Understanding VAT
VAT or Value-added Tax is a tax imposed by the government on the sale of goods or services to the customers. Unlike sales tax, which is typically applied only at the point of sale to the end consumer, VAT is collected incrementally at each stage of the supply chain where value is added, starting from the production.
Read in Detail about VAT (Value Added Tax)
The tax is charged on the gross sale price of goods or products at every level such as production, distribution etc, every level is taxed after evaluation.
Example of VAT
VAT formula: Output Tax – Input Tax
- Manufacturer sells a toy car to a retailer for ₹200 + 10% VAT (₹20), totaling ₹220. The manufacturer collects ₹20 VAT from the retailer and pays it to the government.
- Retailer buys the toy car for ₹220 (including ₹20 VAT) and sells them to the consumer for ₹300 + 10% VAT (₹30), totaling ₹330. The retailer collects ₹30 VAT from the consumer but can claim ₹20 as an input tax credit (the VAT paid to the manufacturer).
- Therefore, the retailer pays ₹30 – ₹20 = ₹10 to the government.
Advantages of VAT
- Reduced Cascading: VAT prevents the cascading impact of tax-on-tax. Each business can recover VAT on inputs, ensuring that tax is only levied on the value added.
- Transparency: VAT is transparent since it is visible at every point of the supply chain, which helps to prevent tax fraud when compared to other taxes.
- Encourages Exporting: Exports are frequently zero-rated for VAT purposes, allowing enterprises to refund VAT on inputs used to make exported goods, increasing their international competitiveness.
Benefits of VAT: Government, Trade, Consumer
- Government: VAT is a significant source of revenue for many governments, providing a steady and predictable stream of income.
- Trade: Since VAT is a uniform tax, it becomes easier for the taxpayers to assess their taxes on their own.
- Consumer: The cost of goods and services reduce due to the removal of tax on tax.
