Understanding VAT can give telcos a significant business advantage, according to PwC's Maher ElAawar.
The introduction of Value Added Tax (“VAT”) in the Gulf Cooperation Council States (GCC) is a significant change for businesses. VAT is a consumption tax that applies on most supplies of goods and services and businesses are required to charge VAT on each of their transactions and report it to the tax authorities. They need to consider the impact of VAT on their operations and the potential impact on prices and margins.
Telecommunications is one of the most dynamic sectors in the GCC and also acts as a backbone of innovation, infrastructure and development for the economy. Generally, the telecommunication domain is segregated into two primary segments i.e. Consumer (B2C) and Business (B2B). The multiple revenue streams from end consumers include a wide range of products e.g. prepaid and postpaid services, internet, fixed line, broadcasting, sale of devices, etc. Telecommunication companies also offer infrastructure solutions, turnkey projects and carrier & wholesale services to various business enterprise customers.
In this context, and with the introduction of VAT by the GCC States, it is critical to understand how VAT impacts the telecommunication sector.
General VAT rules for place of supply
The place of supply for wired and wireless telecommunication services and electronically supplied services (‘ESS’) is generally the place of actual use or enjoyment of these services.
Accordingly, core telecom activities such as supply of leased line, telecommunication services and broadcasting are normally subject to local VAT at the standard rate (5%); whereas, wireless telecommunication services are subject to VAT in the country where the actual use or benefit of these services is accrued, irrespective of the contractual and payment arrangements.
Recent VAT implementation in the UAE and Saudi Arabia (KSA)
With the implementation of VAT in the UAE and KSA on 1st of January 2018, most goods and services supplied by companies, (except for a limited number of transactions, which may be exempt or zero rated), are taxable at a Standard Rate of 5%.
For procurement, VAT registered businesses will be able to claim any VAT paid on their business expenses subject to some specified conditions. Where one is unable to claim a VAT credit, this will be considered as a VAT cost to the company.
In the UAE, The place of supply for wired and wireless telecommunication services will be the location where the services are used or received. Whereas in the KSA, the place of supply is the customer’s location, unless they are paying to use the service at a specific location such as an internet cafe or a hotel.
Telecom sector VAT considerations
Given the diversity and complexity of telecommunication services, a number of factors need to be considered for ascertaining the correct VAT treatment such as the nature of services provided, the type of transaction (B2B or B2C), the contractual obligations, the “Look Through approach” (i.e. where is the ultimate customer location).
Key issues that would also need to be considered…
● Billing systems:
As it is necessary to assign the tax treatment on a transactional level (which can cover millions of transactions) for the purposes of billing / invoicing, the tax determination needs to be made in the billing systems before it feeds into any financial reporting systems. This means that billing systems need to have the appropriate tax determination logic defined, built in, tested and constantly updated with the VAT legislation changes. It will also be critical to archive the records to the satisfaction of the tax authorities.
Considering the complexities, it is imperative that correct VAT treatment is accorded to each transaction and corresponding tax determination logic is defined in the IT systems.
In order to ensure that the data is managed at source and is correct when it feeds into the VAT reporting systems, businesses need to have effective and robust processes and controls. Challenges include determining real time VAT treatment on usage specifically for prepaid services, invoicing and recordkeeping requirements for both B2B and B2C and ensuring that required changes are identified and timelines are managed.
● Third party arrangements:
The arrangements regarding third party vendors can be complex, notably with regards to determining which entity is acting as the principal in respect of the supply of services and the treatment of any discounts/rebates offered. Other major challenges include the commission arrangements, customer contract responsibility, payment settlements and intermediary billing e.g. payments for Apps or other service such as car parking or charity donations. In order to assess the VAT implications on these arrangements, it is very crucial to understand the model (agent / principal models) under which the contractual arrangements that Telco providers have agreed upon for revenue sharing with third party providers.
● Customer incentives:
Postpaid contracts usually include bundled package i.e. charges for both the customer’s handset (typically a supply of goods) and the call/line rental package (typically a supply of services). It is thus necessary to consider the treatment of the whole bundle, i.e. whether it is two separate supplies or a single composite supply (and if so, what is the dominant element that is being supplied). Other challenges arise from items provided for “Free” or bundled items, phone instalment plans, tax invoice requirements, etc.
● Cash flow impact:
Considering the size and complexity of operations, Telco will incur huge capital and operating expenditures for construction and operation of towers, repair and maintenance expenditures, laying network across the countries etc. Under GCC VAT regime, all such expenditure (if procured locally) will be subject to VAT at standard rate (5%). Telco should constantly monitor the input VAT incurred for respective activities in order to be able to claim it through the VAT return.
Including transitional rules, payments in respect of breach/terminations, consumer pricing and third party prepaid voucher/calling card distribution, etc. Transition entails change from current practice to complying with new rules and regulations. There is always a push back/dichotomy considering various seen and unseen challenges, which makes the transition period turbulent from VAT implementation perspective.
The above is just a sample of the many aspects of the telecom sector that are impacted under the VAT system. Considering the varied nature of business activities it is important for companies to factor various commercial (such as pricing, increase in cost, compliance with other commercial laws) as well as non-commercial (consumer experience, consumer handholding) considerations to steer through this period. This entails detailed planning and guidance to all such telecom companies to address these concerns in advance to ensure full compliance with the VAT legislations.