The question arises whether it is worthwhile to include large numbers of small businesses into a VAT while they generate only a fraction of the revenue. Including small traders in a VAT would only be rational if the value of the use to which the (additional) revenue is put is equal to or exceeds the amount of tax raised plus the administrative and compliance costs.
Or, approached from the opposite angle, the decision whether to exclude small traders from the scope of VAT should depend on the outcome of a calculation consisting of revenue loss for the government on the one hand and reduction of administrative costs for the taxing authority and compliance costs for taxpayers on the other hand.
An important element to take into consideration are the resources and skills available to the tax authorities. Where these are limited, as is the case in many developing countries, the logical choice would be to concentrate on larger businesses.
A related issue is the capacity of the taxpayers to fulfil their compliance obligations under a VAT.
The threshold will depend on both the administrative and compliance capacity.
Views differ strongly as to the appropriate level of the VAT registration threshold. On the basis of previous research and with corrections for inflation, some scholars have suggested a registration threshold of about $100,000 in annual gross sales.
Most countries have introduced a threshold into their VAT legislation, which varies from zero (for example in Belgium, Chile, Hungary, Italy, Korea, Mexico, the Netherlands, Portugal, Spain, Sweden and Turkey) to more than $600,000 (in Singapore).
Even within the harmonized VAT system of the common EU market, thresholds vary significantly (for example, €8,500 in Finland, €15,000 in Belgium, €30,000 in Austria, and about €100,000 in the UK), indicating the widely different views lawmakers hold regarding the correct level of the threshold.
Businesses with annual turnover below the threshold should be allowed to register voluntarily to allow them to charge VAT and recover input tax when that is more beneficial for them, for instance, when they primarily sell to other registered businesses or are involved in zero rated export sales, or other sales at preferential rates. Without this option, competitive distortions may occur.
The Framework Agreement sets the threshold for mandatory registration at SAR375,000 or equivalent in local currency, which is about $100,000.
Traders who exceed the annual revenue threshold but make only zero-rated supplies have the right to request to be excluded from registration, which is a sensible provision.
Voluntary registration is possible for GCC-resident businesses as long as annual turnover is not less than 50 per cent of the threshold amount (SAR162,500 or $50,000).
For example, a Saudi company doing business in the UAE may voluntarily register as long as its annual turnover is equal or more than the reduced threshold.
However, an Indian company would not be able to register in the same circumstances.
In addition, each member state has the discretion to allow registration for businesses, not already obliged to register under the main rule, whose annual expenses exceed the voluntary threshold under conditions and rules to be determined by each member state.
There are no restrictions here in terms of residency. This is a good measure, in my view, as it would allow in particular start-up companies facing high investments and still generating only low sales to recover the input-VAT.
Dr Robert F van Brederode is of counsel to Horwath Mak Ghazali in Oman. He is a tax lawyer, practitioner and scholar with over 30 years of experience in global VAT.
He served Crowe Horwath International as the global indirect tax leader, and was the national practice leader of the US member firm.
DR ROBERT BREDERODE
Robert is the author of dozens of academic journal articles and 8 books. He can be reached at Robert.firstname.lastname@example.org.