Value-added tax (VAT) fraud: A cross-border commerce concern

Value-added tax (VAT) fraud is a growing problem in many parts of the world and poses threats to cross-border retail.

EU countries lost €137 billion in VAT revenues in 2017 according to a European Commission study. The “VAT Gap”, or the overall difference between the expected VAT revenue and the amount actually collected, has prompted EU legislators to look closely at the issue to prepare fraud-proof policies that protect this essential form of revenue for the entire continent.

Retailers face multiple dangers with VAT fraud, from trying to create friction-free shopping experiences for their customers while prioritizing fraud protection to losing out on millions in revenue from professional VAT fraud rings.

Here’s a primer on what VAT fraud is, how it’s becoming a worldwide threat and solutions for retailers to fight this type of fraud.

The global impact of value-added tax

To understand value-added tax fraud, you have to know what value-added tax (VAT) is in the first place. Investopedia explains VAT this way:

Value-added tax is a consumption tax levied on products at every point of sale where value has been added, starting from raw materials and going all the way to final retail purchase. Ultimately, the consumer pays the VAT; buyers at earlier stages of production receive reimbursements for the previous VAT they’ve paid.

It might be easier to see how VAT fraud happens when you calculate the percentage of total cost. Here’s a common expression of VAT from Investopedia:

If a product costs $100 and there is a 15% VAT, the consumer pays $115 to the merchant. The merchant keeps $100 and remits $15 to the government.

VAT is calculated on every purchase in every territory that uses this taxation system. The economic impacts cannot be understated. According to the Organisation for Economic Co-operation and Development (OECD) website, 165 countries operated a VAT system by the end of 2016, and consumption taxes like VAT drive 32% of tax revenue among OECD countries.

It’s clear how much is at stake with VAT fraud. Understanding how these fraud schemes work can help merchants avoid VAT gap penalties and better prepare for issues and problems from dishonest suppliers and wholesalers.

Navigating the maze of VAT fraud: Insights from the front lines

In the ever-evolving landscape of VAT fraud, a recent case spearheaded by Europol stands out, not just for its scale—a staggering €38 million—but for the intricate web of deceit it unveiled. As someone deeply immersed in the world of ecommerce fraud prevention, I find this case particularly instructive. It’s a vivid illustration of the complexities and challenges that businesses and law enforcement face in the realm of VAT fraud.

The Complex Web of VAT Fraud

At the heart of this case was a sophisticated VAT fraud scheme, a type of crime that’s becoming increasingly common in our digital age. VAT fraud isn’t just a matter of simple tax evasion; it’s often tied to organized crime, involving multiple entities across various jurisdictions. This case was no exception. The fraudsters created a labyrinthine network of transactions designed to evade detection, exploiting the intricacies of the VAT system to their advantage.

The Strategy: Collaboration and Advanced Investigation

Tackling such a complex scheme required a nuanced approach. Europol, in collaboration with local law enforcement agencies, demonstrated the power of cross-border cooperation. The strategy was twofold: first, to untangle the complex financial web spun by the fraudsters, and second, to track down and apprehend those responsible. This required advanced investigative techniques, likely including data analysis and forensic accounting, to follow the money trail through multiple countries and legal jurisdictions.

The Outcome: A Victory for Law Enforcement

The arrest of five suspects in this case was a significant win in the ongoing battle against VAT fraud. It underscored the importance of vigilance and collaboration in the fight against financial crime. For businesses, this case is a reminder of the need to stay ahead of the curve in fraud prevention. It’s not just about protecting revenue; it’s about safeguarding the integrity of our financial systems and the trust of our customers.

This case is a textbook example of the challenges and complexities inherent in combating VAT fraud. It highlights the need for businesses to be proactive and for law enforcement agencies to work collaboratively across borders. As we continue to navigate this challenging landscape, let’s take the lessons from this case to heart and stay one step ahead of the fraudsters.

VAT fraud schemes are the silent economic killer

VAT fraud that involves goods crossing borders within the EU costs governments €50 billion per year, according to Pierre Moscovici, Commissioner for the EU’s Economic and Financial Affairs Taxation and Customs Division.

This type of cross-border financial fraud makes up a significant portion of the total losses from the VAT gap. When consumers make a purchase within their own country, they pay VAT. However, when consumers buy products from another country, the sale is exempt from VAT. While this fine difference is legal, it makes fraud very easy.

An EU-based company can buy ecommerce goods in another EU country without VAT and then sell those goods legally, including VAT, in its own country. The company pockets the cash from the sale without paying it back to its own tax administration. These companies frequently disappear without ever undergoing an audit. With the exploitation of this loophole and a lack of proper auditing, such schemes can go on over and over again, even selling the same goods in some instances.

VAT schemes often start small, like when unethical businesses and sellers avoid paying VAT and, in some cases, claim refunds for VAT that they never pay. Criminal organizations build up fraud rings to pull off bigger VAT gap heists. No matter the size of the operation, VAT fraudsters know what they’re doing. They use methods and strategies to conceal their fraudulent activities as early as possible in their transactions. By the time governments of VAT-administering countries catch on to the scheme, the criminals are long gone and off to their next heist — while governments spend huge amounts of money on investigations that go nowhere.

Understanding and combating VAT fraud: Insights from Signifyd

In the dynamic world of cross-border commerce, VAT fraud presents a significant challenge, and Signifyd’s insights offer valuable guidance for merchants. Their blog post on VAT fraud provides a comprehensive overview of the issue, highlighting key data and trends that can help merchants enhance their fraud prevention strategies.

The VAT fraud landscape

• VAT Revenue Loss: EU countries lost €137 billion in VAT revenues in 2017, as reported by the European Commission. This “VAT Gap” – the difference between expected and actual VAT revenue – is a major concern for EU legislators.
• Evolving Fraud Rings: Professional thieves operate VAT fraud rings, constantly adapting to stay ahead of detection methods.
• New VAT Rules: The European Commission’s new VAT rules for ecommerce, effective from January 1, 2021, aim to facilitate cross-border trade, combat VAT fraud, and ensure fair competition.

The impact and mechanics of VAT fraud

• Global Reach: With 165 countries operating a VAT system, the economic impact of VAT fraud is substantial. It accounts for 32% of tax revenue among OECD countries.
• Cross-Border Fraud: VAT fraud involving goods crossing EU borders costs governments €50 billion per year. The legal distinction between domestic and cross-border VAT creates opportunities for fraud.
• Common Schemes: Carousel schemes and fictitious traders are prevalent methods of VAT fraud. These involve complex chains of transactions and fake companies set up to exploit VAT loopholes.

Strategies for merchants

• Awareness and Vigilance: Understanding common VAT fraud schemes is crucial for merchants. This knowledge helps in identifying potential risks and implementing preventive measures.
• Monitoring Supply Chains: Merchants should be cautious of offers that seem too good to be true, newly established sellers, and unusual payment arrangements.
• Reporting Suspicious Activities: Any dubious observations should be reported to local tax administrations to protect the merchant’s reputation and contribute to broader fraud prevention efforts.

VAT fraud is a complex issue with far-reaching implications for cross-border commerce. Signifyd’s insights into this problem provide merchants with crucial information to safeguard their operations. By staying informed and vigilant, merchants can play a significant role in combating VAT fraud and protecting their businesses.

Harnessing Technology to Combat VAT Fraud: A Deep Dive into Signifyd’s Approach

In the intricate dance of ecommerce, VAT fraud poses a unique challenge, one that we at Signifyd take seriously. While my previous discussion on VAT fraud laid the groundwork for understanding its impact, I’d like to delve deeper into how we, at Signifyd, employ cutting-edge technology to detect and prevent this pervasive issue.

Advanced Data Analytics: Our first line of defense

At Signifyd, we believe in the power of data. Advanced data analytics form the backbone of our approach. By meticulously analyzing transaction data, we uncover patterns that are invisible to the naked eye. This isn’t just about looking at numbers; it’s about understanding the story they tell. Our machine learning algorithms, trained on vast datasets, are adept at identifying anomalies that often signal VAT fraud.

Behavioral Analysis: Understanding the human element

Fraudsters are clever, but they’re not infallible. Their behavior often betrays them. We use behavioral analysis to scrutinize how buyers and sellers interact in the ecommerce space. Unusual patterns, such as sudden spikes in transaction volume or irregular purchasing patterns, often raise red flags that our systems are trained to detect.

Network Analysis: Unraveling complex relationships

VAT fraud, especially in cross-border transactions, is rarely a solo act. It involves networks of entities, often intricately linked. Our network analysis tools are designed to map out these connections, revealing the hidden structures of fraud rings. By understanding these networks, we can pinpoint fraudulent activities even amidst complex transactional webs.

Real-Time Monitoring: Staying a step ahead

In the fast-paced world of ecommerce, time is of the essence. Our real-time monitoring systems are always on, vigilantly scanning transactions as they happen. This allows us to act swiftly, mitigating the impact of fraudulent activities and protecting our clients proactively.

Collaborative Efforts: Strengthening our shield

We don’t operate in a vacuum. Collaborating with tax authorities and law enforcement agencies enhances our capabilities. This synergy not only broadens our understanding of VAT fraud but also aids in developing more robust detection mechanisms.

The path of continuous evolution

The landscape of VAT fraud is ever-changing, and so are our methods. We believe in continuous learning and adaptation. Our systems evolve with each new piece of data, becoming smarter and more efficient in identifying and combating VAT fraud.

At Signifyd, our approach to tackling VAT fraud is multi-dimensional and ever-evolving. We harness the power of technology not just to keep pace with fraudsters but to stay several steps ahead. It’s a commitment we uphold diligently, ensuring that our clients can conduct their business with confidence and security.

How the most notorious VAT fraud schemes work

Legislators chasing down VAT fraud criminals and merchants dealing with shady suppliers face the same challenges: VAT fraud schemes are complex operations run by clever professionals. They’re hard to catch and even harder to recover from. Merchants can stay ahead of the curve by becoming familiar with some of the most common VAT fraud schemes.

The carousel scheme

Perhaps the most well-known fraud scheme associated with VAT is the carousel scheme: a fraudulent trader imports goods VAT-free and sells the goods to a company controlled by a known accomplice who charges the VAT. That company sells the goods through a series of unwitting companies, each liable for VAT, before the goods are finally exported. At this point, the first link in the chain disappears without reporting the VAT on charges to the consumer, then the final link vanishes once it has reclaimed the VAT associated with the tax agency.

VAT scams are more common than you think. Reuters reported on a 2003 carousel scheme where 12 people were arrested in a £25 million computer chip scam.

Fake or fictitious traders

Traders set up fictitious enterprises and register them for VAT to make false commodity purchases and sales. The goal is for the fake company to have grounds for VAT-related refund claims. Not only are the companies fake, but they also fake export invoices. These fictitious traders usually do not stay in business long, as their goal is to make fast profits and disappear quickly.

A London grocer used this scheme to register seven fake companies and make £120,000 in VAT repayment claims between March 2011 and April 2014. The majority of the companies did very little business, while two had never traded at all, according to BusinessAdvice.co.uk.

Other VAT fraud schemes include inflated refund claims, domestics sales posing as export and underreported sales.

Local law enforcement often has its hands full with VAT fraud criminals. European governments are working on their answer to the problem.

Upcoming legislation will help businesses avoid VAT problems and find new solutions

EU officials are eager to get more involved in the fight against VAT fraud, as VAT’s revenue stream is key to economic success throughout the region. The European Commission has been working on rules to combat VAT fraud since 2015. As VAT fraud schemes evolve, policy must keep up. The latest update to the EC’s VAT rules include a specific ecommerce package set to go into effect in 2021.

Here’s a few ways the new rules should address the VAT gap:

• Reduce cross-border VAT compliance costs 
• Facilitate greater cross-border trade opportunities
• Provide equal footing for EU businesses to compete with non-EU businesses that don’t charge VAT

A more fair trading environment places emphasis on discouraging — not penalizing — dishonest accounting that contributes to the VAT gap. These rules should make it easier for merchants to choose doing the right thing over breaking the law.

The EC predicts a €7 billion increase in VAT revenues annually as a result of the new ecommerce package rules.

Most of this piece has been about the EU’s concerns and solutions surrounding VAT fraud. While it’s true that VAT fraud is primarily a European problem, cross-border commerce means that everyone in retail is connected: buyers and sellers alike. Everyone involved in international retail has a role to play in fighting VAT fraud.

Get smart about VAT fraud 

As a business owner, you must be aware of the ethics of your business partners and associates. One bad association could put you in the middle of a VAT scheme. Here are a few characteristics of fraudulent activities to monitor in your supply chain, organization and other key aspects of your business:

• A business offer that seems too good to be true, especially when unsolicited.
• A brand new seller that has only been recently established or registered.
• A seller insisting that even large amounts should be paid in cash.
• Any other suspicious payment arrangements.

Business owners should report any suspicious observations to the local tax administration. It’s essential to protect your good name and reputation, especially when doing business across borders.

Cross-border commerce can be tricky enough on its own. Adding VAT fraud schemes to the list of complications only makes it more so. We hope this primer on how to avoid VAT fraud helps put you on firmer footing.

photo courtesy of iStock Photo