Dubai: With recent speculation about the pending introduction of a Value Added Tax (VAT) in the UAE (and ultimately in all Gulf Cooperation Council countries), it is timely to briefly outline the main reasons for the introduction of VAT, how a VAT operates and what its implementation will mean for businesses in the UAE.

Just as the UAE has sought to diversify its economy away from oil, there's a strong case to diversify its revenue away from oil dependency too. A stable, secure and growing revenue source will assist the government in better planning and financing public expenditures in the future.

From a fiscal policy perspective most Gulf states have a significant dependence on oil revenues, which can be particularly challenging in an environment in which oil prices fluctuate dramatically. The movement in oil prices over the past three months serves as a vivid example of this point. The introduction of VAT is an option available to address this issue.

In addition to the need for a more stable source of revenue, the UAE has commenced negotiations with some of its major trading partners to enter into Free Trade Agreements. Subject to these negotiations being successful, the result will be the removal of customs duties on goods imported into the UAE from those countries.

As a consequence, the reduction in revenues from customs duties will need to be recovered through some other revenue initiative. The introduction of a VAT would also serve this purpose.

VAT is a broad-based self-assessed consumption tax that is levied on goods and services supplied in the course of a business undertaking. VAT also applies to imports.

The key feature of VAT is that it is not designed to be a cost to business, but rather the cost is borne by the ultimate end consumer of the goods or services. This outcome is achieved by allowing business a credit offset for the VAT that they incur on their purchases related to providing their goods or services.

Whilst the VAT rate for the UAE has not been officially announced, it has been reported in the media that it is likely to be low, in the 3-5 per cent range.

Today, VAT is in operation in approximately 150 countries, where it is a major and growing source of revenue in most jurisdictions.

How does VAT operate?

VAT is charged on the supply of goods and services by registered businesses on behalf of the Tax Administration. This VAT is commonly termed 'Output VAT'. Registered businesses have an entitlement to deduct the VAT paid on their purchases, commonly termed 'Input VAT', against the 'Output VAT' charged. The net of these is the amount actually remitted to the Tax Administration.

It is common for there to be a turnover threshold before a business is required to register and, therefore, be brought into the compliance net. Reports in the media have indicated that the threshold in the UAE is likely to be set at a relatively high level compared to overseas VAT jurisdictions (possibly $1 million (Dh3.67 million). Therefore, small businesses, such as small retailers or service providers, with a turnover below the threshold will not be required to register for VAT purposes.

It is important to stress that while the introduction of a VAT will present businesses with many implementation challenges, once in place it will become a regular part of doing business. In fact, VAT implementation will provide businesses with an opportunity to think about how they are currently doing business and to address any inefficiencies that may be present in their existing business processes.

The key issue for VAT implementation is to commence preparations early. Worldwide experience has shown that those businesses that commence their VAT implementation projects early have a much smoother implementation process and a better track record for compliance post-implementation.

It is true that businesses do not have control over the final implementation date, however the start date for the project is at their discretion. Start as early as possible.

A VAT implementation project needs to have the involvement and support of senior executives to implement the change project as a 'whole of business' engagement.

The transition to VAT is likely to require significant resources. Businesses should give thought to the following 'Four Key Considerations' well in advance of VAT implementation:

1. Scoping, planning and lead times - assign responsibility to understand what is required to be done, which ultimately will lead to the development of a structured and comprehensive plan for implementation.

2. Internal and external resourcing - determine the resources required to implement the plan and have a clear understanding of those that can be sourced internally and those required to be sourced externally.

3. Enterprise systems - business enterprise systems will need to be adjusted to incorporate all aspects of VAT implementation. This will include enterprise systems and processes, such as, point of sale terminals, invoice, accounting and financial systems, management reporting and any other information technology used in your business for completing sales and purchases.

4. Ongoing compliance - establishing the systems and processes for VAT implementation is the first step. There is a need to continually monitor the systems and processes to ensure ongoing compliance.

It cannot be stressed strongly enough that getting the process right up front will result in cheaper and easier on-going compliance. From my experience, a successful VAT implementation will see an automated system that has been fully embedded in the business process.

- David Stevens is tax partner, Middle East Indirect Taxes and Ine Lejeune is tax partner, Global Indirect Taxes Network, PricewaterhouseCoopers