May 22, 2003 -- (WEB HOST INDUSTRY REVIEW) -- Businesses that offer digital products or services over the Internet will have a new tax issue to worry about starting July 1, 2003.
That's the day when a new directive from the European Union (EU) will come in to effect requiring non-EU companies that sell e-commerce and Internet services to pay Value Added Tax (VAT), which is levied on most European goods and services sold throughout Europe, on "digital" products or services sold to residents of EU member countries. The directive is applicable only to digital goods and services, and not to products delivered via traditional methods, as items sent by postal mail are already subject to VAT regulations.
The directive, approved after a meeting of EU finance ministers in late 2001, is designed to protect EU businesses that have seemingly been put at a disadvantage by VAT compliance requirements. Until now, most non-EU companies serving EU residents have not been required to charge VAT, despite the fact that virtually all EU businesses charge some sort of VAT-based fee. Many businesses have complained that this has allowed non-EU competitors to set lower prices for the same goods and services, effectively undercutting the local competition. This has drawn the ire of many companies, and even caused UK-based ISP Freeserve to wonder aloud if it would move its business elsewhere if the British government did not require AOL, which was quickly moving in on Freeserve's territory, to charge VAT (the new EU directive will require AOL to charge VAT).
Under the directive, companies will be required to charge the current VAT rate of the EU country the purchaser resides in. VAT rates differ greatly between countries, reaching as high as 25 percent in Sweden to only 15 percent in Luxembourg (the UK's VAT rate is 17.5 percent, while Germany's is 16). The directive covers only business to consumer transactions, as many business to business transactions are already subject to tax regulations.
As one might guess, the Bush administration in the United States is anything but a proponent of the directive. A statement by Deputy Treasury Secretary Kenneth Dam late last year stressed that the U.S. government has "serious concerns" about the directive and that the proposal "may potentially be inconsistent with international trade obligations in the World Trade Organization." Kenneth pointed out that companies based in EU member nations are able to charge VAT according to the rate of the country they are based in, whereas U.S. sellers would be forced to charge VAT according to where the buyer is located, creating an uneven playing field. "In addition, U.S. sellers may be subject to more onerous administrative and compliance requirements than are placed on their EU competitors," he said.
Because they provide electronic services, the directive extends to companies providing Web hosting and ASP services as well - though few companies of any sort seem prepared for it. Sales of downloadable software and upgrades, online music and even distance learning also come under the new VAT umbrella.
One company attempting to assist firms through this potentially confusing issue is professional services organization PriceWaterhouseCoopers, which has launched a Web site dedicated to the issue. "EU member states have not been very good at supplying those affected by the new regulations details of registration procedures and guidelines dealing with the new directive," the company said. As a result, its site aims to provide "basic information on the subject, how it could affect revenues and the ways that companies limit VAT liability." Other resources working to help businesses sort through the confusion include ecommercetax.com, which offers fee-based ecommerce tax advice, and eudigitalsales.com.
The end result of the directive is likely to be a sharp increase in prices for EU consumers seeking electronic goods and services from non-EU companies. It seems to create a particularly awkward situation for EU hosting consumers, many of whom choose to host their Web sites in North America for connectivity, price and experience. It will be interesting to see if the directive pushes any clients to European firms, and if those firms move to take advantage of the new playing field that will emerge as a result of the directive.
