This is part 1 of a series of articles to explain how Brexit will affect UK based tech startups.
Having spent a lot of time in January digesting the finalised Brexit rules on behalf of our clients there are a few things we thought worth sharing more widely. This article focuses on UK SASS businesses providing digital services to other businesses
First, some good news. It’s quite likely that most B2B SAAS companies can ride their way through Brexit barely noticing it’s happened. The UK had been a huge influencer in the development of pan-EU VAT legislation. So in most cases, the rules for selling B2B services within the EU rules mirror the rules that otherwise apply in the UK for international sales.
In fact, life will be a little easier as there’s no longer a need to provide HMRC with an EC Sales List every calendar quarter.
There are, however, a few nasty little edge cases that will have an impact if you’re selling to businesses within Financial Services, Construction (or other industries where your customers make VAT exempt sales).
First the good news:
There may be cases where your product becomes 20% cheaper to UK customers.
Then the bad:
Your EU business customers may end up having to pay two lots of VAT (neither of which they can reclaim).
These edge cases come about because of a tricky bit of VAT legislation known as the “use and enjoyment override”. This rule doesn’t apply to most businesses, it was specially crafted for a specific set of industries. Unfortunately, this includes all SAAS businesses.
What is the “use and enjoyment override”?
For industries “caught” by this rule it’s not sufficient to know where the company buying your service is based. You need to also keep track of where they are using it, and it’s this location that counts for VAT purposes.
For a typical SAAS business, this means:
- Getting your customers to tell you this (e.g. when taking out their subscription), and:
- Making reasonable efforts to double-check, such as logging and monitoring the IP’s being used to log in.
Why does Brexit change things?
While we were part of the EU, the “use and enjoyment override” didn’t apply to sales made to other EU countries. This provision was removed when we left the EU, and HMRC will now insist that “use and enjoyment” rules are followed for all international sales.
Many UK SAAS companies begin their international growth by selling to EU countries. This means a lot of early-stage businesses will be exposed to a rule they were previously shielded from.
Even if you were already exposed to this rule (e.g. because you sell to the US or Canada), it’s now a bigger problem as the EU has much stricter rules around VAT owed by external countries selling to EU countries.
How can this make my product 20% cheaper?
It’s an edge case, but one with real-world examples. A few different factors need to come together:
- You’re supplying a UK company that makes VAT exempt supplies. This is common in financial services and construction. It means these companies are blocked from reclaiming some or all of the VAT on purchases they make.
- Your product is used by an EU branch of this company. For example, you’ve provided some sales automation only used by an EU based sales team. Or production management software used in their Polish factory.
From a UK perspective, the “use and enjoyment override” means you no longer charge your customer UK VAT. This is good news for them, as they can’t reclaim it (or at best can only reclaim some of it).
The fun comes because many EU countries apply the “use and enjoyment override” differently to the UK. Crucially, many don’t include SAAS companies in its’ scope.
In this situation, there’s no need for them to pay VAT in the country they are using your product, creating a net 20% saving to them.
Why is this a problem when I’m selling to EU companies?
The problem is almost the reverse of the above scenario. Let’s suppose you’ve grown to the point where you have operations in different countries. Now suppose you’re French branch is supplying another French company, but your product is being used by their UK branch.
Just like in the above scenario, your customer operates in an industry that is exempt VAT.
As France doesn’t include SAAS companies in it’s “use and enjoyment override” your French branch must charge French VAT.
Because the UK does include SAAS businesses, you must also tell them to reverse charge for UK VAT.
The result is a double charge of VAT, neither of which they can reclaim.
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