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Terri Bruce and Anthony Blenkey, Moore Stephens LLP
Terri Bruce and Anthony Blenkey are Associate Directors with Moore Stephens LLP
The prospect of VAT in the Gulf Cooperation Council countries has become a reality: for businesses, being ready and building resilience and contingency into finance, procurement and trading systems is essential in order to remain competitive.
The prospect of the implementation of value added tax (“VAT”) in the Gulf Cooperation Council (“GCC”) countries has been looming for some time, and many people believed it simply would not happen. However, in May this year the GCC Unified Agreement on VAT (previously referred to as “the framework”) was finally released, having been agreed and signed by all GCC Member States. The prospect of VAT in the region has become a reality. For organizations, being ready and building resilience and contingpency into finance, procurement and trading systems is essential in order to remain competitive and compliant.
The success of a VAT implementation is dependent upon the ability of businesses to administer the tax, and the ability of the state to collect it. VAT is a self-assessed tax and therefore businesses will be responsible for applying the correct rate of VAT to supplies, and accounting for VAT correctly on costs incurred.
The GCC Unified Agreement on VAT forms the basis for the national VAT legislation that will be introduced in each GCC country. The Unified Agreement on VAT sets out the rules that must be adhered to by all Member States and the areas over which the states have discretion to implement their own rules.
The United Arab Emirates (“UAE”) and Saudi Arabia seem to be ahead of the rest of the GCC states and are expected to implement VAT with effect from January 2018. The UAE is expected to release its VAT legislation imminently. Saudi Arabia has published draft VAT legislation and instigated a consultation period for businesses affected by the proposed changes; however, the draft legislation did not give many specific details about the VAT treatment of supplies. This information will be included within the “Implementing Regulations,” which have yet to be published.
The other GCC Member States have until January 2019 to implement, and therefore we may expect to see a staggered implementation across the region. This could have commercial implications, particularly for businesses that trade across GCC Member States. The application of VAT in some GCC states ahead of others may increase the complexity of intrastate transactions and competitiveness in the short term. It is this type of risk that business will need to be ready for.
Individual states and the GCC as a whole have a vested interest in the VAT system working correctly. VAT revenues will be important as the GCC moves ahead with plans to develop a more diversified economy. The state will therefore monitor VAT returns and registrations. State audits will become a regular factor of undertaking business in the GCC. Audits will generally be conducted only after five days' advance notice, except where fraud is suspected.
Penalties for non-compliance are expected to be draconian. For example, in the UAE, if fraud is suspected a business may be closed down for 72 hours and penalties of up to 500 percent may be applied on top of the primary VAT owing. In Saudi Arabia, businesses may be penalized if they trade with other businesses that are non-compliant.
There will be a three-tier appeal process, but non-compliance will clearly carry significant costs and commercial and reputational risk.
Although the full extent of the individual state laws is not known, we do know that the standard rate of VAT will be 5 percent and that zero-rating and exemptions will apply to specific supplies. Therefore, three distinct treatments will exist: standard-rated, zero-rated, and exempt.
The rate of 5 percent has been determined as the standard rate under the GCC Unified Agreement on VAT for all GCC countries. Once fully implemented, this approach should discourage rate shopping across the GCC, although this may still be an option until all states have implemented VAT.
This is different from the European Union (“EU”) where Member States are able to determine the rate of tax to be applied, allowing governments some fiscal flexibility.
In the UAE, healthcare and education services appear destined to be zero-rated. Both services were previously expected to be exempt from VAT, as is the case in the EU, meaning that input VAT would have been a cost to businesses making such services. However, the zero rate will allow such businesses to recover input VAT. Certain medicines and medical equipment will also be zero-rated.
Investment gold, silver and platinum will be zero-rated. Other supplies of precious metals will be subject to VAT at the standard rate.
The GCC framework provides for basic food items to be zero-rated but we understand that the UAE may treat food as standard-rated. This is surprising, as necessities such as food are usually excluded from the tax regime.
Financial services will be exempt, but fee-based financial services will generally be subject to the standard rate of VAT. Life insurance will be exempt from VAT, but all non-life insurance products will be subject to the standard rate of VAT. The application of exempt status means that businesses in the financial sector will not be able to recover all of the VAT they incur on costs. Note that the VAT liability of Islamic financial products will be the same as other financial products.
Looking beyond financial services, supplies of local transport, such as taxis, buses, trains, etc. will also be exempt from VAT. In the real estate sector, supplies of bare land will be exempt from VAT. Supplies of residential property (sales and leases) will be exempt from VAT, with the exception of the first sale of new residential property, which will be zero-rated. In contrast, supplies of commercial property (sales and leases) will be subject to the standard rate of VAT.
VAT will have to be accounted for on imports of goods into the UAE under the reverse charge mechanism. VAT will be accounted for as a paper transaction on VAT returns, meaning that businesses will not have to physically pay VAT at the point of import, resulting in cash flow savings.
Imports of goods into other GCC Member States, trans-shipped through the UAE, will not be eligible for the reverse charge, and import VAT will be due on such imports at the first point of entry into the GCC Customs Union. If imported through the UAE, there will be no entitlement to recover the import VAT paid as input VAT in the UAE. The input VAT will have to be sought from the final destination Member State.
If a business has previously imported goods into the UAE under the reverse charge mechanism and then moves the goods to another GCC Member State, it will be required to pay back the input VAT it initially recovered under the reverse charge to the UAE Federal Tax Authority.
The VAT treatment of supplies made within free zones and by free zone entities is still under final consideration and be will confirmed within the UAE VAT law and the Executive Regulations.
Supplies to the government and government bodies will be subject to VAT in the normal way, with government having to manage any reclaim or refunds.
The mandatory registration threshold will be $100,000 and the voluntary threshold will be $50,000. Businesses with turnover below $50,000 cannot voluntarily register. Registration will open towards the end of Quarter 3 2017. Registration, filing and payments will all be conducted electronically, with detailed specifications to follow later in the year.
VAT grouping is expected to be allowed, which is particularly beneficial for partly exempt groups
Records, including tax invoices, must be retained for five years. Returns are expected to be submitted on a quarterly basis. Businesses will be able to file their returns online using e-services.
Firms will need to systemize and automate several processes within their organization to ensure record keeping and filing that is fit for purpose in a VAT-enabled environment. They will need to ensure supporting documents, receipts, invoices, etc., are accurately accounted for, to ensure correct submission of VAT returns.
Many businesses have delayed taking any action to deal with the implementation of VAT as they wish to see the legislation first, but, with potentially just over five months to go until VAT is implemented in both the UAE and Saudi Arabia, they are cutting things fine. The introduction of VAT is more than just a finance issue: it is a business issue and could impact all areas of the business from purchase to pay, cash to report. Waiting until the last minute may mean businesses get things wrong and end up being censured. This can be bad for profitability, reputation and the burden of future state compliance checks.
VAT is a consumption-based tax that impacts every part of the supply chain. Businesses are strongly recommended to review their readiness for the implementation of VAT and the impact the tax could have on profit margins or on cash flow issues. Understanding repayment and recovery requirements and ensuring the correct schedule is applied to your business model is critical for maintaining control and profitability.
Businesses are specifically advised to review existing contracts that are currently in progress in order to determine whether they allow for VAT to be charged. VAT will also need to be considered for contracts currently in negotiation.
As a first step, businesses should initiate a VAT impact assessment immediately in order to determine the impact that VAT will have across their operations. This assessment should consider the impact of VAT on the following key areas:
The impact assessment should be used to develop a clear plan as to the steps that must be taken to be ready for VAT from January 1, 2018. These are likely to include the following actions:
Careful preparation is essential. Poor planning could damage profit margins, whether through the impact of VAT on the business model, inefficient administration or non-compliance penalties.
Copyright © 2017 The Bureau of National Affairs, Inc. All Rights Reserved.
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