The EU is currently mulling the narrowing of the VAT exemption granted to Europe’s financial services sector in 1977. How could this possibly affect providers of DM services to the sector?
The future of VAT for service providers to the Financial Sector
Earlier in the summer of 2006 the European Commission invited comment on a consultation paper it had produced on the reform of the VAT system for financial services. Services in this sector have been exempt since the 6th directive was introduced in 1977. Since that date the financial services sector has grown significantly and the scope of the financial services exemption in many ways does not reflect the breadth of the sector which exists today. The proposals for change have been prompted in part by the large number of cases taken to the European Court in this area and also a complaint that the rules are encouraging financial services businesses to offshore. Any change would of course have an impact on suppliers of services to that sector (for example, in marketing, data processing and other outsourced services ).
Currently, services provided by suppliers to the sector who act as "intermediaries" with end-customers would be exempt, whereas pure marketing and promotional services would be taxable. The distinction can be a fine one, but essentially a service provider needs to act as a facilitator in the arrangements between the finance/insurance provider and the end-customer, to act as an intermediary.
The alternatives set out in the Consultation Paper were as follows.
Extending the Exemption
The types of financial services treated as exempt could be extended. The effect of this is that businesses which already provide taxable services to the sector could end up no longer accounting for VAT, thereby making their services appear cheaper to their clients. However, it also means that VAT incurred by such businesses on their own overheads would not be recoverable, increasing the costs for that business. Attempts to pass this cost on may appear uncompetitive, particularly when compared with offshore suppliers. However, it could also provide opportunities for the further outsourcing of activities currently undertaken within financial organisations, as the VAT cost would no longer be a bar to considering such outsourcing.
Zero Rating of Supplies
This would have the effect of supplies within the financial sector carrying no VAT, but the providers being able to recover VAT charged to them. While this would enhance competitiveness of providers within the EU, the probability of it being implemented are low, due to the loss of revenue by the national governments.
Option to tax on business to business transactions
This would introduce a level of flexibility, allowing suppliers to charge VAT and recover a greater proportion of their VAT on overheads. However, this could still impact on the competitiveness of certain businesses particularly when compared with offshore providers.
Due to the potential complexity in administering this area (eg. service providers running dual systems and also having to consider notification of other tax authorities regarding clients in other member states), this system could prove to be more burdensome that straight changes in the VAT treatment outlined above.
Uniform limited input credit
Probably the most straightforward proposal would be for finance providers to be given an allowance of a certain amount of input VAT which can be recovered. All such providers, and the outsourced suppliers to such providers, would therefore be given a level playing field on which to operate. This would essentially leave the finance provider as if the outsourced activity had been conducted in house and therefore would not lead to the prejudice of outsourced suppliers to the finance industry. Of course, differences in rates around the EU could give rise to discrepancies in recovery.
While the suggestions do have merit in terms of dealing with the growing complexity of the financial services sector, they are not without their own dangers and will be complicated to implement. The Commission is due to report on this sector by the end of 2006/beginning of 2007. The impact that any changes would have on providers of marketing services to the sector will become clearer once the concrete proposals are published.