How does VAT work in Europe? For internet business, it’s impossible.

Dateline: Kuala Lumpur, Malaysia Government is the biggest enemy of small business. And while The Land of the Free long discussed any way possible for cities and states to get their hands on sales tax money from internet purchases, our friends at the European Union have them beat on the sales tax issue by a mile. For once, the United States isn’t home to the world’s most blood sucking tax organization… at least not on this front. Europe’s value added tax, or VAT, is a tax that gets slapped onto pretty much anything as it moves along the supply chain. Literally every cog in the wheel is part of a crazy tax system that drives prices up. If you’ve ever wondered why so many things in Europe are so expensive, chances are it’s related to VAT. While Switzerland and its microstate partner Liechtenstein charge a low 8% rate – comparable to sales tax in the United States – VAT tax rates in the European Union range from 15% up to 27%. Europe’s lowest VAT rate is in Luxembourg, while the thieves in Hungary charge the highest VAT rate of 27%. Yep, an extra 27% goes right into the bankrupt coffers of the Hungarian government in that example. Of course, being the good stewards that they are, government officials have seen fit to make exceptions to these VAT rates. In the United Kingdom, necessary food is exempt from VAT, while energy is “VATable” at just 5%. Countries from Estonia to Latvia to Germany charge lower rates on stuff politicians want to keep inexpensive in order to get re-elected, while France plays to its stereotypes by charging a low rate on “cultural goods”. However, starting next month, the European Union is enacting a FATCA-like policy that will subject every digital purchase made online to VAT. And this new policy is draconian in that it will force every merchant to go to great lengths and keep extensive records for years, just to make sure the European beast gets fed. The new law regarding electronic services, which goes into effect in January, disallows producers of digital products like e-books, stock photos, or other products delivered via online download from paying VAT based on where they are located. For too long, the EU argues, businesses flocked to places like Luxembourg where they could pay low taxes and pass the savings on to their customers. It allowed the most competitive jurisdictions to thrive, while leaving countries like Hungary to whither on the vine. Now, in any sense of reality, politicians in high-tax countries would realize that lowering taxes would be the competitive way to attract business and turn the tables. Governments would compete for business rather than the other way around. However, in the bizarro world we live in, governments do not wish to be competitive. And so the European Union harnessed the power of its massive union to force businesses to collect data on their customers and pay VAT based on where their customer is accessing their services. That means if you’re a Luxembourg company selling to a guy in France, you’ll have to figure out how much tax to pay France, charge your customer accordingly, and remit to the French government. Ditto for the dozens of other jurisdictions that collect this sales tax in the EU. Even worse, the burden for determining where your customer accesses your product is entirely on you. There will be a few different tests to determine exactly where your customer is residing for tax purposes, and it is up to you as the online merchant to sleuth that information out. Don’t do it and you could get slapped with a big fine. Businesses of all sizes will have one of two choices: register themselves in every VAT-collecting country they do business in (a real pain), or sign up with a “Mini One Stop Shop” – a so-called “VAT MOSS” – to do it for them. Oh, and just to make sure that the government can come and easily find you if they want to fine you, it will be your obligation to store your proof of location for every single customer on a server located in the EU for ten years. At your expense, of course. That way, if some government needs to scrounge up cash, they can merely force a European web host under their control to turn over all VAT records and start scraping for pennies. Because this new law was written by bureaucrats, there was little thought given to how this would impact business or possibly even drive companies out of business. Just as restaurants recently protested against an EU proposal that would have forced them to label olive oils they claim would have driven them into bankruptcy, this new law does nothing to prevent small and micro businesses from getting the shaft. Even the liberal newspapers in London are suggesting thousands of sole traders and self-employed small business people could go under. The time and money compliance costs aside, anyone outside of the EU who chooses not to obey the rules will have an extremely unfair pricing advantage. Every single business must comply with the new standard involving registration or a “VAT MOSS”, including businesses NOT located in the European Union. If you sell digital goods or services to customers in the EU, it is your job to identify them, collect tax, and to pay your fair share to the proper authorities. Really. It doesn’t matter if you’re located in the United States, Hong Kong, or Cucamonga. The onus is solely on you. It’s just the latest example of how governments are shirking their self-appointed responsibility to know what’s going on onto businesses that can little afford it. Just trying to figure out what is taxable and what is not is a challenge. The new law requires products that are fulfilled automatically and downloaded over the web, like an e-book that you purchase, to be taxed at the source. However, products that are sold online but mailed, like our DVD set, do not have to be taxed. The law and others like it are so confusing that even companies like Google have started to pull resources out of Spain and possibly other EU countries. Now, some non-European payment processors have said they will not comply. However, this new law just goes to show that your merchant account may be your downfall in this case. As I always say, you can try and protest a law all you want, but if some big, necessary institution like a store or a bank decides to go along with the government to get along, you’ll still end up screwed. It’s why you don’t need a full-fledged gold confiscation to render your gold and silver unusable in your home country. The government could simply make it illegal for any person or company to trade in gold. In the same way, you could decide to object to this new law on the grounds that you have no business in the EU and only sell to random customers who visit your website. But if Stripe or Paypal decide to turn over everyone’s data to Big Government in Brussels, it won’t matter. This is why having an offshore merchant account and an offshore company in a low-tax, business-friendly jurisdiction is important. Ultimately, however, the time when you will be forced to choose whether selling to a certain group of customers is worth the hassle their government puts on you is worth it. I have a feeling several hundred million Europeans are about to realize what it feels like to be American.