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Photo courtesy of Carina Envoldsen-Harris
At the end of 2014, amid the rush of holiday orders and craft shows, a growing shadow cast a pall over the biggest selling season of the year. Crafters all around the world were becoming aware of new European Union (EU) tax rules on digital products that would go into effect on Jan. 1, 2015 — and nobody seemed prepared for the changes.

Rather than the sales tax system that is common in the United States, European countries have a consumption-based value added tax (VAT) system. Every member state sets its own rates — from Luxembourg’s 3 percent to Hungary’s 27 percent — and determines which categories of products are taxed at which rates.

A business collects and remits VAT based on where it’s headquartered, which can lead to loopholes in the system. For example, tech giants such as Amazon and Apple could establish the European headquarters of their companies in low-tax countries like Ireland or Luxembourg, allowing the companies to skirt higher tax rates and charge less than their competitors.

To close those loopholes, as of Jan. 1, 2015, the European Union required VAT on digital products (such as music downloads, e-books and craft patterns) to be collected and remitted based on the tax rates where the customer lives, rather than where the business is based. The European Commission’s Taxation and Customs Union set up the VAT Mini One Stop Shop (VATMOSS) to let businesses register once for all 28 member states and submit VAT returns in one place. The goal was to create a so-called Digital Single Market that would give every European country equal footing, but it quickly turned into a “VATMESS” for small businesses.

Some e-commerce software didn’t support more than one tax rate. And VATMOSS requires a business owner to keep customer records, including two pieces of address proof, for 10 years. There’s no minimum threshold for VAT reporting with VATMOSS — a hitch that has angered many crafters in the United Kingdom (UK), which has a minimum VAT threshold of £82,000 (about $124,650).

Carina Envoldsen-Harris of embroidery pattern shop Polka and Bloom in Essex, England, blogged about her struggles with VATMOSS last year.

 

“I decided that I’d have to shut my shop for all of January to avoid getting into a sticky situation with my European sales,” Envoldsen-Harris says.

 

She spent the month researching her options. Since her annual sales were less than the UK’s VAT threshold, this was entirely new territory for Envoldsen-Harris.

“Before January 1 this year, I focused all my marketing on the shop hosted on my own website, but this year I’ve had to send people to my shops on Payhip, and Etsy when they started collecting VAT,” Envoldsen-Harris says. Her sales of downloads to the EU have dropped this year, which she attributes to higher tax rates and perhaps to the unwillingness of customers to sign up for yet another website.

The new VAT rules apply only to digital products delivered without human intervention, such as on-demand pattern or e-book downloads; live webinars are outside of the scope, as are online coaching programs. Some crafters are manually emailing downloads sold to customers outside their home country in the EU.

 

Norfolk, England-based Sophie Simpson of What Delilah Did says customers from EU member states accounted for less than 10 percent of her total PDF sales before VATMOSS.

“I couldn’t justify scrapping my entire existing shop structure just to accommodate the VATMOSS system based on such a small number of sales, which is why I opted to manually deliver my EU orders,” Simpson says. “I saw that as the least damaging of all the options open to me.”

But the new rules have still had an adverse effect on Simpson’s business — EU customers now account for less than 1 percent of her PDF sales, which she attributes to the hoops EU customers have to jump through to get her products.

The most frequently offered advice for small businesses at the end of last year was to sell digital products through big marketplaces that are capable of handling VAT. But sites including Etsy, Ravelry and Folksy seemed as blindsided at the end of 2014 as entrepreneurs were. And established crafters weren’t so keen on giving up their own branded stores for giant marketplaces where they’d be giving up a cut of their sales.

“Going forward, I may need to consider setting up an Etsy shop for my international PDF sales, though I massively resent being forced to complicate my existing shop structure and trade under a big-name umbrella due to this legislation,” Simpson says. “I have put a lot of time and money into building my own website as a window for my brand and aesthetic; the last thing I want to do is leave that behind to be lumped in with thousands of other sellers on a platform like Etsy. [VATMOSS] is effectively a punishment for small independent sellers who want to innovate and stand on their own.”

 

Photo courtesy of Sophie Simpson
“[VATMOSS] is effectively a punishment for small independent sellers who want to innovate and stand on their own.”
For the piece I wrote about VATMOSS for Quartz this spring, I spoke to tax law expert Annette Beresford, a Reed Smith senior associate in London. When I got in touch with her again this month, she said the impact of the MOSS on small businesses was more dramatic in the UK than elsewhere because of the relatively high VAT registration threshold there.

Beresford pointed out that businesses operating outside the EU have always been required to collect and pay VAT on sales of physical products they ship into the EU.

“The reason no one outside the EU seems to know this is that the EU has no tax enforcement jurisdiction over companies that do not have a presence in the EU — and, hence, this has never been made an issue in non-EU countries,” Beresford says. “So if you’ve been selling physical products to EU-based consumers for the past few years, you’ve technically been required to collect and submit VAT on those sales. But the EU has no way of enforcing that if your business is not based in the EU. The same holds true for VAT collection on digital goods. So no one outside the EU is talking about it because the EU isn’t pressing the issue.”

Some craft businesspeople outside the EU felt the push to comply with the new rules despite being outside the commission’s jurisdiction, and the efforts have been taxing, to say the least. Ginger Davis Allman of The Blue Bottle Tree in Springfield, Missouri, estimates that she spent 400 hours trying to figure out how to get her business compliant with the new VAT rules.

Last year, Davis Allman sold her digital tutorials exclusively on Etsy, and EU customers accounted for $3,600 of her sales. But Etsy didn’t become compliant with VAT until a few months into 2015, so Davis Allman opened a Payhip shop for her EU customers. Sales to EU customers have dropped 66 percent this year, she reports.

 

Photo courtesy of Ginger Davis Allman
“The cost to my lost labor when I was too busy to create new tutorials to sell, has been significant and impossible to evaluate,” she says. “I can’t just stop selling tutorials, as this is my business and livelihood. I can’t exclude EU sales because it would reduce my income.”
So why comply if the European tax commission has no jurisdiction over companies that are not based within the EU?

“It’s a very good question, and one that I don’t have an answer for,” Davis Allman says. “I’ve asked and searched, and all I’ve found is information that the U.S. did agree to take this on and allow this, years ago, and U.S. sellers are supposed to have been collecting and remitting VAT on digital goods since 2003. … Of course that’s really kind of silly when there’s no jurisdiction. But rather than run the risk, I decided to become compliant.”

The EU VAT Action group in the UK has been at the forefront of the movement to get a Europe-wide minimum threshold enacted. Juliet McKenna says EU VAT Action has been working with EU officials on the threshold proposal.

“They have also agreed to propose a further ‘soft landing’ zone above the initial threshold, with a simplified version of these rules applying to firms in that zone. We are asking for a €20k threshold on cross-border digital sales (so not total turnover). The ‘soft landing’ would be for the next €100k of cross-border digital sales,” McKenna says.

At the end of 2014, tax authorities were so certain VATMOSS would be a hit that they planned to roll it out for physical goods in January 2016, but that has been put on hold. McKenna says the threshold legislation will likely be proposed in late 2016, and it would take another two to five years to implement.

But, McKenna adds, small businesses can’t wait two to five years for help. If anything, the hint of relief on the horizon makes small business owners less willing to comply than they were before.

“The irony here is that a full impact assessment must be done for any changes — something which wasn’t a requirement when the initial legislation was drafted,” McKenna says. “If only it had been, perhaps we could have avoided this whole mess.”

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