all sorts of absurdities can ensue
Kitty Miv, Editor
05 January, 2017
Kitty's Country Rankings are below, with a description of how they are compiled. This week, as every week, I give out Encomiums to countries which have done Good Things, and award Execrations for countries which according to my highly personal and partial views have done Bad Things.
Costa Rica was recently chastised by the International Monetary Fund (IMF) for repeated failures to overhaul its tax system and replace its general sales tax with a much more internationally familiar value-added tax system. On the first issue, the IMF probably has a point. Tax reform might mean that the country loses some of the more attractive features of its tax system, like territorial taxation. But lingering uncertainty, caused by successive years of legislative paralysis on this matter, is probably worse. However, as to the IMF's second point, I would advise Costa Rica to look long and hard before it plunges into the VAT.
It is certainly the case that countries without VATs or GSTs are vastly outnumbered by those jurisdictions with such tax regimes in place. And there are plenty of arguments in favor of them. VATs can help to broaden national tax bases so that there is less pressure to tax incomes, with more of the burden falling on consumption, which many economists argue leads to much less economic distortion. The invoice and credit system underpinning VATs and GSTs can also help companies maintain cash flow, which is particularly helpful for small firms.
Nevertheless, things can get very complicated very quickly when governments start introducing multiple VAT rates and exemptions and try to pick winners with the VAT system. And unless VAT legislation is watertight and drafted in such a way that it is not open to interpretations, all sorts of absurdities can ensue.
The United Kingdom, in particular, has history in this area. In the UK, food is generally zero-rated, but some foods are "luxuries" or are considered "catering" and subject to the standard rate. So, in the not-too-distant past, we have seen long-running battles between HM Revenue and Customs (HMRC) and taxpayers over the classification of teacakes (a cake or a biscuit?), Pringles (a potato chip or not a potato chip?) and pasties (hot takeout food, or merely "food"?).
More recently, HMRC was forced to issue a whole brief for publishing houses, wholesalers and retailers to clarify the scope of the zero-rate for coloring and dot-to-dot books, which, curiously, are now finding a large audience among adults keen to relive their childhoods. And while such cases might seem ridiculous, even amusing, to the casual observer, they have huge ramifications for affected VAT-payers, not to mention the time and money spent by the respective parties contesting such disputes through the tax tribunals and courts.
As if coping with one country's VAT regime wasn't hard enough though, imagine trying to reckon with up to 28, as intra-EU traders must. In theory, the EU has a single VAT area. But member states are allowed to charge up to two lower rates in addition to their standards rates. Consequently, there are more than 70 separate VAT rates across the EU, plus various other permitted derogations from the VAT directive. In other words, a complicated mess.
The EU VAT regime was recently named among the top-three barriers to the spread of e-commerce in the EU, which is why, as mentioned in this column last month, the EU is rightly taking steps to ease the compliance burden for e-commerce businesses, especially small and micro-businesses. And since its landmark announcement on December 1, it has followed up with consultations on the business-to-business selling rules, exemptions for small businesses, and VAT rates – all of this could lead to more harmonization of the VAT rules in the EU. But while this might sound like an eminently sensible enterprise at first, inevitably there will be winners and losers.
The European Commission would dearly love to do away with lower VAT rates so that member states are permitted to levy only one standard rate. This could help to iron out VAT anomalies, distortions, and disputes and raise substantial revenues for member states, although taxpayers in sectors subject to lower rates could be disadvantaged. Similarly, many taxpayers may grumble if greater VAT harmonization led to more coordination of registration thresholds. These currently vary greatly, from as low as approximately EUR6,700 in Denmark, up to in excess of EUR100,000 in the UK.
However, most taxpayers and tax professionals who have experienced the EU VAT regime would probably agree that changes are sorely needed. It would be tragic, however, if the Commission and the European Council contrived the make a bad situation worse for small businesses. Therefore, the Commission should consider very carefully the feedback it receives from taxpayers in the extensive consultative process that will run between now an early spring 2017.
What the Commission proposes next could ultimately make or break many small companies selling goods and services across EU borders. However, large companies have plenty of compliance issues to be getting on with too – largely because of changes brought about by the BEPS project. Indeed, country-by-country reporting requirements, which are spreading rapidly across the globe, have been described by many senior tax and business advisors as a "game-changer" in the field of transfer pricing, itself a major focus of BEPS.
Surveys show that a great deal of affected companies are scrambling to align their systems with the new rules. So just imagine if CbC reports were made public. That certainly would represent something of a paradigm shift in tax transparency. Supporters of such proposals – which include the European Commission – argue that, with reputations such a valuable currency these days, tax avoidance would be discouraged because the public would be able to see how a company conducts its financial affairs, and where it pays its taxes. On the other hand, companies subject to CbC reporting regimes would, as the French Constitutional Court concluded recently, be put a major competitive disadvantage to those that aren't, while opening themselves and their employees up to other risks. What's more, how many people are going to fully understand such complex financial data? Not many, I suspect. And if this is the case, what value would public CbC reports really have?
With Wolfgang Schäuble and other European finance ministers skeptical about public CbC reporting, there is by no means a consensus on this issue. We also await the position of the incoming United States administration on CbC reporting, and BEPS in general (although it's probably safe to assume that Republicans are cautious over many aspects of BEPS, judging by the comments of senior party figures in the past couple of years). But with tax transparency arguably never higher on the political agenda and in the public consciousness all over the world, this will continue to be a hotly debated topic in 2017, even if most members of the general public – the one's supposed to benefit the most from increased transparency – probably couldn't make head nor tail of a CbC report in the first place.
Kitty's Encomiums and Execrations
Methodology: each week (this is the 147th) one or more countries are given encomiums and one or more are given execrations. Those are the entries below with descriptive links. In the following week, each encomium counts as + 1 for that country, and each execration counts as – 1, being added to that country's existing score. Over time, therefore, a ranking will build up for each country, and further countries will join the listing. Germany is at minus 2, since in the second week it had an execration and in the first week it had an encomium, leaving it at neutral; then it had an execration in week four, thus dropping to – 1, and another one in week six, dropping to – 2; finally in week 13 it got something right, so it went back up to – 1; then in week 16 it gained a further star, so then it was in neutral territory until week 23 when it dropped back to minus one, but reverting to neutral territory in the following week, then dropping to minus one in week 50, and back up to plus one in week 51, then to plus two in week 52. Some weeks ago it dropped a place, but then quickly recovered one step. Etc etc.
The rankings are intended to be a proxy for business friendliness; evidently they are highly partisan, but as time goes by they are becoming useful for decision-making. For any country in negative territory, you should think carefully before starting a business there.
European Union listens
Costa Rica late
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