Customs and VAT: find the differences

There have been no borders within the European Union since 1993. Under the themes of free movement of people, goods, services and money, on Jan. 1, 1993, it became possible to transport goods from one EU member state to another without long lines at national borders to have customs check the truck.

With the Brexit, it was again clear to see the effect these customs controls have on international trade. Everyone has seen the hellish traffic jams on both the French and English sides of the Channel Tunnel.

But what do these customs checks actually entail? And what is the relationship with VAT? Here is an explanation, where I say right away: this is written by a VAT specialist and certainly not intended as advice or a complete overview of customs rules.

Import VAT

To begin with the VAT rules: VAT is levied on the supply of goods and services, intra-community acquisitions of goods, and on the importation of goods (1). Thus, imports are a separate taxable event for VAT. In principle, imports are taxed in the country where the goods are brought into the European Union, unless the goods are actually just cleared in another EU member state (2). The value to be used to calculate the VAT due when importing goods is the so-called customs value (3). This is not necessarily the same as the price paid for the goods to the supplier.

Customs upon importation

Customs rules are actually a lot simpler than VAT rules. For customs, there is only one taxable event, and that is importation. However, before you get to the importation, there are several options for moving the time and place of the importation or even not having it happen at all. Consider placing the goods under a special customs procedure, such as a customs warehouse, or transit (T1).

But for the sake of convenience, let's stay with "standard importation," or putting the goods into free circulation. I often explain this process as follows:

1. Goods arrive at the border, in a boat, truck or plane.
2. Customs wants to know what goods they are, where they came from, and how much they are worth.
3. The importer indicates this information on the import declaration, and customs verifies it.
4. Because it is virtually impossible for Customs to check all incoming trucks, ships and planes, many checks take place only administratively.
5. Customs determines whether, and how much, import duty must be paid. The importer must pay these to customs, along with the VAT due on importation.
6. After customs approval, the importer gets permission to ship the goods away.

Below is a brief explanation of these steps in the customs process.

Classification, rate and valuation

To determine whether, and how much, import duty is due, Customs will follow the following steps:

1. Classification

First of all, customs wants to know what kind of goods are involved. T-shirts, teacups, or agricultural products: they all have their own customs code. Internationally this code is called the Harmonized System Code (HS Code), in the EU we use the Combined Nomenclature Code (CN Code) (4). Every product in the world can be classified by a particular code. For example, a clothes hanger made of bamboo has the code 4421 91 00, and an electric toy train has the code 9503 00 30.

It is not always immediately obvious which code a particular product has. New products are invented every day, and the classification of these products depends on the material the product is made of, the way it is manufactured, its use or purpose, and many other things. Where I began by saying that customs rules are simpler than VAT rules, you should actually say here that this is not always the case.

An example: A teddy bear can be classified as a "toy. But if the same teddy bear has a Santa hat on, is it suddenly a 'Christmas item'? It's sometimes really fun to read court cases about the classification of products: nothing is what it seems!

Fortunately, it is always possible to ask Customs for a ruling. This can be done by asking for a "Binding Tariff Information" (BTI). This allows the manufacturer or importer of a certain product to ask for a ruling from customs, which establishes the CN code of that product. This BTI does have a certain validity, and customs will not automatically choose the most favorable qualification for the importer. Therefore, it is recommended to call in a specialist if there is ambiguity about the classification of a product.

2. Rate

Once a product is classified, the applicable tariff must be determined. For the EU, the tariffs are set out in a European Regulation (5). The tariffs are regularly revised, so for the most recent overview it is advisable to look up the latest version of the Annex to the Regulation.

However, looking up the CN Code in this appendix you will find only the general rate. This does not mean that this tariff should also be applied automatically. For example, exceptions apply because a product comes from or is (partially) produced in a certain country. This is called the 'country of origin', for which a 'preferential tariff' applies.

As an example, cocoa butter (CN Code 1804) is subject to a general tariff of 7.7%. However, if the cocoa butter was produced in Mexico, a tariff of 0% applies.

Adding ingredients or materials to certain products earlier or later may also result in a lower tariff. For example, consider syrup with sugar, which is subject to a higher tariff than syrup without sugar, and to which the sugar is added later (only after importation).

So the country of origin can make a big difference to the tariff. However, it is necessary to prove this, for example by means of a certificate of origin. Without such a document, the importer pays the normal tariff.

3. Value

As a final step, customs naturally wants to know how much import duty they can levy. To do this, the value of the imported products must be determined. This is not always the price that was paid for the goods or that appears on the supplier's invoice.

Determining customs value follows a number of rules. These are somewhat similar to the rules that apply when determining arms-length value in Transfer Pricing.

The starting point is the price paid by the importer to the supplier, including all costs of insurance, transport, etc. up to the moment of importation. Customs also looks at the agreed delivery conditions, such as the Incoterms used. These determine who pays for the costs of insurance and transport, the supplier or the buyer.

If there is no purchase price, for example when transferring one's own goods, then the value of the same kind of goods, or else that of similar products, can be used. And if there are neither, then other methods of calculation can be considered.

If the value is fixed, and the import declaration has been submitted and accepted, keep in mind that import duties can still be adjusted only in very exceptional cases (6).

By the way, there is a general exemption from import duties for all goods with a value of no more than EUR 150.

If you have had all the classification and tariff discussions first, determining the correct customs value definitely requires an expert. Did I mention that customs is actually no easier than VAT at all?

Reverse importation

The customs value is important for VAT. Once all customs steps have been completed, customs will charge the import duties plus the VAT due on importation. Thus, VAT is calculated after all other duties and taxes have first been added.

Because the import value may differ from the invoice issued by the supplier, it is necessary that not only this invoice, but also the import declaration be included in the importer's VAT records. The importer can only deduct the VAT due on import if he has this import declaration, and if this import declaration is in his name.

In the Netherlands, it is possible to apply for a permit whereby the importer does not pay the VAT due on importation to customs, but instead declares this VAT on his VAT return. This "Article 23 permit" can certainly be of interest to entrepreneurs who regularly import goods, as it has a positive effect on the VAT cash flow.

IOSS

The mentioned exemption from import duties for goods with a (customs) value of less than EUR 150 does not apply to VAT. VAT is due for the importation of all goods, including low value goods.

Certain goods and transactions are exempt from VAT upon importation. One example is the Import One Stop Shop scheme (IOSS). Since July 1, 2021, there has been a general exemption from customs duties and VAT for distance sales to non-entrepreneurs within the EU, for packages with a value of less than EUR 150. However, this requires the supplier to use the Import One Stop Shop scheme. Without this arrangement, all imports are subject to VAT.

Want to know more?

VAT is fun. In some ways, customs is even more fun. But both can lead to many questions for entrepreneurs importing goods from non-EU countries.

We can help you with all your VAT questions. Please feel free to contact us, for example by booking an appointment directly through our website.

At Less Grey, we have the knowledge and experience to help you in the areas of Advice, Compliance and Returns. And if you are interested in IOSS, it is good to know that Less Grey is one of the largest VAT intermediaries in the Netherlands.

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1. Art. 2 EU VAT Directive.
2. Art. 60-61 EU VAT Directive.
3. Art. 85 EU VAT Directive.
4. The HS code and CN code are very similar, but not always quite the same.
5. Council Regulation (EEC) No. 2658/87 of July 23, 1987.
6. For example, a Court of Justice ruling has determined that a retrospective price adjustment, based on a Transfer Pricing adjustment, cannot adjust the customs value of previously imported goods (ECJ C-529/16 of December 20, 2017 (Hamamatsu)). LINK