As government finances of all six Gulf Cooperation Council (GCC) member states continue to deteriorate due to low global oil prices, finding a new source of income for the government that is unrelated to oil has become vital. Hence the introduction of a 5% value added tax (VAT), the region’s first ever tax levied on products and services.
“The introduction of VAT is a positive change for this region as it will create a new source of stable revenue for governments while having the least negative impact on regional economies,” said Pierre Arman, Thomson Reuters’ Market Development Lead for Tax & Accounting, in a Thomson Reuters survey analysis published in July. “These new tax reforms will support this region’s governments with economic diversification away from crude oil.”
Early signs indicate that VAT is going to be problematic for many GCC-based businesses who never needed to employ neither the human nor the physical resources to manage such a tax. This is evident in four surveys done in 2017 that revolve around the readiness of GCC-based companies to implement VAT. “The consensus alludes us to believe that only a minority of organizations have started preparing for such fiscal reform,” said Chas Roy-Chowdhury the Head of Taxation at the Association of Chartered Certified Accountant in the 2017 Thomson Reuters survey.
Saudi Arabia was the first GCC country to get its parliament to approve the implementation of VAT starting 2018. This was in January 2017. Within weeks the other five member states confirmed the implementation of the new tax. To ensure continued legislative and economic harmony within the GCC, a Unified Agreement for Value Added Tax (UAVAT) was signed by all members last April. “The approval of the GCC UAVAT is a significant step in its own right. It also maps out the next steps,” said Michael Patchett-Joyce, a commercial lawyer and arbitrator based in London and the UAE, to The National last February.
The agreement contains some basic stipulations applicable to all GCC such as the 5% tax rate. Exemptions across the bloc include education, healthcare, real estate, and local and inter-GCC transport. Goods exported beyond the GCC will also be VAT-exempt. Lastly, GCC-based companies making more than $100,000 a year in revenue must register as VAT payers. Meanwhile, those making between $50,000 and $100,000 have the option to register. Lastly, companies making less than $50,000 are exempt from paying VAT.
The UAVAT agreement allows each member state to exempt or levy different VAT rates on specific industries including the oil sector, petroleum derivatives and natural gas. Furthermore, non-commodity food products, medical supplies and financial services, can be treated differently as per each member’s policy. The agreement also gives member states the freedom to choose how to treat companies in free zones, such as Jebel Ali in the UAE.
Not Ready Yet
To date only Saudi Arabia has announced its final VAT law. The legislative delay from other GCC member governments is putting many local companies at risk. “Many companies are waiting for these publications to be available before starting their VAT preparations,” said Arman. “This proposes a high level of risk given the time frame.” This risk revolves around companies finding themselves not able to comply with VAT rules come 2018, which will result in penalties and being subjected to other enforcement measures. Companies, however, can start their preparations without reading the law. “A considerable amount of the VAT impact assessment analysis can be done without knowing the details of the final law, as most of the VAT treatment can be extrapolated from other jurisdictions around the world,” said Arman who warned “[Implementing VAT needs a] pre-implementation period […] in order to ensure the relevant technological tools, staff training, resource model and various other accounting facets are in place in order to comply with such reform.”Around 49% of GCC-based companies have said they have chosen to wait for their respective country’s laws before starting their VAT assessment, according to the Thomson Reuters survey. Meanwhile, 26% of surveyed companies said they completed the analysis phase but have yet to set any action plans while 11% have set action plans. The rest believe that VAT will not impact them or haven’t heard about it. It is therefore unsurprising that 75% of surveyed companies haven’t sat with their financial advisor to discuss VAT while 88% of companies have no idea how much will compliance cost them, according to the Thomson Reuters survey.
Despite the majority of companies not setting any actions plans, 51% have said they plan to implement VAT in-house; 36% are open to temporarily outsource the more complex aspects of VAT; 13% have said they will outsource this entire function. Worryingly, 44% of companies have some of the resources needed to implement VAT while 28% have none of these resources. The remaining 18% have all the necessary resources to implement VAT immediately.
Not everyone agrees with the Thomson Reuters findings. Around 58.7% of companies have said that they are well informed about VAT and its requirements, according to another survey by Deloitte conducted in May. The rest have heard something about it. This is an improvement over the April survey when only 25.6% of companies said they knew about VAT. Around 50% of companies are confident they will be ready to apply it come 2018, according to the May survey.
Interestingly, none of the surveyed companies have set any action plan. Around 72% of them didn’t give a “clear answer,” said the survey report, as to why they don’t yet have a plan. Meanwhile, 18% said they are waiting for their respective country law to be issued while 10% didn’t believe that VAT will affect them. This however doesn’t mean that the overwhelming majority of surveyed companies are not worried. Around 80% of them have concerns, according to the Deloitte survey. Of them, 87.5% are worried about implementation.
The Ernst & Young survey, which was announced in March, found that 50% of companies haven’t started preparing for VAT; 29% have studied some of the VAT’s aspects; 6% have taken relevant workshops; and 4% have conducted an impact study but haven’t set an action plan. Only 11% of surveyed companies have said they have such a plan. Of them, 51% are focused on having the right paperwork and procedures to comply with VAT. Around 17% are improving their computer systems; 13% are training their personnel; 10% are focused on their pricing strategy starting 2018; and 8% are focusing on the procurement side of the business to minimize costs.
Interestingly, the uncertainty arising from the implementation of VAT is not confined to local companies, but multinationals also. Around 78% of the surveyed multinational firms have said they will receive no support from their parent company, even if it is operating in a country that levies VAT, according to the Ernst & Young survey. Meanwhile, 29% of surveyed multinational companies said they are completely invisible to parent company.
In the UAE, MENA’s top investment destination as per the 2017 Doing Business Report, 69% of companies believe that VAT will be implemented in January 2018, according to a February to April 2017 survey by UAE-based Hays, a research firm. Yet, despite this certainty, 52% have said they don’t yet have an action plan. Interestingly, 61% of the surveyed pool said they will implement VAT in-house with no extra staff; 14% will hire specialized staff full time; and 9% will hire them on a part-time basis. The remaining 16% will fully outsource the function.
Companies hiring over 1500 employees seem to be better equipped to manage VAT compared to SMEs in the UAE, according to the Hays survey. Around 73% of large companies have already set an action plan compared to under 50% for the rest. Large companies are also less likely to manage VAT in-house (53% versus 66% for firms hiring less than 50 people). The extra resources of large companies means that 33% of them will hire extra personnel if they decide to do it in-house. Meanwhile, 24% of the smallest companies will hire more staff. Worryingly, 60% of surveyed companies haven’t set a VAT-compliance budget. Meanwhile, 29% hope to pay less than AED 250,000. “With UAE VAT law yet to be fully announced, it is difficult for businesses to anticipate exactly how they will implement VAT and the subsequent costs involved,” Chris Greaves, managing director of Hays in the Gulf, said in the survey’s press release.
Unlike in Egypt, where their decades-old sales tax was being gradually modified to include features from VAT before it was officially replaced in 2016, for GCC-based companies the VAT is a game-changing reform. This is because it will impact every aspect of the business in ways never seen before.
Firstly, GCC-based companies will be effectively adding a new department in their finance division to process VAT. Its presence will impact standard-operating-procedures in all other departments to accommodate this new tax into their paperwork and operations. “Every department will be impacted by VAT,” said Arman, of Thomson Reuters in the survey report. This will mean significant upfront investments to build a pool of skilled personnel and adequate physical resources, such as suitable computer systems, to manage VAT. “This is a significant issue for GCC business,” said Justin Whitehouse, Deloitte Middle East Indirect Tax leader to Forbes Middle East last March. This will impact SMEs more as many of them don’t keep detailed records of their bills due to limited resources, according to Whitehouse.
Dealing with the outside world, VAT will change how the company chooses its suppliers, according to the Ernst & Young survey. For example, using imports or products that are VAT exempt means that the client company must pay VAT on 100% of the final price, according to the survey report. The other topic in question is pricing, and the decision of whether the company can afford to pass on 100% of the VAT to its customers, or will this cause a loss in sales because the product or service has become too expensive.
For consumers, VAT will most likely mean a noticeable overnight hike in prices. The hike will likely be more than the 5% VAT rate given that companies will see an increase in business costs to process VAT. “VAT will heavily impact high value luxury goods which will be borne by the end-consumers,” said Tonnit Thomas, the Founder and Creative Director of Tonnit Designs to Gulf Marketing Review last March. “If the new prices start biting the consumer […] companies may downgrade to lower-end products [until] they adjust to the new pricing.”
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