EU import VAT Fraud: Loopholes and the need for reform

European Court of Auditors: deferred import VAT regime exposed to VAT fraud

The European Court of Auditors (ECA) has issued a report highlighting major VAT revenue losses due to weaknesses in member states’ import VAT rules. This is in the context of the EU VAT Gap, which now stands at €89 billion per annum.

Import VAT and Simplified Customs Procedures

When goods enter the EU customs union, VAT is due at the point of import. The tax is calculated based on the customs declaration of the imported goods. To facilitate trade, the EU has implemented two key simplified import customs procedures:

1. Customs Procedure Code 42 (CP42): This allows for VAT exemption on goods imported into one EU member state but destined for another. It is primarily used for intra-community business-to-business (B2B) trade.
2. Import One Stop Shop (IOSS): This special e-commerce scheme applies to business-to-consumer (B2C) goods imported from third countries. It simplifies VAT collection for online retailers selling goods valued under €150 to consumers within the EU.

Both procedures are widely used, with 16.7 million import operations conducted under CP42 and 2 billion under IOSS in 2023. However, they also present significant risks for abuse, as highlighted in the European Court of Auditors (ECA) report covering the period from 2021 to May 2024. The report examined the regulatory framework, monitoring by the European Commission, member states’ controls, and administrative cooperation mechanisms.

Findings of the ECA Audit

1. Loopholes and Regulatory Inconsistencies

The audit found that the EU’s financial interests are inadequately protected against VAT fraud when simplified import customs procedures are used. Weaknesses and inconsistencies in the regulatory framework allow for significant abuses. CP42, in particular, enables traders to manipulate VAT exemptions by exploiting differences in national regulations.

2. Weak Member State Controls

Member states’ control mechanisms were found to be insufficient in preventing fraudulent activities. The identity of VAT number holders is often not thoroughly verified, allowing non-compliant traders to exploit CP42. Moreover, there is no systematic cross-checking of customs import data against recapitulative statements. The lack of transport evidence checks at both the clearance stage and post-release further exacerbates the risk of fraud.

3. Inadequate Administrative Cooperation

A major issue identified in the audit is the lack of cooperation between member states and EU bodies. The exchange of information among tax and customs authorities remains inefficient, making it difficult to track fraudulent activities across borders. This gap in coordination allows non-compliant traders to move goods across the EU while avoiding VAT payments.

4. IOSS Data and Fraudulent Use

The report also found that IOSS data is often unreliable and incomplete. Many member states fail to verify whether businesses meet the conditions for using IOSS. Among the five countries examined (Belgium, France, Ireland, Italy, and Slovenia), only Belgium has developed a risk and control strategy to address IOSS-related fraud.

Recommendations for Improvement

The ECA put forward several key recommendations to enhance the effectiveness of the EU’s VAT fraud prevention measures:

1. Strengthen the Regulatory Framework: The European Commission should propose reforms to create a more consistent regulatory framework across member states.
2. Conduct a Detailed Analysis: A thorough review of the existing VAT regulations and their implementation is necessary to identify gaps and areas for improvement.
3. Require Transport Evidence for CP42: Mandating member states to systematically require transport evidence for CP42 consignments would help verify that goods have actually reached their intended destination.
4. Enhance Cooperation Between Authorities: The ECA recommends that customs and tax authorities of different member states work directly together and that the role of Eurofisc—the EU network for combating cross-border VAT fraud—be strengthened.

The Commission’s Response

The European Commission welcomed the ECA’s findings and reiterated its commitment to tackling VAT fraud. As part of its “VAT in the Digital Age” (VIDA) directive and ongoing customs reforms, the Commission is considering implementing new measures, such as standardizing the appointment of tax representatives and improving the verification of VAT identification numbers. However, resistance from member states remains a challenge, particularly regarding proposals that could be perceived as infringing on national tax sovereignty.

Examples of EU Countries Offering Deferred Import VAT Schemes

Several EU member states have implemented deferred import VAT schemes to help businesses manage cash flow more effectively and reduce the risk of fraud. These schemes allow importers to defer the payment of VAT until their periodic VAT return, rather than paying it upfront at the time of importation.

1. Netherlands – Article 23 License:
   • The Dutch import VAT deferment scheme (Article 23) allows businesses to report and pay VAT on their periodic VAT return instead of at customs clearance.
   • Foreign businesses can access the scheme by appointing a fiscal representative in the Netherlands.
2. France – Automatic Import VAT Deferral:
   • Since January 1, 2022, France has made import VAT deferral automatic. VAT is accounted for via the reverse charge mechanism, eliminating the need for upfront payment.
   • The VAT due is pre-filled on the importer’s VAT return, making compliance easier and improving cash flow.
3. Germany – Deferred Import VAT Accounting:
   • Germany allows businesses to defer import VAT under specific conditions.
   • Some businesses may be required to provide a bank guarantee to access the scheme, ensuring compliance and mitigating fraud risks.
4. Belgium – VAT Deferral License (E.T. 14.000):
   • Belgium offers a deferred import VAT payment scheme through an authorization known as E.T. 14.000.
   • This scheme allows businesses to postpone import VAT payment to their periodic VAT return without needing to pay a guarantee.
5. Slovenia – Import VAT Deferral Scheme:
   • Since July 1, 2016, Slovenia has allowed businesses to defer import VAT payment until their next periodic VAT return.
   • The VAT payable is reported in the same return, typically allowing for immediate deduction and avoiding cash flow disruptions.

Conclusion

The findings of the ECA audit underscore the urgent need for reform in the EU’s VAT framework. Simplified import customs procedures such as CP42 and IOSS, while beneficial for trade, present significant risks for fraud due to regulatory loopholes, weak national controls, and inadequate administrative cooperation. To combat VAT fraud effectively, the European Commission and member states must implement the ECA’s recommendations, including strengthening the regulatory framework, enhancing cross-border cooperation, and requiring more stringent verification measures.

Deferred import VAT schemes in countries like the Netherlands, France, Germany, Belgium, and Slovenia demonstrate how member states can manage VAT collection more efficiently while reducing fraud risks. However, harmonizing such schemes across the EU and improving enforcement measures remain critical challenges.

By addressing these issues, the EU can strike a better balance between facilitating trade and protecting its financial interests, ensuring a fairer and more transparent tax system for all member states.