Mon. Jul 15th, 2024

EP Committee on Economic and Monetary Affairs

MEP Olivier Chastel







In line with its responsibilities under Article 14 TFEU, the European Parliament has sought to assess the application and implementation of the ‘Sixth Council Directive 77/388/EEC of 17 May 1977 on the harmonisation of the laws of the Member States relating to turnover taxes – Common system of value added tax: uniform basis of assessment’, the so-called ‘6th VAT Directive’.

For the drafting of this implementation report, a key source of mainly ‘empirical’ data was a study assessing the directive carried out by DIW Econ, with the support of EPRS.

That study, which also included a detailed review of the literature, launched a reflection on the following issues identified as priorities:

  • VAT rates, tax bases and VAT gaps in EU Member States;
  • The impact of the diversification of reduced VAT rates on businesses;
  • The impact of reduced VAT rates on consumers and on social and environmental objectives.
Scope of this implementation report

As far as possible, this report assesses the implementation of the transposition of the 6th Directive, as recast in Council Directive 2006/112/EC of 28 November 2006, with a view to drawing conclusions and exploring some ideas for improving its application. It also aims to analyse the VAT gap between Member States.

The VAT gap is the difference between expected VAT revenues and VAT actually collected. It provides an estimate of the revenue foregone not only as a result of tax evasion and avoidance, but also bankruptcies, insolvency and calculation errors.

According to a report on the VAT gap published by the Commission in September 2020, Member States recorded a loss of VAT revenue estimated at EUR 140 billion, which represents a total EU-wide loss of revenue of 11%. The impact of the COVID-19 pandemic, including reduced consumption and an increase in bankruptcies, has seen the forecasts for 2020 being revised upwards, with a potential loss of EUR 164 billion, or 13.7%.


The purpose of the Sixth VAT Directive of 17 May 1977[1] was to achieve a uniform basis of assessment to which harmonised rates were to apply. The aim was to abolish fiscal borders and controls at internal borders for all operations carried out between Member States with a view to the completion of the internal market on 31 December 1992.

When these fiscal borders between Member States were abolished at the end of 1992, a transitional VAT system was adopted on 1 January 1993, owing to a lack of political will and for technical reasons. During the transitional period, it was decided to tax intra-Community transactions carried out by taxable persons other than exempt taxable persons in the Member State of destination

For the sake of clarity, rationality and transparency, the Sixth Directive and its amendments were incorporated and recast in a single text[2] as Council Directive 2006/112/EC of 28 November 2006 on the common system of value added tax (the VAT Directive), which is currently in force.

The recast of the 1977 directive retained all the legal provisions of the Sixth Directive, but also incorporated VAT provisions from other directives and reorganised the text to make it more readable.

As the cornerstone of the existing EU VAT framework, this directive (2006/112/EC) provides for the transitional rules to be replaced by a definitive regime, but based on the taxation in the Member State of origin of the cross-border supply of goods and services. However, in its Communication of 6 December 2011 on the future of VAT – Towards a simpler, more robust and efficient VAT system tailored to the single market, the Commission acknowledged that it was no longer realistic to apply the origin principle and that the destination principle was politically more achievable. This position was supported by Parliament in its resolution of 13 October 2011 on the future of VAT[3].

A substantial revision of Directive 2006/112/EC was launched back in 2016 to update the EU VAT system and make it less vulnerable to fraud, including the ‘Action Plan on VAT, Towards a Single EU VAT Area – Time to decide’ of 7 April 2016. The proposal for a Directive of 25 May 2018 amending Directive 2006/112/EC laying down detailed technical provisions necessary for the operation of the definitive VAT system for intra-EU business-to-business trade in goods complements Council Directive 2018/1910 of 4 December 2018[4], which laid the foundations for the definitive VAT system for cross-border business-to-business (B2B) trade in goods by providing detailed technical measures to enable a definitive VAT system to be established for B2B transactions in goods.

The proposal for a Directive of 25 May 2018 on cross-border trade is therefore part of the process of change with a view to establishing the single EU VAT area. This process also includes two other proposals for amendments to the VAT Directive concerning the VAT rate[5] and the special scheme for small enterprises[6]. Directive 2006/112/EC has also been subject to a series of amendments, some of which concern the COVID-19 pandemic and Brexit[7].

The future VAT system based on the destination principle, as proposed by the Commission but not yet adopted by the Council, aims to give Member States some flexibility in setting VAT rates and maintaining existing reduced rates. However, Member States should not overlook the priority objective of ensuring greater convergence of VAT rates. Reduced rates should therefore remain an exception to the standard rate, ‘in order to avoid disproportionate fragmentation of the VAT system within the internal market’.

In its note of 4 June 2021 to the Permanent Representatives Committee (COREPER), the Council Secretariat provided a detailed analysis of the progress made since 2018, setting out the main outstanding issues[8]. Those outstanding issues were submitted to the Ecofin Council for political guidance on 18 June 2021.


Directive 2006/112/EC has been continuously improved to broaden its scope. The EU’s transitional VAT system for intra-Community transactions is complex, weak in dealing with tax fraud – in particular so-called ‘carousel’ fraud (or missing trader intra-Community fraud)[9], the most widespread form of VAT fraud – and unnecessarily creates significant risks for businesses.

In order to meet the challenges of the globalised, digital and mobile economy, the European Union needs a simple, transparent, efficient, improved and modernised VAT system, taking into account the importance of maintaining its competitiveness, adapted to the internal market and fraud-proof. Such a system is essential in order to gain the support of citizens and businesses and to assure them that their money is being used properly.

It is time to move towards a definitive VAT system, i.e. a simple system that is fraud-proof and flexible enough that it can be adapted to developments in technology and trade, based on the principle of taxation in the country of destination whereby VAT on business-to-business transactions is levied on the basis of the customer’s country of residence, and VAT upstream can be recovered in the country in which it is paid.

The in-depth literature on VAT systems and their effects in the EU Member States furnished by the DIW Econ study backs up our desire to call on the Council to adopt the proposal for a directive of 25 May 2018, as adopted by Parliament on 12 February 2019. The study sets out the main findings on the variation in VAT rates, on tax bases and VAT gaps, on the impact on businesses and consumers of the diversification of reduced VAT rates, and the impact of reduced VAT rates as a potential tool with which to achieve social and climate goals within the European Union.

Noting the many differences in VAT systems and, consequently, in VAT gaps and conformity costs, the study lists the advantages of convergence in order to further narrow the standard rate band by rationalising reduced rates and exemptions. Working towards a uniform VAT rate would make it possible to cut the standard rate by as much as 7%, reduce the compliance costs which overburden SMEs disproportionately and, lastly, cut fraud, which places a heavy burden on public funds and consumers and also affects the EU’s financial interests since VAT is the EU’s second biggest own resource. A system like this – simpler (currently there are over 250 exemptions and reduced rates in the EU) and more transparent, based on close collaboration between Member States and their sharing of information and best practices in line with the subsidiarity principle – would make the internal market function better. The current list of reduced rates and exemptions must be rationalised if the EU wants to have the efficient internal market that is so vital to economic recovery. An analysis examining harmonisation of reduced rates could also be worthwhile.

The study notes that the VAT gap, measured as the difference between the amount of VAT actually collected and the total VAT due to be paid, was around 10% on average in the EU27 in 2019, whereas in 2009 it was 20%. Nonetheless, the study notes yet again that the size of the VAT gap varies considerably between Member States, ranging from 33% in Romania to 1% in Sweden and Croatia.

Tax costs for businesses involve more than just the tax actually paid as compliance costs must also be included. Special attention must be paid to SMEs, the backbone of the EU economy. They are overburdened to an excessive degree, particularly because compliance costs are fixed in most cases. Experts estimate total costs account for 1% to 4% of turnover, which is substantial. While digitisation can help cut costs, it imposes a burden in the short term on businesses, and particularly SMEs, as they must acquire the latest technology and know‑how. Looking ahead, the Member States will need a harmonised IT system.

The diversification of VAT rates creates a fragmented internal market, distorting it by fostering unfair competition within the EU’s internal market, increasing the compliance burden, damaging competition, encouraging the exploitation of cross-border price differences by shifting consumption to Member States with lower VAT rates, and by distorting the collection of revenue by governments. Diversified VAT systems can also create an uneven playing field for competition with third countries and distort prices, thereby distorting international trade. This is why the principles of transparency, good governance and information-sharing must be adhered to as a VAT system that works is a system that does not impact on trade.

Lastly, the study states that since reduced rates only have a slight and temporary knock-on effect on prices their impact on consumers and on the achievement of social and environmental goals is limited. Other factors, such as price elasticity of demand, must be taken into account. To be effective, reduced rates in this context, which constitute significant costs for governments on account of the erosion of the tax base, must, in addition to being wholly or partially passed on through the lower price paid by the consumer, be coupled with other initiatives such as tax credits and direct subsidies which have the advantage of targeting the consumer or the entrepreneur directly. Reduced rates do not target the poorest households and as such have less of an effect than hoped for as regards achieving social and environmental goals. They create a mechanical loss which can be as high as 22% of total domestic revenue from VAT, and generate higher compliance costs and more risks of VAT fraud. Experts have noted in fact that the reduction in VAT during the COVID-19 pandemic did not have the impact on consumption hoped for because businesses, anticipating this increasing their profit margin, did not lower their prices. What must serve as our compass and guide our decisions is the opportunity cost. Instead of lowering VAT, where the benefit to producers or consumers is determined by the volume involved, we should ask ourselves whether lowering other taxes that have a more beneficial effect in terms of the environment, justice, employment promotion or stimulation of the local economy offers a better opportunity. In addition to direct incentives, information campaigns and promoting merit goods, particularly to achieve environmental goals, must be regarded as a viable alternative to reduced VAT rates.

With environmental policy becoming ever more important, this study has the merit of opening up avenues for future research.

There is a pressing need to limit the VAT gap between Member States in the context of the economic recovery in order to curb the socioeconomic crisis following the COVID-19 pandemic. This gap can be reduced by simplifying the VAT implementation system and combating fraud, thanks in particular to digitisation, which enables both governments and businesses to take action in real time. The Recovery and Resilience Facility (RRF), which emphasises unity and solidarity, must help Member States to develop a more productive, inclusive and innovative economy focused on environmental and digital transition. Proper funding of VAT will help with repayment of debt. The post-COVID-19 economic recovery is a chance for change to fairer, greener and better targeted taxation systems.

© European Union, 2021 – EP

Source: REPORT on the implementation of the Sixth VAT Directive: what is the missing part to reduce the EU VAT gap? – A9-0355/2021

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