The Scottish Government has put a lot of work into defining the potential for “Scotland’s Digital Future”, and has clearly outlined the steps that are required to ensure Scotland is well placed to take full advantage of all the economic, social and environmental opportunities offered by the digital age.
However, the reality is that the development of the digital economy is a contradiction, with one side encouraged to “let go” – to innovate, and to be open to the infinite possibilities created by technology. The other involves fitting that creativity, and the monetisation of digital business into traditional procedural boxes – such as VAT.
VAT is an ever-changing landscape, and as fast as digital businesses change, VAT changes too – constantly having to keep on top of things.
It was only in January this year that new rules came into force for determining VAT to be charged on cross-border supplies of electronically-supplied services to non-business customers. Now, just a few months later, the EC appears to be acknowledging there may be a problem with the high degree of complexity faced by businesses – particularly SMEs – when seeking to take part in digital trade within Europe.
Firstly, there is confusion regarding to whom the rules apply. What is a digital service? It’s one that sells services that are purely digital to a consumer. Like an app, or an online training programme, or an online game.
The rules mean that UK-based companies offering digital services are to pay VAT in the country that the purchaser is located. If a company sells to multiple countries, it might need to work out its VAT bill (which is still paid via HM Revenue & Customs) based on the different rates in each country.
That makes for a very complicated financial model which needs to be able to identify the customer’s location, apply the correct VAT rate and account for it, and one which many companies based on creative and innovative digital technology are ill-equipped to deal with.
The new rules have meant that many companies are having to restrict their operations, plans and ideas to deal with onerous VAT issues. Some are restricting trade to fewer countries, or just one, and some are retrofitting “traditional” elements into their service offering in order to prompt reclassification of their business. For example, a provider of digital training that offers a person to person tutorial or a helpline, is no longer a pure digital services provider, and thus the new rules don’t apply to them – they are free to pay their VAT in the UK in the usual manner.
Another way to escape the trouble of identifying locations and accounting for the different VAT rates is to provide products or services through a platform, such as iTunes, but while this might drive volume sales and side-step the VAT issues, it also comes at a cost, particularly in terms of independent creative control.
There are three simple questions SMEs can ask to check whether they are affected and whether a coping strategy is required. Are we supplying digital services? Are we supplying to consumers, as opposed to businesses? Are we supplying direct?
Europe is now reviewing VAT with possibility of standardisation across the EU. It’s possible that this rate would be different from the UK, but at least it would knock out the different Euro VAT rates – which would be a big help to SMEs. Complex VAT rules are a problem for small businesses, and the EC seems to have picked up on this. However, yet again we have an example of VAT law struggling to cope with technological change.
It remains to be seen whether the EU decides to fix this issue, or at the other end of the scale, to go for broke and widen the rules to other SMEs that trade outwith the UK – which is a real possibility given the huge investment that has been put into the new scheme.
At the moment, all SMEs can do is try to keep abreast of the changes happening, as they continue to push their businesses forward.
• Scott Craig is a partner and VAT expert at accountant and business adviser Scott-Moncrieff