The VAT Challenges Of Cross-Border Supplies
14 November 2013
Posted by: Author: Gerhard Badenhorst
Author: Gerhard Badenhorst (ENS Africa)
It is well-known that value-added tax ("VAT”) is a multi-stage tax, aimed at taxing consumption of goods or services in South Africa. A fundamental pillar of the VAT system is its credit mechanism that allows VAT registered businesses a deduction of the VAT they pay on expenses to avoid a cascading effect of the tax. Consequently, the burden of VAT falls on the final consumer. The mechanism of the VAT system works well where the VAT registered supplier and recipient reside in the same country, but poses a challenge where they are situated in different countries. Each country will impose their own VAT rules which could lead to double taxation or non-taxation of the supply.
Globalisation has boosted international trade and the growing supply of digital products has made it easier for businesses to be established in countries other than where their consumers are based. This has opened the door for establishing businesses in countries which operate a destination-based VAT system. Such systems tax goods or services in the country where they are consumed and assume that the supply will be taxed in the country of destination, but this may not always be the case. Multinational enterprises are therefore able to exploit the arbitrage between the VAT systems of countries, thereby minimising their tax burden and obtaining a competitive advantage.
The Organisation for Economic Co-operation and Development ("OECD”) recognised this trend and has recently published its Action Plan on Base Erosion and Profit Shifting. The OECD stated that the situation is critical for all parties concerned:
- Governments collect less revenue which impacts on economic growth;
- Individual taxpayers bear a greater tax burden; and
- Local businesses are harmed because they cannot compete with these multinationals.
From a VAT perspective the OECD action plan proposes a thorough analysis of business models in specifically the digital economy to ensure the effective collection of VAT and the introduction of international taxing rules.
South Africa also recognised the significant risks in respect of the cross-border supply of digital products by foreign multinational enterprises to South African consumers. These enterprises are not registered for VAT in South Africa and do not charge VAT. The Value-Added Tax Act, 1991 ("the VAT Act”) provides for the payment of VAT on the importation of services into South Africa, but exempts imported services with an invoice value of less than R100. For supplies exceeding R100, it is virtually impossible to collect VAT from individual consumers, thereby placing the foreign enterprise in a competitive advantage over local suppliers that must charge VAT. Consequently, a legislation amendment has been proposed from 1 April 2014 to oblige foreign suppliers of digital products to South African consumers in excess of R50 000 per annum to register and charge South African VAT. Although not without enforcement challenges, it is a move in the right direction.
It is, however, not only the cross-border supply of digital products that poses VAT challenges. In the recent case of Commissioner for SARS v De Beers (503/2011)  ZASCA 103 the Supreme Court of Appeal ("SCA”) ruled that services acquired by the vendor from foreign service suppliers comprised imported services on which VAT was payable. For a supply to comprise a taxable imported service, the service must be:
- supplied by a non-resident supplier; and
- utilised or consumed in South Africa; and
- acquired other than for a purpose of making taxable supplies.
Whether the service is supplied by a non-resident and if it is acquired to make taxable supplies is generally a question of fact. However, it is not always clear where the services are utilised or consumed, and the absence of "place of supply” rules from the VAT Act enhances this problem. In the De Beers case the SCA considered the services to be consumed in South Africa because De Beers was a South African company with its head office in Johannesburg, which was where the meetings were held to appoint the foreign suppliers. It was also where the board met to receive and approve the recommendations of the foreign suppliers and where the recommendations were implemented.
The place of consumption of a service rendered by a foreign supplier is not always easily determinable. Consider, for example, the following services:
Although the South African vendor may benefit from these services in South Africa, it is not the ultimate benefit that should determine the VAT status of the supply, but where the service is actually consumed. If a South African patient undergoes surgery in a foreign country, the cost of the surgery can surely not be taxed as an imported service simply on the basis that the patient ultimately enjoys the benefit of the surgery in South Africa.
- Legal services supplied by foreign attorneys regarding legal action in a foreign country or compliance with foreign legislation or regulations;
- Services rendered in respect of a listing on a foreign stock exchange; or
- Foreign banking and administration services supplied in respect of funds invested offshore.
Services Supplied to Non-Residents
In line with the destination based principles of the VAT Act, services which are rendered to non-residents may qualify for VAT at the rate of zero per cent in terms of section 11(2) (ℓ) of the VAT Act. The rate of zero per cent may, however, not be applied if the non-resident or any other person to whom the services are supplied is present in South Africa when the services are rendered. The zero rate may also not be applied if the services are rendered in respect of movable property which is located in South Africa hen the services are supplied, unless the movable property is exported from South Africa.
In the recent case of Master Currency v CSARS (155/2012)  ZASCA 17 the SCA ruled that the exchange of currency for a non-resident at the airside of customs at an international airport does not qualify for VAT at the zero rate because the non-resident is physically present in the "Republic” as defined in the VAT Act when the service is rendered. The SCA also did not accept the argument of the vendor that the service is rendered in respect of movable property (banknotes) which is exported from South Africa by the non-resident. The SCA ruled that the movable property must be exported by the supplier of the service for the zero rate to apply.
Master Currency argued in the alternative that its services qualified for the zero rate in terms of section 11(2)(g)(i) of the VAT Act, which provides for the zero rating of services supplied directly in connection with movable property situated in an export country. Master Currency contended that banknotes embody personal rights of payment of the face value to the bearer which rights are situated at their place of issue, i.e. in the foreign country. The banknotes therefore evidence movable property situated in the country where they were issued. The SCA held that banknotes cannot be regarded as promissory notes embodying an incorporeal right against the foreign issuing bank, and dismissed the arguments of the vendor. The High Court of Australia came to a different conclusion on a similar issue in Travelex Ltd v Commissioner of Taxation  HCA 33.
Supply of Goods
Where tangible goods are supplied, there is an assumption that the goods will be consumed where they are physically located when they are supplied. The VAT Act therefore allows for the application of the zero rate for goods exported from South Africa. The supplying vendor must, however, be able to substantiate that he has exported the goods from South Africa. The supporting evidence which the supplying vendor must obtain in this regard is prescribed by VAT Interpretation Note 30 ("IN 30”) and is strictly applied.
One of the requirements of IN 30 is that the exporter must obtain proof of payment for the supply of the goods within a period of three months or an extended approved period. If the proof of payment is not obtained within this period then the exporter becomes liable for the VAT. Consequently, if the foreign debtor defaults the exporter will not only bear the financial burden of the non-payment but will also be liable for the VAT even though the goods were duly exported. Where the goods are supplied to a foreign purchaser in South Africa who acquires the goods to export them from South Africa, the supplier is required to charge VAT at the standard rate. However, in line with the destination principle of the VAT Act, the foreigner can claim the VAT paid as a refund via the VAT Refund Administrator when the goods are exported. This is, however, an onerous process for businesses and significant delays are often experienced with the refund payments which also exposes the foreign business to currency exchange risks.
A regulation published in terms of the VAT Act, Government Notice 2761 of 1998, provides the supplying vendor with an option to apply the rate of zero per cent if the goods are delivered to a harbour or airport for exportation by the foreign purchaser. In these circumstances the supplier assumes the obligation to obtain the required proof of export, and also bears the risk of the VAT if the required proof is not obtained within the prescribed time periods. The South African Revenue Service (SARS) is currently reviewing the regulation, and is proposing to expand the option for the supplier to apply the zero rate for goods exported by road and rail as well, but only under very limited circumstances.
Importation of Goods
VAT is payable on the importation of tangible goods into South Africa by the importer. The importer may claim the import VAT as a deduction if he is registered for VAT and acquires the goods for making taxable supplies, but SARS requires that the importer must be the owner of the imported goods. SARS’ view is that the import VAT does not qualify as a deduction if the importer does not own the goods even if they are used to make taxable supplies. SARS considers the word "acquire” in the definition of input tax in the VAT Act to mean acquiring ownership of the goods.
Where the importer is a non-resident and not VAT registered, the importer cannot claim the import VAT and the purchaser may suffer the additional cost. The non-resident supplier will include the non-deductible import VAT in the selling price, which VAT is not deductible by the purchaser. To avoid the cascading effect this may cause, section 54(2A) of the VAT Act allows an import agent to claim the import VAT as a deduction, and section 8(20) then requires the agent to levy VAT on the delivery of the goods to the South African recipient. The purchaser may then claim the VAT based on the agent’s tax invoice. The VAT implications and the VAT status of cross-border supplies of goods and services should be carefully considered to avoid any non-deductible VAT cost and to ensure compliance with the VAT Act. The introduction of "place of supply” rules into the VAT Act will certainly assist to provide more clarity regarding the VAT status of cross-border supplies, particularly cross-border services.
This article was first published in Taxtalk magazine - November/December