Why and How a Business Should Build a Tax ID Validation Solution

The global digital economy has grown exponentially, and as businesses have expanded their geographical coverage, as well as their business models (for example, marketplaces and platforms), countries have rushed out rules and regulations to identify and tax the revenue being generated through these new means.

These new rules have increased the need for global tax ID validation solutions. Tax number validation is now an increasingly important step in the tax compliance process.

For instance, since 2015, nearly 100 countries introduced value-added tax/goods and services tax rules to tax cross-border sales of digital services. That means that companies need to know whether a transaction is with a VAT/GST registered taxpayer to apply the correct tax treatment. Countries are also introducing “digital reporting requirements"—an umbrella term to capture e-invoicing and digital reporting rules. In most cases, it isn’t possible to report a transaction without an accurate and valid tax ID.

Similarly, countries are imposing obligations on digital platforms and marketplaces to share data about the activities of sellers operating on them. And while not new, it’s worth remembering that all tax authorities expect businesses to have adequate processes and controls to protect themselves—and, by extension, government revenues—against tax fraud.

Not carrying out tax ID checks means it’s almost impossible to meet the above obligations. For example, failing to correctly identify the tax status of a counterparty to a transaction can lead a business to charge too much (or too little) tax on cross-border sales. Ultimately, the business bears the cost of uncompetitive pricing or paying taxes out of its own pocket. With consumption taxes globally being around 15% to 20%, this can quickly wipe out profit margins. Failing to capture the right tax data often also leads to problems in the reporting stages under digital reporting rules.

Similarly, not checking a vendor’s tax ID can result in a business paying and attempting to input taxes that were charged incorrectly or fraudulently. This could lead to the business being saddled with the cost of these input taxes as well as the consequence of failing to implement an appropriate process, along with the dents to its public reputation caused by accusations of tax fraud and evasion.

Finally, skipping validations at the onboarding stage can result in digital platforms and marketplaces sharing inaccurate tax data with authorities. Even if it could mitigate the fines, a business will still need to allocate costly internal resources—data analysts, tax specialists—to fix the issue.

To prevent this, a business needs a tax ID validation solution that provides enough information to correctly apply consumption taxes, recover input taxes, and share data. Many companies are tempted to develop their own in-house system—here’s what they need to know before they start building their own tax ID validation solution.

Before Building Your Own Tax Identification Solution

Before starting, you need to determine why, when, and where you would need to validate a tax identification number, or TIN.

Why? Do you want to ensure you are recovering tax that was charged by properly registered vendors? Or are you focused on correctly calculating taxes on your sales? Perhaps you are more concerned about sharing accurate data with tax authorities and need it to be verified before it is submitted?

Understanding why will identify the types of tax IDs you need to validate. This is important because some numbers are more complex to validate than others—VAT and GST IDs are the easiest, while individual personal tax IDs are much harder.

When? You need to determine when you should be running the checks—at checkout or onboarding? Or before sharing data with authorities?

Knowing when you want to validate highlights how complex your needs are. For example, instant validation at checkout or onboarding requires a different technological solution with a low latency and, most importantly, internal developers to implement the solution into your processes. The near real-time nature of this validation will likely require continuous monitoring—failures at checkout will likely cost your business sales. In contrast, performing periodic bulk validations doesn’t require this level of vigilance.

Where? Ask yourself where you need to validate numbers—in which countries and territories? Understanding this is crucial because there are no global standardized connections to government databases and no common input/output formats. The more countries you add, the more complex your internal solution building will become.

If you’re a business operating only within Europe and concerned with filing the EC Sales List, an internal solution may be perfectly feasible because then you’re not exposed to the international complexity around the different databases, integrations, inputs, and outputs. Building a solution that covers India, Brazil, Italy, and Canada involves significantly more work. Either way, you need to carefully assess and understand what technical (engineering) resources you will need and whether they’re committed to maintaining your solution going forward.

Once you have this established, measure your needs against your current tools and processes—perform a gap analysis. Look at your available resources too; do you have someone who is technically capable on your team or within the organization that can build, monitor and maintain this type of tool? Are they available for your project both now and in the future? Compare your internal options to what’s available on the market.

Deciding Whether to Build or Buy

Here is a simple cheat sheet to help guide a build or buy assessment:

If, after weighing the relevant factors, you conclude you want to build, it’s time to get to work. We will share more on how to do this in our next article.

This article does not necessarily reflect the opinion of Bloomberg Industry Group, Inc., the publisher of Bloomberg Law and Bloomberg Tax, or its owners.

Author Information

Alexander Kobakhidze (AKo) is Global Tax Technology Director with Fonoa.

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