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Reforms in EU VAT - Lessons for the Indian GST
January, 09th 2012

The previous two articles in this column had discussed the Communication on the future of VAT in the EU ('Communication') adopted by the European Commission ('EC'), including its purpose, the overriding objectives of the reform as spelt out therein, as well as the four identified priority areas of work. The need for India to closely follow these developments and endeavour to incorporate the best in class thinking while approaching the dual GST in India were also briefly mentioned. This concluding article in the series will discuss the last two of the priority areas of work, as identified in the Communication and highlight the key takeaways for Indian policymakers.

The four priority areas identified for further work were:-

work facilitating the transition to a simpler VAT system
work towards a more efficient VAT system
work towards a more robust and fraud proof VAT system
a VAT system that would facilitate a single market in goods and services.
On a more robust and fraud proof VAT system, the Communication informs that a study carried out some years ago had demonstrated that generally 12 per cent of the theoretical VAT was not collected. Fraud is a large and significant part of this VAT gap although there are other reasons for this gap as well. Accordingly, the Communication states that a quick reaction mechanism to enable legally tenable anti fraud measures to be taken will be proposed in 2012. It also states that a review of earlier anti fraud measures to assess their efficacy will be undertaken and recommends a significantly broader automated access to information. Recognising the importance of cross border audits, the document states that the EC will explore the possibility of setting up such a team to facilitate and improve multilateral controls. Exchange of information between member states and with non member countries as well as between customs and VAT authorities on best practices in anti fraud mechanisms is also part of the workstream, besides reviewing the manner of collecting VAT such as the split payment model and the data warehouse model.

On the last workstream regarding a VAT system that will facilitate a single market in goods and services, the Communication discusses the various ways by which the destination principle of taxation will be implemented, including the definition of the place of destination itself, as appropriate for intra EU B2B and B2C transactions. It states that the EC will proceed to carry out in depth technical work in this regard and will initiate a broad based dialogue with member states. It also states that by 2014, the EC will table a legislative proposal laying down the definitive regime for taxation of intra EU trade.

There are several take aways for Indian policymakers both from the Green Paper on the future of VAT in the EU that was earlier published and from the Communication that has been adopted thereafter. At the outset, the manner in which the EC has gone about the VAT reform process is itself highly instructive, both from a communication process as well as from a stakeholder engagement standpoint. Frankly stated, there appears to be a stark difference in the approach of the policy makers in the EU and in India in that the former seem to resort to direct and constant communication with the stakeholders and the public at large on all aspects of the tax reform agenda whereas the latter apparently prefer to have minimal and selective communications on a need to know basis! For instance, the Empowered Committee of State Finance Ministers ('Empowered Committee') had issued the first discussion paper on the GST way back in November 2009 and the Ministry of Finance, Government of India ('MoF') had thereafter come out with its comments in early 2010. Several areas of differences were identified but there has been no broader communication with the stakeholders in this regard including on how these differences are proposed to be resolved. On a different and more important plane , the objectives of the VAT reform process , as identified in the Communication , as well as the technical issues identified for further work to facilitate these objectives , including the crucial discussion on the VAT rates themselves, are very instructive. To illustrate the point, in India the treatment of inter-State transactions including the GST on imports has been an area of debate. The levy of Inter-State GST ('IGST'), its collection, the working of the input credit mechanism etc. all need to be agreed upon. In this regard a cue can perhaps be taken from the discussion on the place of supply rules for the intra EU supply of goods and services including on B2B and B2C supplies, given that both the EU and India are agreed on the primacy of the destination principle, as the basis for taxation. There are equally any number of relevant learnings from all of the other points of discussion and the priority workstreams identified in the Communication. Indeed, members of the EC have been recently in the EU on a study tour and hopefully the points being made in this article are already the subject of agreement between India and the EU, at least from a knowledge sharing standpoint.

It is therefore important to hold a watching brief in regard to these portentous developments on VAT reform in the EU.

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