Value Added Tax (VAT) in GCC countries

Value Added Tax (VAT) has been the topic of discussion in the region of late, due to the proposal by the Gulf Cooperation Council (GCC) Governments to introduce this indirect tax law shortly in the region.  In December 2015, finance ministers of the GCC states agreed on key issues in implementing a VAT system in the Gulf region. In January 2016, following a financial meeting of the GCC states in Abu Dhabi, a senior official of the United Arab Emirates’ (UAE) Ministry of Finance confirmed that VAT will be implemented in the GCC states in 2018 and that the UAE will affect its VAT system on 1 January 2018. Following a meeting of the ministers of finance of the GCC states in Jeddah, Saudi Arabia in June 2016, the Minister of Finance of the Kingdom of Bahrain announced that the council has agreed on certain procedural aspects relating to the implementation of VAT in the Gulf States. VAT will be implemented in the GCC states during the period from January 2018 to January 2019; it should however, be a practical concern for all businesses impacted well before the time its implemented. 

Put simply, VAT is an indirect tax imposed by the Government and ultimately borne by consumers of goods and services and collected by businesses on behalf of the Government. Each business charges its customers a VAT on its sales and routes all VAT collections to the Government. 

Practically, when a business charges VAT on a sale, it can reclaim VAT they have paid on their purchases. The difference between what they have charged on sales and paid on purchases is required to be paid to Government authorities. A helpful way of looking at VAT is as a tax on consumption. This is best shown in this simple example.

An important feature of VAT is the exemption of certain goods and services. If all services or goods that a business sells are exempt, then the entire business is exempt from VAT. In most VAT regimes internationally, an exempt business cannot claim VAT on its purchases. Based upon our experience of other VAT regimes, if only some of the goods and services are exempt then a partial exemption claim is made. We would need to see the exact details of the VAT regime in the Kingdom once available, to determine how partial exemption may be applied – for example the sale of books and uniforms may subject to VAT at school which are exempt.

It is also worth noting that businesses may be required to pay the VAT at times that may not coincide with when the actual cash is collected from the customers and this stresses the requirement of proper cash management.

Businesses will have a long to-do list starting with identifying the entity’s registration status (for e.g. exempt) and performing the legal registration requirements. Next businesses will have to assess their readiness to be a VAT registered entity. Businesses will be expected to review their documentation processes and revise their business contracts to ensure they comply with the requirements of VAT. The IT systems used by the business will also have to be evaluated in terms of their capability to adapt to the requirements of VAT or whether new information systems will have to be implemented.  

Implementing a nation-wide VAT system can prove to be very challenging especially in this part of the world where taxes play a minimal role. There are many missteps that can be made during the implementation of the VAT system. Low VAT registration by businesses, arbitrary price increases, incorrect filing of tax returns, lack of access to expertise, these are some of the problems encountered historically by Asian and African countries during the implementation of VAT systems.  However, stakeholders in the process, businesses and the government, have at least 14 months from now to anticipate any bumps along the way. It would be wise to use the time available to ensure a successful implementation.

It is critical that the authorities provide comprehensive and understandable guidelines in a timely manner to enable those businesses that are to-be VAT registered to accommodate the requirements. It is fortunate for the stakeholders involved that the Kingdom of Bahrain has an abundance of professionals and experts who are learned in the areas of accounting and other. It is critical that the need to consult with experts is assessed by businesses and the government alike. 

Having made presentations to a total number of 1400 -1500 clients of BDO Local Firms in each of the 6 GCC States over the past 10 days and having fielded about 130 individual questions from the participants, I am in no doubt that the proposed introduction of a Value Added Tax (VAT) system into the Region will present significant challenges for the Local Government Authorities. 

As some readers might be aware, VAT, although expected for quite some time, will finally be introduced at an expected 5% rate in both the United Arab Emirates and Kuwait effective 1 January 2018.  Bahrain, Oman, Qatar and Saudi Arabia are obliged to introduce the Tax between then and 1 January 2019.

Although there has been very limited official information released regarding the specifics of how the VAT system to be introduced will operate, the expectation is that the GCC Countries will replicate a lot of the features of the European Union VAT System, particularly bearing in mind the similarity between the 6 Country cooperation in the Gulf and the 28 Country cooperation in Europe.

Furthermore, whereas certain Educational and Healthcare services will be purely ‘exempt’ from VAT with no entitlement to VAT recovery on costs by the related service provider, it is expected that provision of basic foodstuffs (e.g. bread, milk, fruit & vegetables, meat etc.) to be ‘zero-rated’ (exempt with credit) thus enabling the suppliers of basic foodstuffs to recover VAT on their operating costs etc.

Taking into consideration the close cooperation between the 6 GCC States and their shared interest in ensuring that the system to be introduced in their individual countries is as closely aligned as possible, I would be very surprised if most of the countries do not opt for the 1 January 2018 implementation date as this will help avoid any potential distortion of completion arising from VAT related considerations and will also help embed the system across the region in possibly ‘one fell swoop.

It is also my view that in considering what kind of VAT system would be best to introduce,  the GCC Governments have invested a considerable amount of time and effort reviewing VAT systems in place in the approximately 150 countries across the globe including the current 28 European Union ( EU) Member States (note the UK is not due to leave the EU until 2019) which have VAT legislation in place,  to ensure that the system to be introduced is ‘ effective’, ‘efficient’ and ‘best in class’ to serve the needs of the region.

In summary, this means that the VAT  scheme to be implemented will result in the collection of as much VAT as possible, as early as possible, with the least possible inconvenience to businesses operating across the GCC as they become unpaid tax collectors on the Governments’ behalf! 

One of the challenges in introducing a VAT system in a depressed market place is that many hard pressed consumers, who will have experienced decreases in their household income due to cutback arising from the halving of the price of oil as well as increases of costs in oil related products, are disinclined to spend due to lack of confidence in their personal financial circumstances. 

Needless to add, increasing the price of most goods and services by 5% will act as a further disincentive to consumer spending.  So in the early days following the introduction of the new VAT system, it is likely that retailers may reduce their profit margins and absorb some or all of the VAT costs with a view to maintaining the sales volume required to sustain their businesses. 

Although VAT is ultimately a tax on the supply of goods and services to consumers, the charge of VAT on all supplies to both businesses and consumers will mean that businesses will become unpaid tax collectors on the Governments’ behalf and apart from increasing their administration and IT related costs, they are likely to be exposed to significant interest, penalties, and potentially more serious exposures for any non-compliance with the new legislation.

In the circumstances, it is imperative for businesses to start planning their VAT strategy without delay and this is the message that I, together with my BDO Partners in the 6 GCC Countries have been sharing with our clients in the region over the past couple of weeks.

Ivor Feerick is the Partner in charge of Indirect Tax at BDO Ireland. He has been with the Firm since 1994, having previously spent 14 years working with the Irish Tax Authorities.

Ivor is a member of both the Institute of Certified Public Accountants in Ireland and the Institute of Taxation in Ireland, has published numerous articles and lectured on VAT issues both nationally and internationally.

Ivor has been a Member of the BDO International VAT Centre of Excellence since its formation in 1999 and was appointed Chair of the BDO International VAT Centre of Excellence Committee in 2011.

As partner in charge of Indirect Tax at BDO Ireland, his responsibility is to ensure that the Indirect Tax needs of domestic and international clients are being serviced effectively and efficiently.