Who is affected?
When you created your account, you have filled in the country you live in. If this country is one of the 25 members of the European Union (EU), you are affected. The residents in the EU make up about 39% of all active accounts in SL (more statistics here).
Is Linden Lab correct in applying VAT?
Basically, yes. Back in 2002, the European Council decided that online services provided by non-EU countries are taxable in the EU state where they are consumed. The location of the servers, or statutory location, or address where the bills are coming from is not relevant. They consulted experts (and I bet they talked to tax authorities as well) concluded that if you live in an EU country, the service is consumed there. You have a browser on your local computer that is needed for the service to be rendered, or consumed as they say, and that alone is enough to consitute this fact.
Should we, or LL, pay back taxes?
The EU rule came into effect not long after the EC directive was issued. I believe it was sometime in 2003. This means that taxes should actually have been paid since then. But if we, the consumers, should have paid back taxes, LL would already have said so. Linden Lab has not said anything to date about this, so it is unknown how this works. They have probably paid those back taxes themselves (it would be a gargantuan administrative job to get all those taxes from their residents, especially where residents already have left SL. Or they might have made a deal with the tax authorities of the EU.
What effects does this have, financially?
Everyone in the EU has to pay taxes on their account fees and privately owned island fees (tier). The tax rate that you have to pay depends on the EU country that you reside in. Most of the countries have tax rates varying around 18-20%, some of them are lower (Cyprus 15%, Spain 16%) or much higher (Denmark 25%, Sweden 25%). Unless you have a company in Real Life that pays the bills (with a VAT id-number, in which case you can get them reimbursed), the prices are just increased by the applicable VAT rate.
But mind you, with the current exchange rate between the US dollar and the Euro, things are cheaper for Euro-users anyway. So that might make it a bit easier to accept.
And there is another aspect. If EU based people have to pay more maintenance fees for their sims (up to US$800 per year), they will have to get reimbursement. So the EU based sim owners will have to offer their land for resale or lease at a higher price than non-EU residents. That creates unfair competition.
Why all the outrage?
It comes naturally when people have to pay more. Especially when there is a price increase between 15 and 25%. However, what bugs most residents, is that there was no kind of advance notice. Some residents even received the email after the VAT was charged to them. And apparently, LL have been planning this for a while already.
On top of that LL does not seem to care about cultural differences between the USA and Europe. In the USA it's more common to advertise prices excluding taxes. In Europe, however, it's good custom to show prices including taxes. So even if people were assuming they were already paying taxes, it must have been calculated into the price already. Or at least should be now. On the other hand, this would pose a big problem for Linden Labs, because they would see their revenues go down a lot, and they would have to change pricing anyway, which would be unfair to the other 2/3 of the residents.
What's behind this?
Obviously, Linden Lab is obliged to do this. However, considering the lack of advance notice, and the way they handled this alltogether, seems to make clear that they don't care about their European residents as much as they care about the USA based residents. Could this have to do with the fact that European people are a pain in the butt already? Protesting the ban on gambling for instance? Or could it have to do with the fact that LL is getting Second Life ready to link to other virtual worlds? Who knows ...
Conclusion
The course of action around this VAT issue has upset a lot of residents. However, it is doubtful that a lot of people will leave Second Life over it, if any. But it will hurt the in-world economy, with the unfair competition issue at hand, as stated above. People will think twice before buying a sim of their own, or even increasing the land allowance on their premium accounts.
Other media
The Life4U Second Life tv station has already done an issue about this. I personally gave an interview about VAT, from my perspective as EU based resident, sim owner and accountant (my RL job). And of course every paper has spent at least some effort to cover the VAT changes.
Linden Lab was unavailable for comments so far.