite a complex conglomerate of chain transactions all over the place.
[00:02:15] While this may be an extreme example, holding some 40 to 50 VAT registrations globally for a multinational enterprise is no exception at all.
[00:02:26] Businesses tend then to move the bad compliance obligations over to a shared service center or even outsource to a tax advisor. The shared service center or the advisor would then take data, bring it into the right format and submit it. There might be some plausibility checks performed prior to submission, but usually no detailed review of transactions is done.
[00:02:48] So now what if something goes wrong?
[00:02:52] What if data was not correct?
[00:02:54] The fact that a tax advisor, maybe even one of the global tax advisory firms has filed the return will likely not help here. The tax advisor would have scoped what they're responsible for and accuracy of data usually falls in responsibility of the client.
[00:03:10] VIT is a transactional tax. If something goes wrong, it usually goes wrong repeatedly, creating a huge risk potential. If something is wrong with an ERP setting, the invoice is issued incorrectly, the tax code is selected wrongly. You see what I'm getting at? Depending on the number of transactions and the value of them, the amount of tax risk can really be substantial.
[00:03:34] Now, if you add to this transfer pricing complexity, transfer pricing adjustments need to be administrated. It needs to be defined if and how they affect vetable transactions and how this affects filing and invoicing.
[00:03:51] A discussion that is currently being led in light of the recent ECG case arcomed.
[00:03:57] It's fair to say that critical questions are really far from being solved here. And then business changes transactions, it aborts new customers, it introduces new products, and if this information is not fed back timely into the VATS compliance process, it bears the risk, which is then multiplied with the number of vet compliance applications under management.
[00:04:23] The decisive element here in my view, alongside the quality of data and reliability of interim processes, is a regular and critical validation of the vet compliance obligations.
[00:04:35] Is every vet registration really necessary? Even if the text technical answer is yes. For example, because in a chain transaction the customer collects the goods in a ship from country, meaning that the middle party has to register for VAT there as well, I think it really pays off to take a closer look.
[00:04:54] In my first example with the European trading business, over one fifth of the VAT registrations held resulted either from one off transactions or from such where the annual sales amount to just couple of hundred years.
[00:05:13] And no matter how profitable the business is, the revenues from those transactions will not be able to cover neither the internal cost nor the external advisor cost to manage those registrations.
[00:05:26] And in the time when such VAT registrations are active, they can be audited, which means more effort. The VAT number can be used mistakenly, creating risks or maybe even tax liability without the tax department knowing.
[00:05:44] The counter argument here could be well, better to have all those registrations in place in case the business might need them because it gives flexibility for new customers, new transaction flows, new business models, and the tax function wants to be the business enabler rather than the bottleneck.
[00:06:02] Based on my professional experience, I have to say this is certainly not an ideal approach.
[00:06:07] What could work much better instead would be to review the material value flows, meaning the physical supply chain and their contractual reflection with internal and external parties. Understanding what is the procurement and the distribution strategy of the business.
[00:06:25] What are the overall objectives, where does the business want to go to and whether the current operations are already properly reflected in the best possible structure from a tax and legal perspective. Let me give you an example.
[00:06:41] A business that operates an LRD structure with lids, each serving their particular jurisdiction operates in a pretty lean way. But whenever customer of an LRD evolves to a key account and it requires shipment of goods to multiple jurisdictions, this LRD may also be required to obtain vet registrations in multiple countries.
[00:07:07] As more and more customers become key accounts, as service elements are being introduced, the business operations evolve to a spaghetti diagram that is really quite complex to manage from a VAT perspective. So it really bears a question if an LRD model is then the right setup for the business.
[00:07:27] One solution could be to insist on strict GEOS segmentation, but knowing how salespeople are incentivized, they will unlikely agree to give away their revenues for the sake of reducing operational tax costs and risks. Instead, you could consider if a single sales entity could be a suitable approach whereby all customers are served directly from one legal entity, either centrally or through local branches, depending on the substance in the local countries that needs to be given a home. An agency model could be something to consider too, but certainly with strong regard to the permanent establishment mitigation strategies.
[00:08:04] In both cases an LRD would be taken out from the transactional flow and by doing so the number of intercompany transactions that do require attention from a tax department is significantly reduced, making the administration easier both from a VAT as well from a transfer pricing perspective. While the single sales entity of course it's proven instrument to give more flexibility to the business on the sales side while keeping the tax risks and compliance costs rather low. But there of course are other approaches to consider as well, be it on the procurement side or even throughout the entire value chain.
[00:08:43] Also very much depending on the routes to market and the customers that are served. There are also some special procedures that could be considered such as One Stop Shop and Import One Stop Shop which can help reducing the VAT compliance efforts to a certain degree as well. So my conclusion is that yes, you can have your VAT compliance managed at a low price, yet the VAT risk position of the business is addressed in a much better way when the transactional model is really fit for purpose and gives the business the needle flexibility while minimizing the efforts on the tax side.
[00:09:20] That was it for today. Thank you for joining. Stay with us as we continue this journey in our upcoming webcasts. Please also check out our monthly newsletter which will bring you the latest key updates around selected editorial pieces from our global text network. And don't forget to follow this channel. There will be regular insights and updates through podcasts coming your way.
