Value Added Tax in the GCCInsights by industry | Volume 1Retail chapter

Ninety years in the Middle East

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Retailers, VAT and the pricingconundrumQuite apart from the actualimplementation process identified inChapter 2, the introduction of VAT in theGCC poses a serious question for allretailers – should they pass the additionalVAT charge on to their customers?

Indeed, some would say it would beparadoxical not to: why introduce aconsumption tax only for businesses toabsorb it all? But it is never quite as simpleas that.

Who bears the VAT cost?One of the key principles of a VAT systemis that it should be borne by the endconsumer, whether an individual, or anunregistered business. Neither would, as ageneral rule, be in a position to register forVAT and therefore recover VAT incurred ontheir purchases. As a result, VAT willrepresent an additional cost of living ordoing business for those affected.

Retailers that are required to registerbecause they exceed the VAT registrationthreshold (and those that register on avoluntary basis) are required to accountfor VAT on their sales. That is, they areresponsible for collecting the VAT andpaying the net amount of VAT that theycollect to the Taxation Authorities. Thereason we refer to them being required topay the ‘net amount of VAT’ is that they aregenerally entitled to deduct the VAT that

they have paid to other businesses forpurposes relating to their conducting thebusiness of making taxable supplies.

The concept of being required to ‘accountfor VAT’ on their supplies is slightlydifferent from being required to chargeVAT on their sale. This is because one ofthe core concepts of VAT is that it is thesupplier of the goods or services that isresponsible for accounting for the VAT onthe goods or services that it supplies – notthe purchaser. Whether the supplier isable to recover the VAT from thepurchaser on the supplies that it makes(so that it does not reduce its profitmargin) will be up to it to decide, and adecision that the supplier makes based onthe market place that it is in.

It is common practice for retail goods,particularly those that will be sold to finalconsumers, to be priced on a VAT-inclusivebasis, which means that the priceadvertised to the customer includes theVAT element within it (“the price you see, isthe price you pay”). While this is not idealduring the changeover period (fromJanuary 1, 2018), in that customers will seean immediate increase in the price, longerterm it may be better in that it avoids theprice shock that comes with someonebuying goods for, say, Dh100, only to findthat they have to pay Dh105 when theyget to the checkout.

Chapter 3 – Retail industry

Deloitte | Value Added Tax in the GCC | Retail industry

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Deloitte | Value Added Tax in the GCC | Retail industry

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Based on overseas experience, inbusiness to consumer (B2C) transactionswe expect the majority of retailers to seekto increase the price of their goods to takeinto account the additional VAT chargethat they wish to pass on to the consumer.However, retailers should considerwhether this is the best thing to do, andthis is not a ‘one size fits all’ decision.There will be numerous factors that eachbusiness will wish to take into account, notleast of which will be the marketing impactof any such decision.

Retailers’ margins immediately after theintroduction of VAT could be squeezed, inthe event that there is any irrecoverableVAT in the supply chain impacting on theprice of their own purchases. Therefore, itwill be very tempting for retailers to passthis increased cost and the additional VATcharge on to their customers, unless thereare good commercial reasons not to.

At the same time, it has been observed inother countries that have implementedVAT/GST systems, that astute marketersmay increase their prices in the monthsrunning up to the implementation of VAT,for two reasons.

Firstly, they take advantage of the pre-implementation sales rush to obtain extraprofits, and secondly, it allows them someleeway to ‘reduce’ prices after theimplementation in order to accommodatethe VAT that is to be charged. This allowsthem to maintain their long runningaverage margins, while being able to takethe moral high ground by claiming, post-VAT, that they will cover the additional VATcost to the benefit of the consumer- “Youpay the pre-VAT price, and we will pay yourVAT!”

These sorts of schemes are typicallyfrowned upon by the authorities, but inpractice, generate a lot of goodwill

amongst consumers as long as they arenot aware of the pre-implementation pricehike.

Price elasticityGenerally speaking, all other things beingequal, price increases should lead to a fallin demand. Some retailers may actually be better off only passing a smallerproportion (say 50 percent) of theincreased cost on to their customers and suffering 50 percent of the increasethemselves in an effort to retain marketshare. Alternatively, many may, as an initialmarketing ploy, offer to cover the fullamount of the VAT in order to keepvolume of sales at a reasonable levelduring the settling-in period. Clearly thesewill all be commercial decisions that needto be considered.

Much will depend on the price elasticity of the product in the market at that time.When demand is perfectly inelastic (i.e. anincrease in price has no effect on demand)retailers should be able to pass on the fullburden of VAT to the customer. This is,however, seldom, if ever, permanently thecase as there may be a number of otherfactors that could have an impact, albeitfor a short period only. If this is the case,however, retailers should considerundertaking a detailed price modelinganalysis (at least on their large volume, orhigh value stock items) to understandwhat effect the introduction of VAT couldhave on demand for their product. Thiswill help them decide how much, if any, ofthe VAT cost they may be able to pass onto the customer.

Such an analysis could also give theretailer the tools to be able to establishhow much it could limit any priceincreases to, in order to ‘buy’ market sharewithout necessarily engaging in thepractices described above.

Retailers should considerundertaking a detailedprice modeling analysis(at least on their largevolume, or high valuestock items) tounderstand what effectthe introduction of VATcould have on demandfor their product. This willhelp them decide howmuch, if any, of the VATcost they may be able topass on to the customer.

Deloitte | Value Added Tax in the GCC | Retail industry

Not all bad news?A business issue that retailers need toponder is what will happen on the night ofDecember 31 2017? The answer to this isthat any self-respecting budget consciousshopper will consider perhapsaccelerating a purchase, in order toattempt to avoid the VAT cost.

There are some VAT technical points here – will tax point rules mean that,notwithstanding a purchase beingexecuted before January 1 2018, VAT willbe due? And the answer is perhaps incases where actual delivery of the goods is planned to take place on the January 12018 then there may well be special rulesto address this (something an onlineretailer will perhaps be more conscious of, but also those that deliver large itemse.g. furniture etc). However, forstraightforward purchases executedbefore and taken home by the shopper (in a retail environment) the chances areVAT will not be due.

The fact that VAT may be briefly avoidedlike this could make shoppers tempted toaccelerate shopping trips – particularly ifthey are needing to purchase higher valuegoods. In all, probably some businessesmay well encourage this temptation inorder to boost sales and accelerateincome, and each business will have toreview marketing plans to respond to thisactivity. Businesses may also want toconsider product stocking levels(particularly for high value householditems where there is likely to be moredemand), as well as logistics includingsuch things as how many staff will beneeded in the weeks leading up to January 1 2018 and whether to open late on the night of the December 31 2017!

Finally, after the potential boom in the runup, things are inevitably going to be

quieter, and so businesses may also needto consider the financial and operationalissues associated with lower income andlower activity.

Other issues for retailers to consider In many VAT jurisdictions, retailers havespecial rules applicable to the way inwhich they may transact, and these maybe different to those applicable to otherbusinesses. Similar rules may beapplicable for retailers in the GCC, andcould potentially include:

• Different methods of accounting for VAT (special retail VAT schemes);

• Alternative invoicing requirements forgoods under a certain value i.e. asimplified VAT invoice;

• Potentially complex rules for discounts,promotion schemes, loyalty programsand vouchers;

• Special rules for paying a ‘securitydeposit’ for purposes of ensuring that a transaction will be completed;

• Tourist refund scheme criteria andindeed whether such a scheme willapply;

• Treatment of linked products, forexample where one product is zero-

rated, and the other is standard rated;and

• Additional VAT recovery considerationsfor goods sold on finance.

The above list is by no means exhaustive,but is useful to highlight just a few of theadditional considerations that retailersneed to bear in mind when consideringthe impact that VAT implementation willhave on their business.

Retailers should start considering theimpact it may have on their business assoon as possible, so that they can fullyunderstand the implications, and plan andimplement the steps required to be readyahead of the implementation.

One final issue that retailers shouldconsider is the possibility that there couldbe some ‘anti-profiteering’ regulations putin place prior to the introduction of theVAT. This could have an impact on itsability to raise prices for a period followingthe introduction of VAT.

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Businesses may want to considerproduct stocking levels (particularly for high value household items wherethere is likely to be more demand), aswell as logistics including such thingsas how many staff will be needed inthe weeks leading up to January 1 2018

Deloitte | Value Added Tax in the GCC | Retail industry

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