VAT: the tempo increases …
In preparation for the implementation of Value Added Tax (VAT) across the GCC in the near future, the first GCC VAT Forum was held in Dubai on 30-31 August 2016. The VAT Forum was well attended, with some 100 or so delegates present. That was the first of several encouraging signs. VAT, at least in broad concept, is on the radar of many larger regional businesses, with a growing recognition that the details will have to be tackled sooner rather than later.
The composition of the Conference speakers was interesting. It brought together CFOs and finance directors/managers from the business sector, regional leaders of VAT and indirect tax from the big global accountancy firms, specialist VAT tax lawyers, and tax compliance software specialists. The diversity of the speakers reflects the broad scope of the skills required for VAT introduction.
The publication of an inter-state GCC Framework Agreement (FA) on VAT is eagerly awaited. The FA had originally been scheduled for publication in June 2016 but, this has been postponed with publication expected in October 2016. Each GCC state will use the common framework provided by the FA to draft its own VAT law. The current date for VAT implementation in the UAE is 1 January 2018, with a strong notice of intent from the GCC that all member states will have introduced a VAT by end-2018.
Inherent in those remarks are the facts that (1) VAT will not necessarily be introduced by all GCC states on the same date, and (2) although every national VAT law will be keyed from the FA, the common framework will result in national VAT systems with some commonalities, but not in pan-GCC harmonisation. Unlike in the EU where the applicable law is both national and supra-national, in the GCC the applicable law will always be national, not the FA.
Some of the key themes, and the size of the task at hand, were set out in the opening remarks at the Conference. First, time: surely, 15-16 months is plenty of time in which to enact and implement a VAT? In fact, given what needs to be done, it is a challenging and very ambitious time-frame. Secondly, can anything be done before the FA and the national laws are published? Well, yes. There are many fundamental principles of VAT that are common to VAT systems around the world, and businesses can begin to ready themselves by reviewing their administrative procedures. Thirdly, can lessons be derived from experiences of introducing a VAT regime in other parts of the world? Yes, again. Most recently, Malaysia introduced VAT with effect from 1 April 2015 (and, prior to that, experiences of introducing VATs in Australia, Canada, New Zealand and even – much earlier – into the UK have been captured). Those examples can provide valuable insights into the methods and pitfalls of implementation. Fourthly, what will implementation of a VAT regime mean in practice? Quite a lot: the introduction of a VAT will be expertise-intensive, with an estimate that as many as 5000 skilled jobs in accounting and tax advice will be created across the region.
Reverting to the first theme: time. 15 or more months may sound a long time, but a business will need to take a number of steps to implement VAT, running from the “macro” planning to the more “micro” activation of internal systems across, and at every level of, the business. In summary, those steps might be described as follows:
- know your business;
- know how VAT will impact on the business;
- work out what is needed to implement VAT in the business;
- design, check, approve and implement the necessary systems for the implementation of VAT in the business;
- train staff, and speak to/communicate with suppliers and customers;
- undertake a “dry run” systems exercise;
- fine-tune the internal business systems;
- activate the systems.
All that sounds simple enough, but one of the key messages from the Conference was “don’t be fooled by what might look straightforward”.
Take the first step above. Any proprietor or CEO is likely to respond brusquely “Of course I know my business.” But many businesses in the Gulf are an agglomeration of different businesses with intra-group supplies being made within the family group, or between divisions of one diversified family company. How are those supplies to be treated to VAT? Within such an agglomeration, most goods and many services will be taxable, but some may be exempt. If a conglomerate company makes both taxable and exempt supplies, how are those supplies (and how are the inputs necessary to make those supplies) to be treated to tax? Is there to be an apportionment? And how is that apportionment to be made? Suddenly, the apparently simple steps described at (1) and (2) above take on greater complexity.
Steps (3)-(7) broadly describe the systems implementation phase of the process. But, not only is that phase a multi-stage process, there are both internal and external considerations to be taken into account, and there are human and non-human aspects to those considerations. Thus, it might be identified early in this phase that the business needs an accounting software suite with greater VAT functionality (non-human). The functionality enhancements might involve more VAT codes properly to identify exempt and taxable supplies to the business (inputs) and, similarly, supplies by the business (outputs). Unless the bookkeeping and accounting staff understand the function of the VAT codes and key them in correctly, the best (non-human) accounting package will be of no use in the face of (human) incompetence.
Businesses will also need to decide which accounting responsibilities they want to carry out internally within the organisation, and which will be outsourced to external advisers. Larger organisations might tend to undertake more responsibilities within the organisation than would smaller organisations (with the effect that compliance costs are higher for SMEs than large concerns).
A further (and, presently, unknown) consideration will be the nature of the national tax authorities (NTAs). Will the GCC NTAs be officious and distant, or helpful and accommodating? Stereotypically, tax authorities are regarded as being the former, but GCC NTAs would fare better if the latter. New NTAs and businesses alike will be familiarising themselves with VAT processes. It will be impossible to “get it right”, 100% of the time, from the outset. NTAs should be approachable and offer guidance. Tax forms should be clear and simple to understand. NTA staff should be accessible, responsive and well-informed. Administrative statements and guidance must be accurate. The burden of compliance should be reduced as much as possible.
Nor should anyone who will be affected by VAT implementation put off taking initial steps until the FA has been published. Governments might look closely at the process of VAT implementation in other countries, like Malaysia, Canada and New Zealand, to see what steps need to be taken to educate businesses and inform the public – what works, and what doesn’t? NTAs should use the time to recruit and train their personnel, to draw up the necessary forms and guidance, to test the (e-) reporting systems and to establish a customer-focused ethos. Businesses should spend time understanding VAT principles, ensuring their accounting software is fit for purpose, reviewing their internal procedures to understand how VAT applies, training accounting and bookkeeping staff to use the new internal procedures, working out what expertise will be developed in-house and where external advisers will be used. In short, there is a lot that, not only could be done, but should be done, to begin to prepare for VAT.
It is undoubtedly correct that all of the above will involve administrative costs for the NTAs and compliance costs for VAT-registered businesses. There is extensive learning on those costs. For present purposes, it is enough to say that VAT is an efficient tax (low cost in relation to collection). It should also not be overlooked that VAT can bring benefits, too. At least in theory, VAT can have a cash-flow benefit (the taxable concern has the benefit of the tax between collecting it and accounting for it). More significantly, VAT can bring managerial benefits (the costs of compliance will improve businesses’ internal administrative procedures and could lead to efficiency gains).
The last panel discussion of the conference raised the questions who should bear the burden of taxation? and who should absorb the cost of VAT? as between consumers and business. Those questions might appear similar, but opposite answers might come about in practice. As VAT is a tax on consumption, ultimately it will be the consumer who bears the burden. That said, businesses will have flexibility to absorb some of the costs, temporarily or permanently. Businesses may find efficiency savings enabling them to maintain their margin, but at lower unit cost (with corresponding reduction in the amount of VAT chargeable). Businesses may seek to retain or increase market share by reducing their margin (with the same neutral effect on prices). Or, businesses may run a promotional marketing strategy: “Until the end of Eid, we pay your VAT!” That is the effect, from the consumers’ perspective, of the promotion but, of course, Eid does not create a tax holiday. For that limited time, the seller (probably with manufacturer support) will reduce the unit cost so that [reduced cost + VAT] = [full price – VAT]. For those reasons, it is very unlikely that the full cost of VAT will be passed on to consumers.
It is also often said that VAT is inflationary. That might be how it appears at the time of introduction, but it is not. Consider the following:
- Year 1 (day before VAT introduction), a good costs AED100;
- Year 1 (day after VAT introduction at 5%), the same good will cost a consumer AED105 (AED100 + 5%).
- Year 2 (anniversary of VAT introduction and no inflation), the same good will still cost a consumer AED105 (AED100 + 5%);
- Year 2 (anniversary of VAT introduction, but 2% inflation, the same good will cost a consumer AED107.10 (Without VAT, but at 2% inflation, the good would have cost AED102 in Year 2).
As can be seen, in Year 1, there is a one-off price increase caused by the introduction of VAT. In Year 2 and thereafter, the amount of VAT payable may be influenced by inflation, but VAT is not the cause of inflation.
Conclusion: Conference “take-aways”
The key expressions were “Prevention is better than cure” and “Start now!”. Understanding VAT and having appropriate business systems in place will be essential. There is a lot for businesses to do between now and VAT implementation day, and the sooner a start is made, the better.
Note: The author was invited to participate at the GCC Vat Forum, on two of the Conference panel discussions, Thinking Forward – Developing a VAT compliant business model, and Consumers versus business – Who should bear the burden of taxation?