How Smart Policy Can Unlock VAT’s Revenue Potential

Why It Matters

Bridging the gap would deliver a major fiscal windfall for member states and strengthen the EU’s own‑resources funding, while simplifying the tax system and reducing regressive effects.

Key Takeaways

• Actionable VAT policy gap €773.5 bn in 2024
• VAT accounts for ~20% of EU tax revenue
• Eliminating exemptions could raise EU revenues by 37%
• Standard VAT rate could fall to 15.4% EU‑wide
• Digital services VAT grew to €33 bn in 2024

Pulse Analysis

Value‑added tax remains the EU’s most potent source of public finance, contributing about 20 % of national tax revenues and roughly 9.5 % of the Union’s own‑resources budget. Yet the European Commission’s latest analysis reveals an actionable policy gap of €773.5 billion in 2024 – six times the size of the compliance shortfall. The gap is split between a 12‑percentage‑point rate gap, driven largely by reduced rates on food, hospitality and transport, and a 15‑percentage‑point exemption gap tied to health, education and financial services. These distortions suppress potential revenue across most member states.

Eliminating the distortive reduced rates and exemptions would not only raise VAT collections by an estimated 37 % EU‑wide, but also allow the standard rate to fall by an average of 5.7 percentage points to around 15 %. Such a base‑broadening approach would simplify compliance for businesses, reduce administrative burdens, and create a more neutral consumption tax. For lower‑income households, targeted cash transfers or tax credits would be a more effective means of achieving equity than blanket reduced rates, which research shows often have regressive outcomes.

The fiscal upside extends to the EU budget itself: a closed policy gap could generate up to €773 billion, equivalent to four times the 2026 EU budget, reinforcing VAT as a stable own‑resource. Digital‑services VAT reforms already lifted EU collections to €33 billion in 2024, demonstrating the revenue potential of a modernized VAT framework. Policymakers therefore have a clear, politically viable path – broaden the VAT base, phase out digital services taxes, and replace broad exemptions with focused social measures – to secure long‑term fiscal resilience.