CONCEPT OF VAT AND ITS IMPACT

SUBMITTED BY:
Aditya Bhardwaj
B.A., LL.B.
Roll No: 1705
Fourth Year

SUBMITTED TO:
Dr. G.P. Pandey
(Asst. Professor of Law)

RESEARCH PAPER SUBMITTED IN THE PARTIAL FULFILMENT OF THE COURSE

TITLED TAXATION LAW-II FOR OBTAINING THE DEGREE OF B.A., LL.B. (Hons.)

October 2020

CHANAKYA NATIONAL LAW UNIVERSITY, PATNA

NYAYA NAGAR, MITHAPUR, PATNA- 800001

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 ACKOWLEDGEMENT

I owe a great many thanks to a great many people who helped and supported me during the
writing of this research project.

I wish to express my deep appreciation to my teacher ,Dr. G.P. Pandey, Assistant Professor of
Law, for his guidance and persistent help without which completing this research would not
be possible.

I would also thank my Institution and my faculty members without whom this project would
have been a distant reality. I also extend my heartfelt thanks to my family, seniors and friends
for their continuous support and advice helping me to complete my project.

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 CONTENTS
ACKOWLEDGEMENT ........................................................................................................................... 2
INTRODUCTION ................................................................................................................................... 4
AIMS AND OBJECTIVES........................................................................................................................ 6
RESEARCH METHODOLOGY ................................................................................................................ 6
LIMITATION ......................................................................................................................................... 6
REVIEW OF LITERATURE...................................................................................................................... 6
CHAPTER-1. METHODS OF COMPUTING VAT ..................................................................................... 9
CHAPTER-2 EFFECT OF VALUE ADDED TAX ON SOCIETY .................................................................. 11
CHAPTER-3. FINANCIAL IMPACT OF VALUE ADDED TAX ON DIFFERENT SECTORS .......................... 13
CHAPTER-5. CONCLUSION................................................................................................................. 16
BIBLIOGRAPHY .................................................................................................................................. 17

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 INTRODUCTION
Indirect tax system plays an important role in the economic development of a country by
influencing the rate of production and consumption. The Government of India has after
committing to the World Trade Organization (WTO) regime, decided to modernize and
streamline its indirect taxation, in the light of the experience of other WTO member
countries. Value Added Tax (VAT) means the tax which is payable only on value-added. It is
multi-point tax system but without the effect of double taxation.

Value is added to the products, which an organization buys from other organizations such as
raw materials, partly finished goods etc. After buying the organization applies its own labour
and machine to manufacture the final products. VAT is a tax, which is imposed
at every stage of production ie., from production level to retail level. Under VAT tax is
calculated on value Added where value added is the difference between sales value and
purchase value.

The VAT as a system of tax, conceptually, has been of great interest among the early writers
in public finance. In this research, project researcher tries to explain the concept of VAT,
their procedures, challenges among the Indian environment and opportunities
which are available under this regime. Initially, all states were to move to VAT system by
2000, but administrative problems and concern over the revenue implications of the change
delayed the scheduled implementation. It was postponed five times before implementation.
In fact, the introduction of a full-fledged VAT in India seems to present numerous
administrative and constitutional difficulties, including the vexed question of Union-State
relations.

In addition to this, implementing VAT in India in context of economic reforms has

paradoxical dimensions. On one hand, economic reforms have led to more decentralization of
expenditure responsibilities which in turn demands more decentralization of revenue raising
powers if fiscal accountability is to be maintained. But on the other hand, the process of
implementation of VAT can lead not only to revenue loss for the states but can also steal
away the autonomy of the state indicating more centralization. Thus, the need is to develop
such a “Federal Friendly Model” of VAT (along with a suitable compensation package) that
can be implemented in India without compromising federal principles.

Value added tax in simple terms could be defined “as a tax on the value addition at different
stages of manufacturing and distribution of goods and services”. It is a form of indirect tax in

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the nature of a multi-point sales tax with a set-off or credit for tax paid on purchases/services.
Each transaction of goods sold in the course of business is taxed, thus providing revenue to
the government on value addition at each stage.

OBJECTIVES OF VALUE ADDED TAX

The primary objective is in the forefront of the evolution of value added tax Law, the State
must ensure that barriers to inter-state trade should be eliminated in order to create a unified
national market. It will agree that the VAT process must be simple, transparent, and
consistent in structure and approach1.

1
NCAER (2009). “Moving to Goods and Services Tax in India: Impact on India’s Growth and International
Trade”, Thirteenth Finance Commission, Government of India.

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 AIMS AND OBJECTIVES
• To identify the characteristic features of VAT and Implementation domain.
• To analyse the perceptions of Wholesalers, Retailers, Chartered Accountant, Tax
Officials and Consumers regarding VAT Implementation.
• To determine the impact of VAT on satisfaction over the marketers as well as
consumers.
• To identify the Problems and Prospects in the lacuna of Governmental and
Implementation domain.

RESEARCH METHODOLOGY

The study is doctrinal which is based on primary and secondary data gathered from different
sources such as books, statutes, journal and online databases. It consist of descriptive method
research include overviews and actually discovering request of diverse mixture.

LIMITATION

Owing to the large number of topics that could be included in this project. The scope of this
research paper is exceedingly vast. So the researcher is tended towards the analysis of most
important aspects of VAT. So this research is confined only to a small area of extent in its
approach. Also, the researcher has place, time and money limitations while making the
project.

REVIEW OF LITERATURE
Gurumurthi.S (1999) in his study outlined the experience gained in several federal
economies, irrespective of the fact whether they are developed or developing, has established
fairly beyond doubt the undesirability of subjecting commodity taxation to two levels, the
federal and provincial, particularly in the context of introducing the VAT. While it is
considered necessary to entrust the entire field of commodity taxation to the national
government which is best equipped to implement the VAT, the redistribution of the powers
of taxation between the central/federal government and the states will depend on the situation
and circumstances prevailing in each country and that no generalization may be possible with

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regard to assignment of specific taxes to the states. International experience has shown that
both personal and corporate income taxes are good candidates for partial assignment,
particularly in large federations but the same cannot be said about a tax like the one on
natural resources. Similarly, while property taxes have been traditionally assigned only to
the sub national governments, the system is somewhat different in Brazil, where urban
property is taxed at the municipal level, while the federal government levies and administers
the tax on rural property. Therefore it may be necessary for each federal country to evolve its
own system by applying the above principles.

Sukumar Mukhopadhyay (2001) in his study neutrality of VAT is no great virtue, that
cascading effect can be removed zero-rating can be achieved by alternative methods, that
VAT does not boost exports, we should reconsider the adoption of VAT even by promising a
subsidy is an “ad hoc stepping stone to doom”. Genuine tax reforms are (a) three rates of
duty in Central Excise, (b) three rates in retail sales tax, (c) reduction in exemptions
drastically in excise and sales tax, (d) uniformity of sales tax floor rates, (e) reduction and
ultimate removal of CST, (g) origin-based sales tax for inter-state sales, (h) giving more
service tax to states by common consent, and (i) introduction of a proper audit set up. All
this will constitute a much better reform.

Sukumar Mukhopadhyay (2003) in his study (a) VAT is not the best form of contention
tax, especially in a development economy; (b) It is not suited for Indian federal. (c) An
imperfect VAT would not serve the purpose for which VAT is better introduced; and (d) a
better choice would be to combination of reformed CENVAT sales tax with uniform rates in
all reduction in exemption CST.

K.Narayana (2005) in his study the state empower committee in India is planning to
introduce VAT system at state level from 1st April 2005. As many as 21 states have
reiterated their commitment to introduce value added tax (VAT) to replace sales tax from 1st
April 2005. The remaining states i.e., U.P., tamilnadu and five other BJP ruled states have
expressed their apprehension about the efficacy and revenue loss by introducing VAT. The
VAT system of taxation does not encourage vertical integration of firms as it is independent
of number of stages in the production and distribution channel. The experiences of many
developing countries have shown that if properly designed and implemented the VAT may
prove a better resources mobilizer than the present sales tax systems. The apprehensions of
the 7 states are illogical and political rather than genuine economic reason.

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Dr.S.B.Akash and Dr.K.Harishkumar (2006) in their study credit to recover the tax paid
on their business inputs. As a result, the system is an effect applying tax only to the Value
Added by each vendor. Since, only the tax that does not refund is the tax imposed on final
consumption the tax is equivalent to the retail sales tax where value and purchase value. He
concludes VAT is not burden to the manufacturer and it facilitates concession to
manufacturer and it facilitates concession to manufacturer in an easier manner. The
successes of value added system fully depends upon proper planning and preparation, sound
accounting practices, systematic organizational audit, fully acceptance of people, trained
manpower, sound ethical business practices in business and ethical government
representatives.

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 CHAPTER-1. METHODS OF COMPUTING VAT
Value added tax is levied in principle on the value of goods and services produced. Value
added tax for a given period is equivalent to all income- wages and salaries, rent, interest, and
profit generated in the production of the aggregate output. A VAT never differs from a
general tax on incomes of firms rather than individuals who ultimately receive income are
responsible for paying the tax to the government. There are three methods for computing an
individual firm which includes the addition, the creditor invoice and subtraction method. The
first method-addition presents computing the VAT base is to sum the firm’s payments of
wages, salaries, interest, rent, and profits.
These payments represent the firms’ contribution to the value of the economy’s output in the
period or value added. The base multiplied by the tax rate indicates the amount owed the
government in value added taxes2. The second method of subtraction method computes each
firms value added as sales less purchases of raw material inputs from other businesses. The
third method of credit or invoice computes the tax by applying the tax rate to sales and then
subtracting taxes paid on the purchase of components. The computation of VAT in European
countries is usually computed by the credit method.
The term VAT has been described as some special rate for some goods and services. Various
categories of economic activity have been exempted in European countries to simplify the
administrative procedure, the banking and the financial institutions offer services to which
the value added concept is generally difficult to apply and are exempted from tax which
includes governmental and educational services, medicine, transportation, communication
products, and services.
In developing countries, considered necessities of life are taxed at lower rate than the base
rate while the luxury items are taxed at higher than basic rates3.

EFFECTS ON THE INDIAN SOCIETY

The Value added is the value that a producer (whether manufacturer, distributor, advertising
agent, farmer etc.) adds to his raw materials, or purchases before selling the new or improved
product or service. That is the inputs (the raw materials, transport, rent, advertising and so on
are brought, people are paid wages to work on these inputs and when final goods and services

2
Purohit MC, Vishnu KP (2009). “Goods and Services Tax in India: Estimating Revenue Implications of the
Proposed GST”, Thirteenth Finance Commission, Government of India.
3
Rao MG (1998). “Model Statute for Value Added Sales Tax in India”, New Delhi. Business School, pp. 104-114.

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are sold some profit is left. As the term indicates, it is a tax imposed on value addition of the
goods in a chain of the transaction from production, distribution, and retail.
A full-fledged VAT, in essence, an ad valorem tax on domestic final consumption levied at
all stages of production and final point of sale. At each stage, the tax is confined only to value
added. So, Vat is a tax not on the total value of the goods being sold but only on the value
added to it by the seller. The seller is therefore liable to pay tax not on its gross value but on
the net value, the gross value minus the value of the input. It is a multi-stage tax is being
collected in installment therefore, VAT may be called as modified multipoint sales tax. In this
calculation starts from Rs.10/- from a trader to retailer ends in Rs. 19/- showing a difference
of Rs.9 the additional value being extra charged till it reaches the consumers by the retailers.

The importance of value added tax in India and other countries are due to the following
accounting standards which include:
1. Simple tax structure and transparency.
2. Neutrality of tax with respect to behaviour of consumer and of producer.
3. Transparency of tax amount in cost of goods and zero rating of tax on exports are
easily identifiable.
4. Ability to provide same revenue to the Government with lower rates of tax.

Over the last few years, many attempts have been made to implement value added tax in
India. Initially, all states were to move to value added tax system by 2000, but administrative
problems and concern over the revenue implications of the change delayed the scheduled
implementation. It has been postponed many times in the five years and was finally
applicable in 20054.

4
Shankar (2005). “Thirty Years of Tax Reform in India.” Economic and Political Weekly.

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CHAPTER-2 EFFECT OF VALUE ADDED TAX ON SOCIETY
One of the important components of tax reforms initiated since liberalization is the
introduction of value added tax. VAT is a multidimensional based system of taxation, with
tax being imposed on value addition at each stage of a transaction in the supply chain. After
independence, India embarked on rapid development to eradicate the extreme poverty that
has affected the transaction in the supply chain. After independence, India embarked on rapid
development to eradicate the extreme poverty that has affected the economy.

The state was given an interventionist role for achieving optimum growth and to quickly
accomplish an economic transition from an underdeveloped to a developed country. This
required the government to collect the surplus funds were available and to mobilize them for
rapid development which is included by the name of direct and indirect taxes. In India,
income tax, corporation tax, wealth tax are examples of direct taxes whereas, customs, excise
and sales taxes are examples of indirect taxes.

Thus, those who are considered to be too poor to pay direct taxes because their incomes are
low are also forced to pay taxes. The idea is that at each stage of production and distribution,
there is value addition and a part of that should be given to the government for social
development.

The rates of taxes charged differ from area to area as per policy. With the upcoming of the
Mall system and International services in India like VLCC, Mc Donalds, Sub Foodways etc.
charge a hefty amount from the public in the namesake charging as per government order.
The medium and lower class people that are not aware of these accounting techniques face
difficulties in the ascertainment of rates for a good or service. In order to maintain a better
value added tax system in India, it is necessary to maintain a dual process of maintaining
invoices, bills by the seller and the purchaser.

“VAT is already levied differentially on food and drink; more VAT is charged to drink coffee
on the premises than to take it away”, writes Sheron, an adviser to the Commons health select
committee’s inquiry into alcohol earlier this year. “If this policy was applied to alcohol but
was reversed – say, for example, reducing the VAT for on-sales from 20 to 12% – it would be
possible to increase the rate of duty to compensate for this without increasing the price of
alcohol in pubs.”

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INDIAN POSITION

India is a federal state. Thus, the powers of taxation are divided between the Centre and State.
In India’s indirect Tax system, the Central government has the authority to impose excise
duties on production or manufacture while the States are assigned the power to levy sales tax.
In addition, States are empowered tax on many other goods and services in the form of entry
tax, octroi, entertainment tax, electricity duty, motor vehicles tax. Inside newspapers, we read
about the high prices charged for products and services like airfares, food products, petrol,
entertainment etc. is affecting people in a positive way leading to contribution for nation and
humanity.

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 CHAPTER-3. FINANCIAL IMPACT OF VALUE ADDED
TAX ON DIFFERENT SECTORS
Manufacturer/Producer

The manufacturer would be required to purchase raw material after paying full tax on the rate
applicable on such material. Unlike the present system wherein the manufacturer can
purchase the goods at a concessional rate of tax against the declaration form no. which will
be required to be issued by the manufacturer5. The input tax suffered by him would be
adjusted off from the sale of the finished product. Here, the calculation made by the
manufacturer as VAT is calculated by deducting tax credit from tax collected during the
payment period.

Wholesaler

The wholesaler who purchases goods in large quantities from the producer or manufacturer
has the responsibility, in turn, to charge VAT rate from the consumer for the price paid. The
wholesaler sells the product at a lower price in comparison to the retail price to promote the
sale of the bulk commodity.

Trader / Retailer

The trader would be required to collect tax on the sales made by him and the tax liability
would be set off or adjusted from the purchase or input tax credit of the goods locally
purchased by the consumers6. The third intermediary in the supply chain has the most
effective role of maintaining a good relationship with the customers. They directly deal with
the regular customers the prices charged by them includes retailer, government and producer
share.

Consumers

The consumers, the ender user are overburdened with the high VAT paid by them due to
product or service reaching to them is through the channel of intermediaries.

5
Glen P, Jenkins HJ, Chun YK (2006). Is the value added tax naturally progressive? Queens Economics
Department Working Paper, No. 1059.
6
Ravi YK (2005). Value added taxes issues and concerns. The Institute of Chartered Accountants of India, pp.
1616-1618.

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The common public is ignorant of the taxation techniques and finds it difficult to calculate
the selling price of a commodity. It is required that the customers collect invoice at every
purchase to maintain an authenticity in the system7. The government has imposed VAT laws
in 2006 for every individual intermediary in the supply chain to pay indirect tax as per fixed
in law.

For example, in the furniture industry (product/ manufacturing industry) at every purchase by
the manufacturer from raw material procurement, cutting, designing and manufacturing tax is
charged at each level.

Raw material (wood) purchase (VAT charged),

Manufacturing of furniture (VAT charged again),

Selling price (VAT charged third time).

In the name of government law, to charge rate at every process. The price hike has emerged
as a big issue in the Indian society, where people work hard to meet their daily requirements.
They are charged thrice for a commodity at 12.5%. In today’s scenario , the role of direct
purchase and hyper marketing is growing in India.

The scope of direct sales through malls has emerged as a big market, leading to the
elimination of intermediaries in the supply chain thus reducing the per value added services
charged from the consumers. These markets are the solution to the traditional marketing
system in India to overcome the hike in prices of the commodities and services. The
traditional supply chain has been replaced by the new system of marketing through super
bazaars, sub malls so that consumers have more choice to buy the varied products. The price
charged by them not only included the VAT charge, but also service charge and showroom
costs which add more cost to the product.

These markets have emerged as a supermarket to the public as the role of direct selling is
encouraged leading to mitigation of additional cost and risk in the process of transferring
goods from one place to another (Government of India, 2005).

Stocks

7
Bibi S, Jean–Yves D (2004). “Poverty – Decreasing indirect tax reforms: Evidence from Tunisia.” CIRPEE Work.
Pap., 04-03, Department of Economics, University, Laval.

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A stock statement is required to be furnished as prescribed for the quarter ending and then
monthly from January to March. Set-off of tax paid stocks would be given. Tax paid stocks as
on march ending would be the basis for claiming set off under the new value added tax Act8.

Export

Export would be zero-rated. Tax paid on raw material used in the manufacture of goods for
export would be refunded by the State Government in cash \ adjustment. The exports would
become more competitive in the world market as there would be no tax henceforth on the raw
material used for the manufacture of goods for export9.

8
Mahesh CP (2001). National and sub-nationals of VAT’S – A road map for India. Jstor, Econ. Polit. Wkly, p.
757.
9
Kavita R (2008). Goods and services tax for India, National Institute of Public Finance and Policy, New Delhi.
Work. Pap., 57: 2-6.

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 CHAPTER-5. CONCLUSION
Value added tax would change the nature of trade in the coming years, but the medium level
of trade would face problems as the companies would reduce the tier of marketing. Similarly,
small retail dealers would be required to maintain more accounts or pay composition money
which cannot be collected from the customers. The present provision of central sales tax and
Value added tax cannot go together.

After the abolition of central sales tax, the direct marketing concept may gain ground and the
necessity of having a warehouse, godowns etc. in all states may decrease or finish. Value-
added tax in India has been introduced in modified variants over the past two decades.
However, value-added tax in its original form is yet to be introduced in India, at Central or
State level.

After the negative and positive impact on the Indian consumers, Value added tax has been
identified as the real goal maker by the Indian government in the coming years to foster
growth and prosperity in the country. The change in the standard of livings has increased the
purchasing power of the high-class society but the medium and the poor class society has to
work hard in order to achieve there living and meet extravagances.

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 BIBLIOGRAPHY
Books and Journal

❖ Chittora B.K. (2005), VAT (VALUE ADDED TAX), Mark Publishers Jaipur
(INDIA).
❖ Kul Bhushan (2005), How to deal with VAT – (First Indian Print 2005),
Pearson Education (Singapore) Pte. Ltd.
❖ Lectures on value added tax act & CST act 2008, V.Subiah Naidu, Sitaraman
&
Co., Pvt.Ltd TNCTJ‟S the tamilnadu value added tax act, 2006, Tamil Nadu act No.
32 of 2006 as amended by Tamil Nadu act no.21 of 2007, second edition,
K.T.Nagabhushan Swamy, Naags Publications Chennai, sep.2007.
❖ Nagabhushan swamy K.T. (2007), TNCTJ‟S value added tax rates in Tamil
Nadu, Fourth Edition, Naags Publications.
❖ Nagabhushan Swamy K.T. (2008), TNCTJ‟S value added tax practice and
procedure in Tamil Nadu, First Edition Nags Publications.

Web Sources

❖ Finance.indiamart.com/taxation/valule-added-tax.html
❖ www.rediff.com/money/2003/apr/12 vat.htm
❖ www.dateyvs.com/salestax.vat.htm
❖ Rediff.com/money/2004/jul/12 guest.htm
❖ mpra.ub.uni-muenchen.de/206/1/MPRA- paper-206.pdf
❖ en.wikipedia.org/wiki/talk : value – added – tax
❖ www.law.umich.edu/center sand programs/olin/workshops.htm
❖ www.worldjute.com/wj-vat .htm
❖ Ramesh Chandra (Member Secretary- Empowered Committee of State Finance
Ministers).
❖ www.rediff.com/money/2003/apr/12vat.htm
❖ www.worldjute.com

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