Richard Cornelisse

VAT Throughput – Calculating The Taxes

In Indirect Tax Strategic Plan, US VAT introduction, VAT planning on 05/03/2012 at 4:49 pm

By Richard Cornelisse and Kelvin Hulsebos

The Blog Of February 23 summarized and categorized benchmark findings to the building blocks of an Indirect Tax Strategic Plan. Today we like to focus on two of the findings:

  1. Executives frequently perceive VAT/GST a low risk because the flow of taxes is similar to a “cash in and cash out”
  2. Measuring risks is often based on the balance between output VAT and input VAT and not on the total amount of VAT/GST throughput

The findings are not a surprise as often the question is asked what risk management even has to do with VAT/GST. The reasoning behind this question is that VAT/GST are typically neutral for fully taxable businesses: “a cash in and cash out”.

However, from “The European Union VAT System – Highlights” follows that input VAT deduction and output VAT has to be managed separately to avoid substantial VAT assessments, penalties and interest payments. It is risky business to monitor only the balance between output VAT and input VAT.

Neutrality can only be achieved – better is the word earned – if certain formal and material requirements are met.

A clear view on the VAT throughput of the organization is conditional for the right way to manage risks: what is roughly the amount of VAT/GST “at risk” that must be actively managed as it flows through the business?

Insight in the amount of VAT that globally has to be paid or recovered is important for creating proper internal awareness (top down, peers and bottom up), determining the risk appetite of the company and monitor as indirect tax function trends and changes. Throughput gives some insight where the scarce resources of the tax function should focus on (See “Managing The Perception Of  C-level“).

Calculating the taxes: where VAT/GST impacts

A simplified calculation first – a company with annual (non US) purchases of EUR 400m and (non US) sales of EUR 600m has to manage a total VAT throughput of EUR 200m every year, using an average VAT rate of 20%

VAT/GST is often material as a small error margin (take 1% or even lower) in relation to the VAT throughput involves substantial amounts and could even have impact on shareholder’s value. As said such a VAT throughput can support discussions about the maximum level of risk appetite the company is willing to take in the worst case scenario and facilitate in setting the right priorities together (See “Managing The Perception of C-level“).

A throughput estimation can be made on the consolidated financial statements (either annual reports or 10K filings) to give insight of the amount of VAT/GST that needs to be managed. More closer to reality is achieved by including the throughput with inter-company transactions (high level of risk transactions!) and delete salary and wage costs as these are not subject to VAT.

Throughput And Benchmarking

If throughput is important, is it common practice to monitor this?

“There were 124 respondents to the survey from 7 countries. Seventy-six percent of respondents have turnover in excess of $ 1 billion and at least 30 percent have turnover in excess of $ 20 billion. Half of the respondents believe their total VAT/GST throughput is below $ 5 billion, with the remainder roughly evenly split between either over $ 5 billion or don’t know” KPMG 2011 Benchmark Survey

This survey shows that many did not know their own VAT throughput.

Increase Of VAT Rates And VAT Throughput

What is the effect of increasing VAT/GST rates on this “VAT throughput”?  Governments increase the VAT rates to balance their budget. More VAT/GST in the system equates to more tax authority scrutiny and higher penalties for errors – the greater the amount of tax in the system, the greater the tax risk. Could be that an update of the tax risk register and tax risk evaluation is necessary.

Richard Cornelisse is CEO of the KEY Group and worked previously as Big4 Partner in the Tax Performance Advisory and Indirect Tax Practice and blogs on Tax Function Effectiveness and Tax Control Framework developments.

 

  1. […] Blogs pop up. What is the risk appetite of the company in the worse case scenario, What is the VAT throughput? What are risky transactions (being material or not). What needs to be done to manage these […]

  2. […] From ”VAT Throughput – calculating the taxes“ (by Richard Cornelisse): Insight in the amount of VAT that globally has to be paid or recovered is important for creating proper internal awareness (top down, peers and bottom up), determining the risk appetite of the company and monitor as indirect tax function trends and changes. Throughput gives some insight where the scarce resources of the tax function should focus on. […]

  3. […] VAT Throughput – Calculating The Taxes « Tax Management Consultancy. Category : […]

  4. […] local VAT legislation still differs substantially. Contrary to US Sales and Use Taxes, VAT is a multi-stage tax which is chargeable in every leg of the supply chain. As a general rule, a supply is subject to […]

  5. […] local VAT legislation still differs substantially. Contrary to US Sales and Use Taxes, VAT is a multi-stage tax which is chargeable in every leg of the supply chain. As a general rule, a supply is subject to […]

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