Reverse Charge Procedure

The reverse charge procedure is a special VAT scheme that helps to minimise tax abuse and fraud.

What is reverse charge procedure?

According to this special case, the recipient of the service, i.e. the customer, and not the service provider, must pay the VAT. As a result of the reverse charge procedure, the service provider can only charge the net amount to the customer. That leads to a VAT liability for the company code of the customer. In case the recipient is entitled to deduct input tax, he can also claim the amount as tax already incurred.

The practice and application of the reverse charge procedure

In practice, the reverse charge procedure can simplify the elimination of VAT – at least for the supplier – and reduce his bureaucratic burden. Above all, the regulation is intended to work against tax abuse and fraud. Tax-free cross-border supplies to the service provider, for example, are used to avoid VAT.

In many cases where supplies or services are obtained from a business established abroad, the reverse charge applies. For supplies and other services between domestic businesses, the procedure is also obligatory in some cases. For all cases of the reverse charge procedure, the following applies: The procedure should only be used if the recipient of the service is an entrepreneur or a legal entity.

Reverse charge procedure in the EU

The reverse charge procedure is used throughout the European Union for cross-border transactions. However, there are different rules from country to country: Reverse charge supplies or services in one country may be exempt from tax in another.

Most sales between businesses in different EU member states are subject to the reverse charge procedure and for each transaction there are specific rules that correspond to the different regulations of the countries involved.)

An example of reverse charge in Subscription Management: A company based in Germany sells goods in the form of a subscription for 500 euros/month to a Dutch customer. Due to the application of the reverse charge procedure, the monthly invoices to the Dutch customer are issued with a net amount and a note that the recipient owes the tax. The Dutch company now pays the VAT directly to the Dutch tax authorities. In the final step, the Dutch VAT is deducted as input tax.

Germany and the third countries

A contract partner with its registered office abroad is anyone who, as an entrepreneur, does not have a domicile, head office, administration or a permanent establishment in Germany. Even if an entrepreneur has a permanent establishment in Germany, this is only considered to be firmly established in Germany depending on the specific turnover of this permanent establishment. This point must be examined on a case-by-case basis and may not be clear enough at first.

In Germany, for example, the procedure is used for the supply of work for the construction, repair and maintenance or alteration and removal of buildings. In addition, the procedure is provided for the supply of work to a company established abroad if the supplies are taxable in Germany. The procedure also applies to supplies of designated security objects, land, metals such as gold or gas and electricity from a company established abroad.

It is irrelevant whether the contracting party is a trader established in an EU country or in a third country outside the EU. The rule on the reversal of tax liabilities does not differentiate accordingly, but applies equally if the conditions are met.

Conclusion: Accelerated tax procedure

The service provider saves a lot of work in tax matters, as he does not have to report business transactions to the tax authorities. The client therefore does not have to contact the tax administration of the country through which he is carrying out the procedure. This, of course, saves a lot of time.

From the point of view of the tax administration, the procedure also has the advantage that tax claims no longer have to be made abroad.