Opting for Opting-In? An Evaluation of the European Commission's Proposals for Reforming VAT on Financial Services*


  • *

    Submitted August 2009.

  • The authors would like to thank Michael Devereux for his helpful comments and discussions on earlier drafts. Earlier versions of this paper were presented at the Seminar on VAT Treatment of Insurance and Financial Services, organised jointly by the Centre for Business Taxation and the European Commission, and held in Oxford on 10 December 2008, as well as at the European Tax Policy Forum (ETPF) Annual Conference, held at the Institute for Fiscal Studies in London on 21 April 2009. The authors are grateful for the comments received at those presentations, as well as for those of the editor, Antoine Bozio, and of three anonymous referees. The Centre for Business Taxation has a number of sources of funding from both public and private sectors, listed on its website at http://www.sbs.ox.ac.uk/centres/tax. This paper forms part of the work undertaken under ESRC Grant RES-060-25-0033. The authors also gratefully acknowledge separate funding from the ETPF for carrying out this research. The views expressed are those of the authors; the Centre has no corporate views.


This paper provides a legal and economic analysis of the European Commission's recent proposals for reforming the application of VAT to financial services, with particular focus on their ‘third pillar’, under which firms would be allowed to opt in to taxation on exempt insurance and financial services. From a legal perspective, we show that the proposals’‘first and second pillars’ would give rise to considerable interpretative and qualification problems, resulting in as much complexity and legal uncertainty as the current regime. Equally, an option to tax could potentially follow significantly different legal designs, which would give rise to discrepancies in the application of the option amongst Member States of the European Union (EU). On the economic side, we show that quite generally, when firms cannot coordinate their behaviour, they have an individual incentive to opt in on business-to-business (B2B) transactions, but not on business-to-consumer (B2C) transactions. We also show that opting-in eliminates the cost disadvantage that EU financial services firms face in competing with foreign firms for B2B sales. But these results do not hold if firms can coordinate their behaviour. An estimate of the upper bound on the amount of tax revenue that might be lost from allowing opting-in is provided for a number of EU countries.