What is the Problem for Freelancers?
According to the Directive on the Place of Supply of Services, from 1 January 2015, VAT on all telecommunications, broadcasting and electronic services will be taxed where the customer is based, rather than where the supplier is located. According to the EU Commission, this changeover will ensure a more level playing field for businesses, and fairer taxation rights amongst EU Member States.
An estimate 1.8 million of freelancers, making digital sales across Europe, cannot materially comply with the requirements imposed by the new legislation. The costs in paperwork, bureaucracy, and amendments to websites and payment processing will simply mean that many micro-business models will no longer be viable. These freelancers are therefore faced with the choice of either to close their businesses or not to comply with the legislation. That is not a reasonable choice to force them to make.
"I agree that the new EU VAT rules are posing a huge problem for micro-businesses and confirm my willingness to urgently prevent unintended damaging consequences on them". -Andrus Ansip (European Commission Vice President) at the European Parliament Plenary Session of 18th May 2015.
What are the Impacts on the Smallest Businesses and Consumers?
Despite the well intentioned motives, the new legislation has resulted in freelancers selling digital products and services being overwhelmed with a huge administrative burden: additional demands of determining the location in which services are supplied, calculations for VAT returns, data auditing (e.g. 10 years record keeping requirements) and data protection compliance – despite the fact that the regulation was meant to tackle large companies avoiding tax by operating through subsidiaries in low VAT Member States.
The new legislation is also going to have considerable financial consequences. This is largely due to compliance costs, which will have to be passed on to customers or absorbed internally, and which in turn would lead to reduced profitability and curtail the ability to expand across Europe. Or alternatively, freelancers will have to pay high fees demanded by third party reseller platforms (mostly the ones for whom the legislation was introduced in the first place) in order to keep trading, which is a factor significantly in favour to big companies over small, local ones.
As a result, freelancers active in the digital single market are ceasing to trade daily or are scaling down their digital sales, all of which erodes every European country’s tax base and potentially adds to its welfare bill. They know they cannot comply with the legislation and cannot afford the administrative cost, financially and time-wise. For instance, freelancers in some EU countries are seeing sales fall by as much as 25%, due to the extra information they are having to request from customers during the purchase process.
Consumers also face reduced choice as freelancers may opt to refuse selling to other EU Member States, and drop digital products entirely. Non-EU freelancers may also now block sales to EU consumers, damaging the business’s profits, the opportunity to create jobs and limiting their chances to expand across Europe.
"SMEs are the backbone of our economy, creating more than 85% of new jobs in Europe and we have to free them from burdensome regulation”. “Modernising and simplifying consumer rules for digital purchases should go hand-in-hand with efforts to boost digital skills and learning and to facilitate the creation of innovative start-ups". -Jean Claude Junker (European Commission President) from his Political Guidelines Opening Statement.
How did the EU come up with this?
In the 2008 impact assessment of the Directive, the EU Commission believed that most micro-businesses, such as developers of apps or digital downloads, trade through third party platforms, which have the infrastructure to handle the new tax regime. Where this happens, it will be the responsibility of the platform operator to account for the VAT. As a result the vast majority of micro-businesses were not expected to be affected by the changes. However, in 2016 micro-businesses can also sell digital services directly to clients, which is becoming more and more the rule rather than the exception.
The EU Commission has introduced a VAT Mini One Stop Shop (MOSS) in each EU Member State that will simplify VAT obligations for micro-businesses as they comply with the new rules. They will not have to register for VAT in every EU country where they make sales, and a single quarterly return can be submitted to cover all the VAT.
However, despite this, the changes mean that affected micro-businesses face an increased compliance burden, both in terms of maintaining VAT records and complying with data protection regulations – and billing will become more difficult to manage.
"I sell digital printable art work all over the world. This will destroy a vital part of my small business which enables me to support my family / pay bills, while still caring for my young child. Each EU country, over the course of a year would collect under £50 in tax from me, but these changes will potentially cost me thousands of pounds in income each year". -Craft Pattern Seller – United Kingdom – Turnover €50k
Source: EU-VAT-Concerns-EU-Briefing-Feb-23-2015 by EU VAT Action Campaign
What could be done to fix the problem?
For freelancers, the smallest of small businesses, it is vitally important that regulation is clear, accessible and not unduly burdensome. Red tape should be eliminated or reduced wherever possible particularly for one-person businesses, who are exceptionally vulnerable to the burdens of bureaucracy due to their very small size and limited human and financial resources.
The European freelance community is proposing a number of steps that, if implemented, would reduce the unintended effects of the new legislation on VAT for Digital Sales.
- Short-Term: Obtain a revenue exemption threshold, that could be set between €50,000 and €100,000, and applicable to all micro-businesses (<10 staff, <2 million turnover) doing cross-border digital sales and an immediate interim suspension of the current rules for micro-businesses trading below the threshold, so they can revert to their domestic VAT rules.
- Medium-Term: Progressively review and simplify the new EU VAT rules from the ground up, reworking them to be practical for all micro-businesses, even those trading above the €50,000 – €100,000 exemption threshold. This may include collecting only one piece of data (e.g. payment processor country code) and guaranteed home country-only audit control.
- Long-Term: Avoid the extension of the EU VAT rules to those micro-businesses selling physical goods, pending a proper impact assessment, the SME test and a public consultation with micro-business representatives.
These policy recommendations have been included in a letter which was sent ahead of the ECOFIN meeting of the Ministers of Finance, and addressed to the Dutch Presidency of the EU Council. The letter was co-signed by a coalition of small business associations and was coordinated by the European Forum of Independent Professionals. The letter urged Ministers and EU Member States to ensure that VAT rules on digital sales do not unnecessarily limit the development of the digital small and micro-business sector in innovating, creating jobs and growth, to the detriment of European consumers.
Image Credit: Lorenzo Blangiardi – Campidoglio Statue, Rome – Flick CC Licence