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14.1.1.  The fiscal neutrality in the EU internal market

    If the member states of a common market had absolute freedom in the fiscal field, they could very quickly replace the customs barriers to trade by tax barriers. They could in fact, while lowering their customs duties in accordance with the timetable laid down by the Treaty, raise their domestic taxes in such a way that the total burden on imports remained unchanged. It was therefore necessary that indirect taxes, in particular turnover tax, have no influence on intra-Community trade flows. In other words, fiscal neutrality between domestic production and imports from the partner countries was needed [see section 14.2].

    In order to guarantee fiscal neutrality in the internal market, the Treaty on the functioning of the EU states that no Member State shall impose, directly or indirectly, on the products of other Member States any internal taxation of any kind in excess of that imposed directly or indirectly on similar domestic products. Furthermore, no Member State shall impose on the products of other Member States any internal taxation of such a nature as to afford indirect protection to other products (Article 110 TFEU, ex Article 90 TEC). Where products are exported to the territory of any Member State, any repayment of internal taxation shall not exceed the internal taxation imposed on them whether directly or indirectly (Article 111 TFEU, ex Article 91 TEC). The Council shall, acting unanimously in accordance with a special legislative procedure and after consulting the European Parliament and the Economic and Social Committee, adopt provisions for the harmonisation of legislation concerning turnover taxes, excise duties and other forms of indirect taxation to the extent that such harmonisation is necessary to ensure the establishment and the functioning of the internal market and to avoid distortion of competition (Article 113 TFEU, ex Article 93 TEC).

    However, fiscal neutrality is not an easily attained objective. To secure fiscal neutrality in a customs union the turnover taxes of the country of origin or of the country of destination would have to be imposed on all goods. If the rule of the tax of the country of origin were adopted, there would be a danger of creating trade flows based artificially on the difference in the taxes rather than on the difference in comparative costs, but there would be pressure on the Member States to approximate the rates of their taxes, and fiscal frontiers could be removed, as imported goods would already have paid taxes at the rate of the country of origin. If, on the other hand, the system of the tax of the country of destination were applied, production could be concentrated where the comparative economic advantages were greatest rather than where taxation would be lower, as all products in competition on a market, whether of domestic origin or imported, would be uniformly subject to the tax on consumption in force on that market. However, under that system the tax barriers would have to be maintained in order to levy the taxes of the country of destination on imported goods and the Member States would not be encouraged to approximate the rates of their taxes. This was the price, which the founding Member States, in light of the low level of integration of their economies, paid in opting for the system of taxation in the country of destination [see section 14.2.2].

    Even if the system of the tax of the country of destination were imposed uniformly, fiscal neutrality could still not be ensured if some countries in the common market applied a system of cumulative multi-stage turnover tax, which was the case in five of the original six Community countries. Under that system tax was levied on the product for each transaction and therefore its total size was not only a function of its rate but also of the number of transactions which had been carried out up to the stage of final distribution. A product was therefore taxed less heavily if it was manufactured by a vertically integrated undertaking (firm, business) than where it was manufactured and distributed by various small firms. It is immediately evident that such a system would distort competition in the common market by favouring integrated large companies originating in certain member countries or third countries. In addition, such a system would not make possible genuine fiscal neutrality in intra-Community trade, as it would be very difficult to monitor each product at every stage of manufacture and distribution in order to ascertain the exact amount of the tax it had borne.

    Recognising this difficulty, Article 97 (now repealed) of the EEC Treaty allowed Member States which levied a turnover tax calculated on a cumulative multi-stage tax system to establish average rates for products or groups of products in the case of internal taxation imposed by them on imported products or of repayments allowed by them on exported products. But the Treaty did not provide any rule for establishing average rates. It merely prohibited taxation of products of other Member States in excess of that imposed on similar domestic products (Article 95 EEC, present Article 110 TFEU) and repayment of internal taxation on products exported to Member States at a rate that exceeds the taxation actually imposed (Article 96 EEC, present Article 111 TFEU). Those were ceilings inside which the Member States were at liberty to establish the average rates of their multi-stage taxes. They soon found out, however, that fiscal neutrality could not be obtained with the multi-stage taxes and that these had to be replaced by a value added  tax [see section 14.2.2].

    In addition, there existed important specific taxes on consumption, known as excise duties, whose structures and levels varied greatly in the countries of the Community. Those differences stemmed not only from historic reasons, but also from economic and social ones. Given that the main reason of existence of excise duties was their yield, States had a tendency to impose higher levels on certain products of major consumption, and those products were not necessarily the same in every State. Some goods were regarded as luxury products in some States but not in others. Moreover, if a Member State of the Single Market taxed heavily certain products which are dangerous to health, such as alcoholic drinks, in order to restrain their consumption, whereas another country preferred to attack other products, such as tobacco products, illegal traffics might develop between the two countries frustrating the objectives of both. Be that as it may, the differences between Member States in excise duty structures could give rise to significant disturbances in conditions of competition, especially where products heavily taxed in one State mainly came from the others. In such instance consumption naturally moved towards lower-taxed alternative products, as is the case of wine and beer. In the interest of the proper functioning of the common market and the attainment of the Community agricultural, energy and transport objectives, the structures of those taxes needed to be harmonised [see section 14.2.3].

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