What is a VAT?

VAT (or value added tax) is a type of indirect consumption tax imposed on the value added to products or services, specifically during different stages of the supply chain. A supply chain may include legally separate entities involved in production, wholesale, distribution, supply, or any other stages that add value to a product.

A VAT is commonly used by governments around the world as one of their main sources of revenue. It’s not to be misunderstood as a corporate tax. VAT does not tax you as a business, but your customer. You are in effect the middleman who collects tax on behalf of the tax administrations. Failure to report and pay VAT may therefore result in heavy penalties.

All member states that are part of the European Union (EU) are legally required to enforce a standard VAT rate of not less than 15%.

Do I need to charge VAT?

EU member state governments want to ensure that they receive taxes on all goods and services consumed by their citizens. Physical products are taxed at customs. Digital products don’t cross any borders to pass through customs, so you are made responsible to charge the applicable VAT.

As a supplier of electronically supplied services (i.e. digital products) to EU customers, you’re responsible for applying, collecting and remitting VAT to the individual 28 member states at their various VAT rates (Article 196 VAT Directive). It is regardless whether you are supplying goods and services from within or from outside the EU.

What are digital products?

The digital market is full of virtual products that you can’t feel, carry, or package in a box. These are the digital products. The European Commission calls them electronically supplied services and defines them as “services which are delivered over the Internet or an electronic network and the nature of which renders their supply essentially automated and involving minimal human intervention, and impossible to ensure in the absence of information technology.”

Certain digital products can be eligible to a reduced VAT rate in some EU countries. Here are examples for common digital products:

  • E-books, audiobooks, stock photos, movies, and videos, whether buying a copy off of Amazon or using a service like Netflix. In tax language, these products are in a category usually called, “Audio, visual, or audio-visual products.”
  • Cloud-based software and as-a-Service products, such as Software-as-a-Service (SaaS), Platform-as-a-Service (PaaS), and Infrastructure-as-a-Service (IaaS).
  • Downloadable and streaming music, whether buying an MP3 or using a service like SoundCloud or Spotify. Of course, these products also fall in the audio category.
  • Websites, site hosting services, and internet service providers.

When should I charge VAT on digital products?

It depends on where you and your customer are located. We’ve written a comprehensive overview of the VAT rules. A business customer is exempt under a reverse-charge mechanism, but you are responsible for validating their VAT number first.

In particular, a business must register for VAT in the following cases:

  • carries out the supply of goods or services taxed with VAT
  • transacts goods from one EU member state to another EU member state
  • receives services for which it is liable to pay VAT (Article 196 VAT Directive)
  • supplies services for which the customer is liable to pay VAT (Article 196 VAT Directive)

Do I need to issue an invoice?

EU regulations state that you need to issue an invoice either electronically or on paper whenever you supply goods, render services, or receive payment on account. If you’re issuing electronically, make sure to let the customer know in advance that you won’t be sending a hard copy.

If you are registered for VAT MOSS (Mini One Stop Shop), you’re required to keep records for ten years. The MOSS service is for businesses that sell digital products to customers in the EU.

Are there exceptions to charging VAT?

When you make a sale to a customer in the EU, request the customer’s VAT number. Most businesses (or individuals carrying out an economic activity) will have one, private individuals will not. Some buyers may try to pretend they’re a business just to avoid the tax charge, so they’ll submit a dummy VAT number. Check to make sure each VAT number is valid. You can use Vatstack Validations to automate checks during online payment.

If your customer owns a valid VAT number, you’re exempt from charging VAT in intra-community (EU) and cross-border (international) supplies. The transaction is covered by the reverse charge mechanism. With the reverse charge mechanism, the buyer is responsible for filing VAT on the transaction.

Do you offer something easier for small businesses?

We understand that the VAT rules are a headache for small businesses. We’ve centralized everything we know about VAT-compliance to save you a vast amount of your valuable time with our Quotes feature.

Quotes are used during your customer’s checkout process and dynamically adapt to the circumstances between your business and your customer. Configure a few tax treatment settings in your dashboard and you’re good to go.