The importance of correct VAT compliance has recently increased. In the U.K., officers of a business must now certify at risk of a civil penalty that the company's accounting systems are able to produce a correct VAT return. Other countries, including most in the EU, are considering introducing similar strict rules.

But it is not just the CFO's personal liability that is at stake here. In addition to the more stringent compliance rules, tax authorities are also more willing to negotiate and be more flexible with taxpayers that have a good compliance record.
In The Netherlands, for example, businesses can ask the tax authorities for a 'taxpayer covenant'. This entails a detailed audit, whereafter the company agrees to disclose all transactions where the tax treatment is unclear or falls in a 'grey area'. The authorities agree to immediately respond to questions raised and also otherwise improve the relationship with the taxpayer. A clean compliance track record is a key condition to the covenant.

Aside from the authorities there is an arguably more important reason to keep on top of your company's VAT position your gross margin. Because the average rate of VAT is around 20% in Europe, the impact of VAT on your cash-flow is tremendous. Let's have a look at the example below.

A U.S. company sells goods overseas for 200 plus 40 VAT. The goods are partially imported from the U.S. (imports worth 25; they paid 5 to customs for import VAT), and partially locally sourced (they paid 50 to a local vendor, plus 10 VAT). They incurred management fees of 10, and needed to pay 2 VAT on the reverse charge. The 5 import VAT paid to Customs must be credited, as well as the 2 VAT paid on the reverse charge. The company incurred 10 on salary costs, but on salaries no VAT is due. There were additional expenses (warehousing) for 15, plus 3 VAT. That amount of 3 VAT is creditable. The company made a loss of 90 on their overseas sales, but the fairly staggering amount of 57 VAT went through their books, had to be reported and accounted for even though only 7 VAT was net payable after credits.