The dreaded VAT. Ugh. Value Added Tax (VAT) is the European equivalent of sales tax and it is a Royal Pain In The Arse. However, if you are running a business that makes sales in Europe you need to understand VAT. In particular it has important implications for your choice of payment processor, even if you are based outside the EU or below VAT registration thresholds. I have put together a few pointers here in the hope that it will help someone grappling with the complexities of VAT. But please note:
- I am not an accountant. If you need proper advice, talk to a proper accountant.
- The VAT rules are complex and may be interpreted differently by different people.
- The rules may be different in different countries.
- The rules change over time.
Only VAT registered businesses have to charge VAT. You have to register for VAT once your sales reach a certain threshold. At the time of writing, UK-based businesses have to register for VAT if their EU sales exceed £77k in a 12 month period (technically it is UK sales, but the ‘place of supply’ for EU consumers is classified as the country of the seller). You can also choose to register for VAT before you reach the threshold. But it usually isn’t worth it, unless perhaps you think having a VAT number is essential for your credibility. Personally I waited until I couldn’t avoid it any longer.
Even if your business is not based in the EU, the EU still expect you to pay VAT on any sales inside the EU once you reach a threshold. This is controversial and it isn’t clear to me exactly what the EU can do to enforce this if you are based outside the EU. Talk to your accountant.
The VAT rate varies between countries. At the time of writing it is 20% in the UK and 19% in the Netherlands. It also varies over time, it used to be 17.5% in the UK.
The UK also has a simplified flat rate VAT scheme with a lower VAT rate. But you can’t claim back VAT on purchases. Worse still, it appears that you will effectively be paying VAT on sales outside the EU. So that doesn’t seem at all attractive.
The VAT rules are complex and depend on:
- where you are based
- where your customer is based
- whether your customer is a business or a consumer
- whether you are selling goods or services
Technically you do not have to charge VAT to an EU business, even if they aren’t registered for VAT. Apparently they are then responsible for “self-charging” the VAT. However the burden of proof is on you to show that the customer is a business. So most vendors require a VAT number as proof of business status.
There also seem to be disagreements over whether software is goods or services. What if you ship a CD?
Here is a simplified summary in pseudo-code of whether a seller needs to charge VAT on software as I understand it:
if ( seller registered for VAT)
if ( customer in EU )
if ( customer is a business )
if ( customer in same country as you )
Except that people in Norway and Switzerland (which aren’t in the EU) pay VAT in some circumstances. Don’t ask me why. Also you don’t pay VAT on some items, e.g. postage. And outside the scope of VAT (O), not rated for VAT (N) and zero rated for VAT (Z) are all different VAT codes meaning no VAT is payable. As I said, it’s complicated. Not complicated and interesting like quantum mechanics or the love lives of celebrities. Just complicated.
The only upside of being registered for VAT is that you can claim back the VAT you pay on any purchases you have made (make sure you get a VAT receipt). Or, if you are buying from another EU country, you can tell them your VAT ID and they shouldn’t charge VAT (see above). So any equipment you buy in the EU is now 20% cheaper. This is small recompense for the giving 20% of your sales in the EU to the VAT man. Try not to think about that. Instead give yourself a pat on the back for having reached the VAT threshold. A lot of businesses never do.
Note that when you register for VAT you may be able to claim back the VAT of products purchased before you registered. When I registered I could claim back VAT paid on goods purchased within the last 3 years and services purchases within the last 6 months. So keep your VAT receipts.
Congratulations on making it this far. Here is the important bit. How you process payments has important implications for VAT. When someone pays you via a payment processor, such as PayPal, legally they are buying from you and the payment processor is just handling the payment on your behalf (like a bank cashing a cheque). So you are responsible for collecting what VAT is due and paying it to the appropriate government. This can be a major headache if you are selling hundreds or thousands of licences per month.
When you use a reseller, such as Avangate or Fastspring, legally you are selling your licence to the reseller and the reseller is then reselling it to the customer. The reseller is then responsible for deciding what VAT is due, collecting the VAT and doing the paperwork. They then pay you net of the VAT and their commission. Leaving you to sort out the VAT for their one payment to you per month.
Using a reseller is a big win if you are registered for VAT. I am registered for VAT and use Avangate as my payment processor. They do the heavy lifting in terms of calculating, collecting and paying the VAT on my sales. But if you aren’t registered for VAT be wary of using a VAT registered reseller – approximately 20% of your sales will be disappearing in VAT (which the VAT registered reseller has to charge) which you could be keeping if the customer bought from you direct. So if you aren’t registered for VAT, a reseller such as Avangate or Fastspring may not be the best solution for you. Check out e-junkie.
VAT admin is fairly straightforward. To keep the VAT man happy I have to file:
- an EC sales list every month
- a VAT return every quarter
My Quickbooks accounting package generates the numbers for these. It only takes a few minutes to file reports online once all the transactions and VAT codes are entered correctly into QuickBooks. The VAT man then debits (or credits) the appropriate amount from my business account each quarter. It is not too bad, as long as I don’t think about the wheelbarrow loads of cash Avangate keeps to pay the VAT man. Maybe they roll around naked in it on the last day of every quarter. I probably would.
When I first registered for VAT I tried adding the VAT onto my existing prices. But I found that sales dropped more than 20%. So I ended up keeping the gross price (including VAT) the same, whether the customer pays VAT or not (Avangate gives you this option). Whatever you do, make sure it is clear whether any prices you quote include VAT. EU consumer expect to be quoted prices inclusive of VAT and won’t appreciate it if you try to sneak on an extra 20% at the end of the purchase process. You may be legally required to quote the price including VAT in some countries.
A final note of warning. The VAT man has a lot of powers. I understand the UK VAT man can kick your door in and seize your equipment without needing even a warrant. He might not be impressed to find out that the computer you reclaimed the VAT for is an XBox. Do not mess with the VAT man.
If I have made any mistakes, missed anything out or if the rules are substantially different in your country, please add a comment.
** Please note that this article was written in 2012. It doesn’t cover changes since then, notably ‘VAT MOSS’. **
Thanks to Marcus Tettmar of Macro Scheduler automation software for checking this through and advising me on some of the finer points.