What is VAT?
Here's a primer on the European Union tax and how it affects the marine industry
by Ian Biles
June 25, 2008
Taxes in general can be divided into direct taxes and indirect taxes.
Direct taxes are those that are assessed and levied upon people, whereas indirect taxes are levied upon goods and services. Income tax and inheritance tax are direct taxes; stamp duty on property, duties on alcohol and cigarettes are indirect taxes.
VAT is an indirect tax. It is a tax on consumption. It is called value-added tax because the tax relating to the goods or services involved increases proportionately to the difference between what products are bought and sold for.
VAT is specific to the European Union, although other countries have systems that are not dissimilar. It is not a simple sales tax. It is a method of charging everyone within the economic community but allowing those companies that are merely intermediaries or are purchasing goods and services and then selling them on to recover what they have paid. They must charge and collect the tax, but can deduct from their payment to the government any amounts that they have paid themselves in acquiring the initial goods and services.
In the EU, persons, being individuals, companies, local authorities, charities and other legal entities, are divided into two groups: those that have taxable sales, or outputs, which in general means registered traders and those who are consumers.
Although the system varies throughout the European Union, in general, each trader is required to prepare a return of his VAT on a regular basis. In the U.K. this is usually done quarterly. The return requires that the trader identifies his sales and the VAT that is chargeable thereon and also identifies his purchases and the tax he has paid. He then calculates the net difference and must pay over to the government any excess of VAT relating to his outputs over his inputs or, alternatively, reclaim from the government any excess of his input tax over his output tax.
The essential point to note from this is that traders do not bear the tax involved in VAT. They may have the cost of administration and they may have some cash flow deprivation but they do not actually bear the cost of the tax. The people who bear the tax are the ultimate consumers.
More confusing: In many EU states there is no "zero rating" but instead "exempt with credit," which is effectually a zero rating.
Although the foregoing is only an indication of how VAT works, it is most important that anyone operating a yacht within European Waters has a working knowledge of how the tax works. Clearly, should problems arise professional advice must be taken.
To understand the workings of VAT one needs to understand the European Union and its ideals.
The European Economic Community (the Common Market) was created under the 1957 Treaty of Rome and was intended to ensure that the terrible wars that had ravaged Europe in the twentieth century and before would never happen again. The theory was that by creating an economically inter-dependent series of states within Europe, war would be impossible.
Initially there were seven members ??" France, Germany, Italy, Luxembourg, Belgium, Denmark and the Netherlands ??" and they developed a series of rules and regulations that covered major industries such as coal, steel and agriculture. Over the years other countries joined including the U.K., which was invited at the beginning but declined. Each country still managed its own customs, duties and barriers.
On Jan. 1, 1993, the European Union was created which led, under various treaties, to much increased cooperation and the deregulation of many of the individual countries own protectionist structures. From that date onward, there were no customs barriers between the member states.
VAT is the epitome of the European ideal. It is intended to be a tax that is applicable throughout the European Union, the one that will create the level playing field. The intention is to allow transactions between Finland and Portugal, or Luxembourg and Greece to be treated just as those between England and Wales.
From the yachtsman's point of view, when the European Union was created, the change meant that instead of having many countries and many different customs authorities to deal with, there was but one. A single coastline that stretched from the very north of Europe right the way round the coast of Britain, Ireland, France, Spain, through the Mediterranean to Greece. This was now one border, one entry system, one set of Customs. At least that was the intention.
Needless to say, such things cannot be achieved overnight and therefore there were many transitional arrangements that were put in place in order to control the rush toward the idea of a completely free market.
There had to be regulations relating not only to the importation of goods into this one customs area, but also to sales and transfers and leasing and hiring of goods from one member state to another and even a third. Rules were drawn up for all of these eventualities including, for example, the idea of "triangulation," which set out the VAT implications of a trader in country A purchasing goods in country B for transportation and sale into country C.
There were also local exemptions. Greece kept its cabbotage rules which were diametrically opposed to the whole EU free trade ideal; Spain kept its matriculation tax. VAT had to keep pace with these anomalies.
Yachts are treated in much the same way as other physical goods. A consumer buying goods from a supplier within their state will pay the VAT. A VAT-registered company buying from another VAT-registered supplier within their country will pay the VAT to the supplier and recover it from the government on their next return.
When transactions are between member states, the rules are different. If goods are produced or sold in one member state to a purchaser who is VAT-registered in another member state, the transaction is rated for VAT at a zero rate but both parties, vendor and purchaser, account for the VAT on their returns. The vendor shows them as sales to another member state at a zero rate, the purchaser shows them as a purchase, adds the VAT that would have been charged by the vendor in the purchaser's State and then deducts exactly the same amount as the recovery for VAT. The result is that no cash changes hands, however the transaction is accounted for within the recording and statistical mechanism of the European Union.
As yet VAT is not a wholly EU tax and although it is possible for a trader in one country to recover tax he has suffered in another, it is a complicated process. Hence, most EU trade is zero-rated, but there are plans to have all VAT dealt with in one location and so these intra-EU rules will disappear. Yachts are considered to be a means of transport and have special rules for when they are new or are on hire.
It is possible for tax authorities in Europe to check on every single invoice that has been recorded through VAT returns regardless of where the transaction starts or where it finishes.
VAT could not operate if no one had invented the computer. Regular checks are carried out by VAT authorities in the member states, cross checking with those of other states to ensure that the correct procedures have been adhered to and that people are not reclaiming VAT to which they are not entitled.
In many cases the penalties for supplying incorrect statistics are heavier than for not paying the money.
VAT and Yachts
As far as a yacht is concerned it will have a VAT profile in any of the following circumstances:
- She is built within the European Union and is sold to someone within the Union.
- She is built within the EU and sold to someone outside the EU.
- She is built outside the EU, is purchased and brought in by someone within it.
- She is owned by someone outside the EU but operates in EU waters.
- She was built before 1985.
As a means of transport the following two issues are important:
- A new means of transport can be sold to a consumer in another member state as a zero rated supply. The consumer must pay VAT at the local rate in the country of destination.
- When a means of transport is let on hire, VAT is payable where the owner belongs not where the vessel is used.
As a transition arrangement in 1993, yachts built before 1985 were excluded and treated automatically as VAT paid, provided they were in EU waters on Dec. 31, 1992.
When goods, including yachts, are imported into the EU from overseas, they are due to pay VAT at their first port of entry. The rate will be applicable to the member state of arrival.
Specific procedures allow the vessel to be considered en route to another member state and yachts are able to avail themselves of this facility. The procedure is equivalent to that of goods arriving for example in Genoa, Italy, for destination in Vienna, Austria, which of course has no sea border.
It is, however, to be noted Mediterranean customs officials may need convincing that a yacht that has arrived in the Med is in fact en route to the UK. It is difficult to prove because once the yacht is "imported," she is free to travel anywhere in European waters.
Under the rules of the European Union a vessel may enter the European Union without paying VAT and remain there for a period technically of eighteen months but effectively of two years, provided she is not considered a European vessel.
In effect, this means her beneficial owner must be a non-European resident, nor can her main user be a European resident. Provided these criteria are met and other lesser details are complied with then the vessel is free to move around the EU within her period of temporary importation.
There are issues concerning the definition of use within the European Union which again vary from state to state, even perhaps from port to port.
There are recorded cases of Swiss owners of yachts, who are not European residents, keeping their yachts on the French Riviera and only using them at weekends. They have claimed that the 18 month period must be calculated as based upon eight days per month, therefore they are entitled to some 144 months of use. There is also the case of a racing yacht which was used solely for racing and owned by a non-European resident, which was considered to be in use only for the periods of her actual racing and her transit from her home port to the race start. These anecdotes should not be taken as an infallible interpretation of the rules, but they do go to indicate that when it comes to VAT, interpretation is everything.
A yacht that is on temporary import must not charter within the EU and the vessel must not be sold. If it is she will be liable to VAT on her value.
Yachts are defined in law as merchant ships designed for pleasure purposes. The rules relating to commercial vessels and fishing boats exclude the above definitions. There has been a move to have the concept of a yacht being used for commercial purposes recognized worldwide. The Isle of Man has created a Commercial Yacht Register specifically in the hope of getting the EU to recognize these vessels as commercial and therefore effectively outside the scope of VAT.
If, as has happened in France, they are recognized as commercial, their activities are zero-rated. They do not have to charge VAT to customers and are not charged it by suppliers. They can also recover any VAT they have been charged. This is why the matter has been at the top of the agenda for the yachting industry for so long.
Ian Biles is the founder of Maritime Services International, a marine surveys and consultancy business. He holds a Class I (Unlimited) Master's certificate, a degree in naval architecture and an MBA. He has developed a risk management program for large yachts for a major London-based underwriter. Comments on this story are welcome at info(at)maritime.uk.com or +44 (0)2392 524490.