Tax & Accounting Blog

EU VAT Rates: Towards Greater Flexibility for Member States

Blog, Indirect Tax, ONESOURCE April 18, 2016

In the last couple of months the European Commission has been discussing the possibility to grant Member States a greater flexibility for determining the VAT rates applicable within their territories, in order to modernize the VAT system and the European Union (EU) single market.


The measure was announced originally by the European Commission on October 2015 as part of its 2016 Work Programme. Currently, Members States are free to set their VAT standard rate, but the rate may not be lower than 15% according to article 97 of the VAT Directive 2006/112/EC. The 15% minimum was in force until 31 December 2015, however a new minimum has not been agreed and a consultation procedure is in place at the moment in order to extent its application until 31 December 2018.


The referred Directive also allows countries to apply one or two reduced VAT rates, and the lowest of them may not be less than 5% and can only apply to certain goods and services specified in the Annex 3 of the Directive. The current rules also allow for a series of reduced rates, even with rates under 5%, according to the derogations established in articles 109 – 122 of the Directive.


After months of discussion, the European Commission has released an Action Plan on VAT, which contains a series of measures intended to modernize the VAT system and tackle issues such as VAT fraud, cross-border trade and VAT rates within the EU.


In relation to the modernization of the rates policy amongst member countries, the Action Plan acknowledges that the current rules are behind the new technological and economic developments. In this sense, the document states that the rules were elaborated long time ago, when the origin principle was the main rule for the VAT system, and that they have not adjusted to the movement of the VAT system towards the destination principle, which allows for more diversity in the VAT rates.


The action plan stresses that a movement to a more flexible mechanism for the adoption of VAT rates requires for each country to adopt simple rules and to rely on harmonized product categories to the greater extent possible in order to allow for an easier application of the destination principle. It also stresses that a more flexible and decentralized system for adoption of VAT rates does not only depend on a technical analysis but also on a political discussion between Member States.


From a technical perspective, the action plan offers two options with different degrees of flexibility that could be analyzed in order to modernize the VAT rate system:


  1. The first option would be to maintain the standard rate with a minimum of 15% and to extent the list of goods and services subject to reduced rate. The list of goods and services subject to reduced rate would be reviewed on regular basis, taking political priorities into account.


  1. The second option would be to remove the standard rate with a minimum of 15% and to abolish the list of goods and services subject to reduced rate, granting countries more freedom to establish the level of VAT rates and goods and services subject to reduced rates.


However, this option might have an impact on the single market, leading to unfair tax competition (e.g. cross-border shopping). In order to avoid this, safeguards should be adopted to avoid this situation, which could be accomplished by establishing some basic rules that provide a frame for cases in which the application of reduced rates may proceed.


According to the time line established in the action plan, it is expected that the final propositions on the modernization of VAT rates at EU level will be released on 2017. Once released, it will be subject to discussion by the Member States and the EU Parliament before it can become a reality.