There probably is no such thing as coincidence. First, the European Commission published a report estimating €193 billion in VAT revenues (1.5% of GDP) were lost due to non-compliance or non-collection in 2011. Second, A.T. Kearney in association with Visa and Dr. Friedrich Schneider published there yearly report called “The Shadow Economy in Europe“, which looks at the “legal business activities that are performed outside the reach of government authorities.”

Together both reports state that electronic invoicing could help governments to contain tax evasion and the shadow economy. However this is not as easy as pie. So let’s take a thorough look at it.

The study to quantify and analyse the EU VAT GAP

The EU “study to quantify and analyse the VAT Gap in the EU-27 Member States is quite interesting: you can only find two (!) references to invoicing (search for “invoic”) in this 127 page report.

The VAT Gap is the difference between the expected VAT revenue and VAT actually collected by national authorities. While non-compliance is certainly an important contributor to this revenue shortfall, the VAT Gap is not only due to fraud. Unpaid VAT also results from bankruptcies and insolvencies, statistical errors, delayed payments and legal avoidance, amongst other things.

Algirdas Šemeta, Commissioner for Taxation, said: “The amount of VAT that is slipping through the net is unacceptable, therefore, effectively tackling the VAT Gap requires a multi-pronged approach“:

• First, a tougher stance against evasion, and stronger enforcement at national level, are essential: Quick Reaction Mechanism and Eurofisc
• Secondly, the simpler the system, the easier it is for taxpayers to comply with the rules. Therefore, the Commission has focussed intently on making the VAT system easier for businesses across Europe.
• Finally, Member States need to reform their national tax systems in a way that facilitates compliance, deters evasion and avoidance, and improves the efficiency of tax collection.

What? The simpler the tax system is, the easier it is to comply? The opposite is more likely: during times of crisis, the simpler the tax system, the easier it is to evade taxes and grow the shadow economy . So the game is on for Member states on point three mentioned above.

The Shadow Economy A.T. Kearney VISA report

So now for the Shadow Economy report. In Europe, the shadow economy is worth a staggering €2.15 trillion Euros. With the recent economic downturn and VAT increases (doubled from an 11% average in 1985 to 19.2% in 2009), no wonder containing it has become an area of focus for many European governments.

The report defines the shadow economy in two distinct areas:

• Undeclared work such as cleaning work, crop collection, and construction day labouring
• Under reporting in high cash businesses such as bars, taxis, and other service-based small businesses

So how could e-invoicing legislation help EU governments shift GDP out of the shadow economy and bring into the bright real economy? Well, not by completely liberalisering and simplifying it, allowing for financial flows that can be kept out of sight from banks, bookkeeping software and tax agencies with ease.

The Portugese central check-in system

However there is a trend at hand in Europe. Especially in the financially troubled countries. Let’s call it the LATAM approach:

• Portugal is the first to introduce a central check-in system for both paper and electronic invoices of any company with revenue greater than €100,000;
• As of January 2014, any invoice that companies send or receive must be logged into the new Portuguese system.
• Portugal also mandated that banks must also provide retailers’ POS information to the same tax administration system.

Portugal is not alone in their invoice check-in systems and at only 19% of GDP in the shadow economy, it is middle of the road in terms of troubled states. Rumours are that Greece, at 24% of GDP in the shadow economy, is next to introduce this system. And many other countries may follow suite.

Why? Well, let’s take a look at a very compelling graph on page 15 of the report. It shows the correlation between electronic transactions per countries inhabitant and the shadow economy GDP: The more electronic transactions the lower the % of Shadow GDP:

 

 

 

 

 

 

 

 

 

 

 

 

Conclusion

So, will simplified e-invoicing help contain the EU shadow economy? No, it won’t, because: (1) the economic crisis is too big, (2) the VAT rates are too high, (3) there are too much online tools available out there that allow business to transfer money without using banks and bookkeeping software. This will only be different once EU Member States come up with LATAM like systems, comparable with Portugal.