Understanding VAT in the European Union
What is VAT?
Value Added Tax (VAT) is a consumption tax levied on goods and services at each stage of production and distribution. Unlike sales tax in the US, VAT is built into the displayed price, making it transparent to consumers.
How VAT Works
Businesses collect VAT from customers and remit it to the government, but they can reclaim VAT paid on business purchases. This creates a "value-added" tax system where each business only pays tax on the value they add.
Example
- Manufacturer: Sells to retailer for €100 + €20 VAT = €120
- Retailer: Sells to customer for €150 + €30 VAT = €180
- Retailer remits: €30 collected - €20 paid = €10 to government
- Total VAT: €20 (manufacturer) + €10 (retailer) = €30 (20% of final price)
VAT Rates Across EU Countries
| Country | Standard Rate | Reduced Rates |
|---|---|---|
| Hungary | 27% | 18%, 5% |
| Denmark, Sweden | 25% | 0% (limited) |
| Greece | 24% | 13%, 6% |
| Ireland, Poland, Portugal | 23% | 13.5%, 9%, 0% |
| Italy | 22% | 10%, 5%, 4% |
| Spain, Netherlands, Belgium | 21% | 10%, 4% |
| France, UK, Austria | 20% | 10%, 5.5%, 2.1% |
| Germany, Romania | 19% | 7% |
Reduced VAT Rates
Most EU countries apply reduced VAT rates to essential goods and services:
- Food & Beverages: Often 5-13% (varies by country and product)
- Books & Newspapers: 0-10% in most countries
- Pharmaceuticals: Reduced or zero-rated
- Medical Services: Often exempt or zero-rated
- Education: Typically exempt
- Hotel Accommodation: Reduced rate in many countries
VAT vs Sales Tax
VAT Registration Requirements
Each EU country has different VAT registration thresholds:
| Country | Annual Threshold |
|---|---|
| UK | £90,000 |
| Germany | €22,000 (small business) / €50,000 |
| France | €36,800 (goods) / €23,700 (services) |
| Spain, Italy | No threshold (register immediately) |
| Netherlands | €20,000 per year |
| Ireland | €40,000 (goods) / €37,500 (services) |
Reclaiming VAT on Business Expenses
VAT-registered businesses can reclaim VAT on purchases used for business purposes:
- Fully Reclaimable: Office supplies, equipment, services for business use
- Partially Reclaimable: Vehicles used for business and personal use
- Not Reclaimable: Entertainment expenses (in most countries), personal expenses
- Documentation: Must have proper VAT invoices with supplier VAT number
Cross-Border VAT Rules
B2B (Business-to-Business)
The "reverse charge" mechanism applies: Seller doesn't charge VAT, buyer accounts for VAT in their country.
B2C (Business-to-Consumer)
- Distance Selling: €10,000 annual threshold (2021 OSS rules)
- Above Threshold: Must register and charge VAT in customer's country
- One Stop Shop (OSS): Simplified system to declare VAT for all EU countries
💼 Business Tip
If you're starting a business in the EU, register for VAT voluntarily even below the threshold. This allows you to reclaim VAT on startup costs like equipment, office furniture, and professional services, providing immediate cash flow benefits.
VAT Return Filing Frequency
- Monthly: Large businesses (varies by country)
- Quarterly: Most common for small-medium businesses
- Annually: Very small businesses in some countries
- Deadlines: Typically 1 month after period end
Common VAT Mistakes to Avoid
- Not registering on time: Penalties and back-payments
- Incorrect rate application: Using standard rate for reduced-rate items
- Missing invoices: Can't reclaim VAT without proper documentation
- Flat rate scheme errors: Not calculating correctly for flat rate schemes
- Cross-border mistakes: Applying wrong country's VAT rate
Brexit and VAT
Post-Brexit, UK VAT rules changed for EU-UK trade:
- UK to EU: Treated as exports/imports (not EU internal trade)
- Customs Declarations: Required for all shipments
- VAT Registration: May need to register in EU countries
- Threshold: No distance selling threshold - register from first sale