Understanding VAT and Why You Should Care

Recently there has been a rather large outcry from UK and US SaaS companies about the changes of the VAT (Value Added Tax) in the European Union from January 1st, 2015.

I am not an accountant or a lawyer, but I am business owner in Bulgaria which is in the European Union. All of my customers are from other countries and many of them are in the EU. Any VAT change always affects some of my business.

I hope that this small essay will help you understand VAT and the new changes, especially stuff like jurisdiction and how it applies to your business. However, I will not go into too much details as I don’t think that this is needed for the general discussion happening right now.

What is it VAT?

In Europe there is VAT (Value Added Tax) which means that for every purchase by an end customer, which are mainly private individuals, there should be a tax. This tax is different in every country and it depends on where the customer is located.

I live in Bulgaria and here it is 20% for everything except tourist services. When I buy a sandwich for 6 euros the actual price is 5 euros and 1 euro is the 20% VAT.

So VAT is only for end customers, right?

In Europe, when a business buys a good or a service from a local business it usually also pays VAT and then reclaims it from the local Tax Office. If the two businesses are from different countries no VAT is paid and reclaimed.

For the purpose of this article we will only consider deals with end customers.


From what I see on Twitter, HN, Reddit and the internet in general, US business owners refuse to believe that they should be concerned with VAT. After all they are in the US and the European laws have no jurisdiction there.

They are both right and wrong. Yes, they are in the US and European laws don’t have any jurisdiction there, so they have no jurisdiction on the company.

However, the VAT law is not about the seller, it is about the customer. Let’s say it one more time, the VAT is about the customer.

Where the selling company is located doesn’t matter at all. VAT is a tax paid by the customer and NOT by the seller. Therefore it matters where the customer is located. If the customer is in Europe, he pays VAT.

The seller is only holding the money from the VAT tax temporarily. It’s not his money. It never was.

The state of VAT before January 1st, 2015

Many US small SaaS businesses start to realize just now that they should care about VAT. Actually the new changes only change how VAT is collected and paid, and not whether it should be collected or not. Even under the old laws US companies selling to European customers had to deal with VAT.

Before January 1st 2015, no matter where you sell in Europe, you pay VAT where your company is registered in Europe and you pay according to the local VAT law.

You can see there is a loophole in this statement. VAT is about the customer but at the same time you don’t pay according to the law where the customer is but according the law where the company is.

Then there is actually a second loophole, the money goes in the country where the company is registered and not where the customer is.

In the time before time

In the pre SaaS world, and before the Internet commerce, this VAT law was enough. With physical goods and services delivered physically in your presence it was difficult to be in one country and sell to end customer who is in another. However, in cases when that happened VAT was paid when the goods and the money passed the border.

Who is this law for?

Google, Amazon, Apple, Microsoft and the rest of the usual suspects had a good fun exploiting the two loopholes mentioned above. So the European Union decided to stop it after large countries like France, Germany and UK complained.

The big companies would register a new company in Luxembourg where there is a lower VAT (in addition to other tax benefits), which will help them keep lower prices. Then all the taxes from big markets like UK, France and Germany will go there. Luxembourg of course was happy.

What is it changing and what is all the fuss about?

From January 1st, 2015 a new law comes in effect which closes the two loopholes mentioned above.

First, VAT will be calculated not according to where the seller is registered but according to where the customer is located.

Second, VAT should be paid not to the country where the seller is registered but to the country where the customer is located.

Problems with new VAT law

I am sure you already realize several problems with the new law.

First, there are 28 members of the EU. Knowing 28 different VAT laws and measures for everyone of them might be possible for Google, but it is impossible for small businesses.

Second, if you have even only one customer in every country you will have to pay taxes to 28 different tax offices. We all know how fun it is paying taxes to your local tax office, think what happens when there are 28 of them to deal with.

Third, how do you prove where the customer is located. In an extreme case, he might be traveling in the sea or in the air at the moment of the purchase.


Actually the new law also provides a solution to one of the problems.

You don’t have to register and pay directly in all 28 EU countries. Instead, you can choose only one country, pay in its tax office and they will distribute the VAT to all other countries. (In reality its a little bit more complicated)

However, the two other problems persist. You have to collect different taxes depending on the customer location.

Software can save us

Probably most of the online businesses concerned by this law are using some sort of online processor payment. This is the first place to go to look for a solution.

From what I have read recently, many payment companies are working hard to help you as much as possible so that they collect the necessary information that you need for the location and also apply the appropriate taxes.

Some of them even can help you with making the payment to the tax office for you.

For example, this morning Google announced that for all payments made trough their Google Play Store for apps and in-app purchases, they will handle all VAT collection and VAT payment, effectively solving the last two standing issues above for companies selling apps on the Android Market.

From the point of view of the companies, and local tax officials, it is as if they are selling their apps to Google, which then resells them.

How can I avoid all this VAT mumbo jumbo?

The easiest way to avoid all that regulation is to sell only to VAT registered businesses when selling to Europeans. So when a business says that it is in Europe, you ask for VAT ID to continue the selling process.

The second easiest solution is to find a good payment processor company to take care for most of this stuff.

I understand it all, but should I really care?

If you are still asking this, you are probably a US based SaaS company with just a few European customers. In fact, even before the new changes you were expected to collect and to pay the VAT from your customers.

If you are a US company with sales less than a few millions probably the VAT that you have to pay is too low for any European tax office to care.

However, not paying it is illegal and the simplest thing that a European tax office can do is to block all payments going to your accounts from European banks.

Don’t go this path. Instead find a good payment processor that will help you solve the problems above with the smallest friction.

How it will gonna affect the customers

It will probably increase prices for some online services. However, it won’t scare your customers. Europeans are used to paying the VAT on everything they buy.


If you want to know more there are plenty of tax professionals that you can contact and they will be able to give you much more detailed advice.

Also, if you want to learn more about the different vat rates in Europe, I advise you to check the apps of my friend Iman available for Android and iOS at www.vatlib.com.

She is also a leading VAT expert from London, UK.

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We are Stefan Fidanov & Vasil Lyutskanov. We share actionable advice about software development, freelancing and anything else that might be helpful.

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