VAT and small businesses - what are the implications?

Sage advice for SMEs ahead of GCC-wide implementation of new levy

The UAE will implement VAT on January 1, 2018. Chris Ratcliffe / Bloomberg

On 1 January 2018, value-added tax (VAT) will come into effect for the first time in UAE. Here, Aaron White of Sage Middle East, offers some insights on the implications for small businesses.

Naturally, small businesses are concerned about the financial and operational impacts of VAT compliance, especially since they are used to operating in a low-tax business environment.

While there will be implications for systems, infrastructure, skills and training, there are a number of benefits to the new tax system on businesses and the economy.

Economic pressures

But first, let’s take a step back to understand why VAT is being implemented in the first place.

For decades, the economies of the GCC countries have benefited from high oil prices. However, a drop in demand, increased global competition, and a substantial decrease in the price of crude oil per barrel - from a peak of US$147 in 2008 to about $50 today - has forced GCC countries to look for other sources of revenue to diversify their economies and remain globally competitive.

VAT is one such revenue source, and because tax is an unfamiliar topic in the GCC, you might have some questions about how it will impact small and medium businesses.

What is VAT?

VAT is a tax on the consumption of goods and services and has been set at 5 per cent across GCC countries. This rate is among the lowest in the world, with some countries charging VAT of more than 20 per cent.

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VAT is levied at each stage of the supply chain, from the manufacturer, to the wholesaler, to the retailer, taxing the "value added" by businesses at each point in the chain. For example, raw cotton becomes more valuable as it moves along the supply chain to eventually be manufactured into a T-shirt, or the end-product.

Certain sectors will be exempt from paying VAT, such as health care, education, certain foods, some types of real estate transactions and local transport, but these may differ between member countries. Export of goods outside the GCC will be zero-rated, which means exporters can claim a tax refund.

What are the advantages of VAT?

VAT is an efficient and transparent way for governments to increase revenue - the IMF predicts that GCC states can boost GDP by 1.5 per cent with the implementation of VAT. This will help GCC states to diversify their economies away from oil and to continue delivering on their public service mandates.

How will VAT affect my business?

If your business has an annual turnover of Dhs 375,000 (or the equivalent in other GCC states), you will be obliged to register as a VAT vendor. If you generate 50 per cent of this threshold, you can voluntarily register for VAT, which has its own advantages and disadvantages.

The important thing to note is that VAT is not a business expense but a cost that is ultimately passed on to the end-consumer when they buy a product. Businesses act as the "collection agents", collecting the tax on behalf of the government. In this way, they are helping to make the economy more prosperous and efficient.

However, there will likely be indirect costs associated with becoming compliant, which will affect many areas of your business, including pricing, cashflow, financial reporting, tax accounting, supply chain and compliance processes.

The cost of non-compliance could be even greater. Penalties are set at a minimum of Dh500 up to five times the amount of VAT that would have been payable for the period in question. At 5 per cent VAT, this puts your maximum risk at 25 per cent of turnover.

How can I become VAT compliant?

If you haven’t already, now is a good time to invest in an accounting solution that streamlines the VAT collection, record-keeping and reporting processes, and that automates the production of VAT invoices in Arabic.

While you have until January 1, 2018 to be fully compliant, full transition can take between nine and 12 months so, if you haven’t yet, you should activate your VAT implementation plans as soon as possible.

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Businesses that need to be VAT compliant should work through a detailed impact assessment with a trusted business partner to guide them through the implementation and operations phases. We have already started engaging and educating our channel partners on VAT requirements so that they can help their customers to avoid penalties.

An effective VAT system relies on shared responsibility between governments, businesses and consumers. The additional revenue will go a long way to maintaining effective public services and positioning GCC countries as globally competitive nations with truly diversified economies.

While it may be daunting initially, preparing your systems for VAT collection and payment to governments needn’t be a huge or expensive undertaking. More than 150 countries have VAT systems in place - by partnering with a solution provider that has experience in these markets, you’ll be taking a smart first step to becoming compliant.

Aaron White is the regional director (Middle East) for the accounting, payroll and payment systems firm Sage