Value-added tax (VAT) is a somewhat familiar topic, yet very few people seem to know precisely what it is, or how to approach it in terms of employee expense reports.
We therefore want to help demystify the topic, with answers to frequently asked questions.
So what is VAT? Is it just something like international sales tax?
Not really. It’s a system of taxation employed by 166 countries (notably, not by the United States) around the world that spreads taxation across the many layers of production, not just the end consumer.
For example, let’s say you buy a pair of socks from Target for $10 dollars; you’re going to pay all the sales tax for that transaction—around a dollar for the $10 purchase from the retailer. This is how it works in America, with sales tax.
With the VAT system, that dollar of tax is sprinkled throughout the chain of sock production. The cotton company might pay a farmer 20 cents of VAT for the 2 dollars of cotton it buys to first develop the socks. Fruit Of The Loom would then pay 20 cents of VAT for the 2 dollars of synthesized cotton it subsequently buys from the cotton company, and so on up the supply chain to Target. The Target shopper would therefore only pay 20 cents of tax for the two dollars of Target profit margin.
The theoretical upshot is that less sales tax burden is placed on the consumer, who is already of course paying income tax.
Should my company allow employees to expense VAT?
Almost always yes. It is a form of sales tax, and if an employee is laying out the VAT expenses for the company, he/she should certainly be reimbursed assuming sales tax reimbursement is company policy.
It gets more complicated for multinational companies when mid-chain buyers and suppliers enter into the VAT system for the first time; in those cases, companies should fall back on accepted best practices for helping employees expense VAT charges. In other words, your company might see tax charges on B2B transactions that it’s not used to seeing.
There are simple procedures and line items one can add to make sure your company is compliant and paying back employees for VAT expenses in an above-board manner. Oracle has some good specific guidelines on setting up your expense report forms to accommodate VAT items.
What sort of VAT misconduct should employers look for on expense reports?
A common impropriety is double billing for tax: sales tax and VAT. An example would be an employee goes out for a $30 dinner and claims he spent $3 dollars on sales tax and another $2 on VAT, when he in fact only one of those taxes was assessed. Of course, the numbers can scale up.
VAT, by its multinational nature, is also inherently less easy to police than, say, California state sales tax. It can therefore be used as a bargaining chip by opportunistic elements of the supply chain. As an incentive to do business, a vendor could offer no VAT or (more commonly) bake the VAT into a discounted total. Mistepping employees could turn around an expense the full amount plus VAT, or just generally be opaque about its presence in the transaction while reporting full costs and taxes.
Conceptually, VAT is a small tax break for citizens, shifting some of the financial burden of sales tax to companies and corporations throughout the production cycle. Despite its good intentions, it adds a layer of complexity to back office reporting that sometimes manifests itself in employee fraud—as a tool for extracting more money from employers via expense reports.
Are you worried your company is losing T&E spend to VAT expense report fraud? AppZen can help. Get started today.