Indirect tax and the growth of e-invoicing requirements

E-invoicing is of course not confined to the US and has for decades been a steadily growing global phenomenon. Along with the proliferation of electronic invoicing providers and formats, there has been a proliferation of country-specific rules governing e-invoicing.

Regulatory change in this area is only accelerating. Many countries have recently implemented e-invoicing regimes, including Brazil and Portugal, to take just two examples. Other countries plan to introduce their own requirements soon, including China, India and a number of European Union member states. The EU itself has also proposed e-invoicing requirements, though those will almost certainly take longer to materialise than proposals in individual member states.

This article looks at the changing nature of e-invoicing requirements within the context of indirect tax obligations.

Invoices: Two main functions

An invoice serves two main functions. One, it’s a commercial document designed to track sales, ensure payment and provide accounting records. Two, it’s the central document in any indirect tax — that is, VAT or GST — system.

This second function is often overlooked or underappreciated. An invoice sets out the indirect tax treatment applied to a supply, and it’s usually the evidence on which the recipient of a supply relies when seeking to recover indirect tax incurred. Because of this, tax authorities have long regulated invoices, including placing strict requirements on formatting and what information invoices must show.

E-invoicing regimes then and now

In many ways, the recent and imminent country-specific regulations governing electronic invoicing represent a second phase of e-invoicing rules. The first phase simply established basic frameworks for allowing businesses to move from old-fashioned paper invoicing to electronic-format invoicing.

The changes we are seeing now, during the second phase of invoicing rules, secure more government oversight into the indirect tax affairs of businesses. The ultimate aim (whether expressly stated or not) is to automate VAT/GST returns through real-time reporting or other means.

Recent and forthcoming e-invoicing regulations mandate that invoices be laid out in certain formats that are capable of being machine-read. Some jurisdictions also require that e-invoices be issued on a system operated by local tax authorities. When a local system is required, the invoice may have to be validated by the tax authority before it can be issued to the customer or it may need to be sent to the tax authority within a very short period after it has been sent to the customer.

Tax authority concerns

The driving force behind changes to e-invoicing regulations is a desire from governments and tax authorities to close the so-called VAT gap. This gap represents the difference between the amount of VAT/GST authorities estimate should have been collected under the law for a given period and the amount actually collected, which is affected by errors, fraud and/or other factors.

The EU estimates that member states lost about €93 billion in VAT revenues in 2020, or 9.1 percent of total expected VAT revenues. Italy’s VAT gap alone accounted for €26 billion of this total, and the EU reckons that Romanian authorities collected less than two-thirds of the VAT due. The €93 billion figure is actually a substantial decrease on 2019’s estimated VAT gap, but many experts attribute the fall to the effects of the pandemic rather than to any sustained improvements in tax collection.

To close VAT gaps, tax authorities in many jurisdictions are looking to obtain more data from taxpayers more quickly, and they’re looking to electronic invoices to do that. Indirect taxes will almost certainly remain largely self-assessed — that is, taxpayers will continue to calculate and pay their own VAT/GST — because the success of indirect taxation is associated with voluntary compliance. But the current wave of e-invoicing requirements should provide tax authorities in many jurisdictions with more opportunities to spot indirect tax errors and take action.

Staying compliant

Multinational organisations need to ensure they are up to date with existing indirect tax requirements in all their jurisdictions, and increasingly that means complying with e-invoicing obligations. Compliance in this area is challenging because country-specific requirements not only change but each is unique and the differences often prevent interoperability.

The Organisation for Economic Co-operation and Development notes that there are several initiatives attempting to harmonise electronic invoice approaches. It urges tax authorities “to look closely at this international perspective, consulting closely with affected businesses,” in part to reduce administrative burdens and to “facilitate the implementation of joined-up solutions.”

Such efforts at harmonisation are probably at best far off. The reality is that there are many different e-invoicing systems either in operation or proposed. In some instances, system changes, registrations or use of tax-authority portals may be required by local rules, and those rules and portals may not be compatible.

The risks of non-compliance with e-invoicing rules associated with indirect tax will vary by jurisdiction, transaction amounts and other factors. At the more extreme end of the spectrum, organisations that fail to comply will face significant penalties. They also may not be able to recover VAT/GST incurred if they are not correctly set up for e-invoicing or if they have accepted supplier invoices that have not been issued through the required process.

It should be stressed that recovering indirect taxes in many jurisdictions can be difficult and time-consuming even under longstanding invoicing requirements. Obviously, the introduction of new e-invoicing obligations will only complicate the VAT recovery process.

To reduce VAT recovery challenges, potentially significant non-compliance risks, and the unnecessary administrative costs that come from last-minute process changes, multinational organisations must ensure they keep abreast of new and forthcoming electronic invoice requirements in existing and planned countries of operation. Depending on the number of countries involved, revenues, the nature of activities and other factors, many organisations can reduce risk and administrative burdens by hiring a global tax expert to provide regularly updated information and advice on changing e-invoicing requirements.