VAT

Value Added Tax

Dr. Mohita
 Tax Structure before VAT: Cascading Effect of Tax
Manufacturer Whole seller Retailor Consumer

Raw material 30 110 165 220

Other cost 30 - -

+Profit 40 40 35

Selling Price 100 150 200

Sales Tax @ 10% 10 15 20

Total 110 165 220

Payment made by Customer:

VAT: Value added Tax
• Vat was introduced to replace the State Sales Tax
• State Sales tax is the tax applicable on the sale which is made within a state
• Value added tax where tax is applied on the value addition
• VAT is paid only on the value addition by deducting the value of the purchase
price
• VAT was introduced to remove the drawback of the current Intra state sales
tax system:
• Payment of tax multiple time by different agencies on the amount on which tax has
already being paid
• Payment of tax on tax (cascading effect of tax)
• Longer the supply chain, tax escalates
• Initially Central government planned to remove both Cental and State Sales
tax to bring uniform system in the economy
• State government opposed the system as they fear of losing their revenue and
losing the deciding power
• Central government suggested the system of State VAT, where individual
states are going to decide on their own VAT and design state legislation
• Rough Draft was provided by the central government which can be changed as
per the convenience of the state
• First state to introduce VAT in 1st April 2005. The last state replacing Sales Tax
to VAT is Uttar Pradesh, with effect from January 1, 2008
• General rates of VAT were 0%, 1%, 4%, 5%, 12.5%, 20% with no surcharge or
cess
 Tax Structure after VAT: Cascading Effect of Tax removed (Invoide Method)
Manufacturer Whole seller Retailor Consumer

Raw material 30 100 (110-10) 140 (154-14)

Other cost 30 - -

+Profit 40 40 35

Selling Price 100 140 175

VAT @ 10% 10 14 17.5

Total 110 154 192.5

VAT Liability 10 14 17.5

VAT paid 10 10 14

Net Liability 0 4 3.5

• VAT is a multi point sales tax collected on the amount of value addition at each
stage
• During the process of tax collection input tax is adjusted with the output tax
• Value addition not only includes cost but also the amount of Profit
• The portion of tax paid should not considered as a part of cost
• Tax should be calculated only on the amount of value added by the
intermediary
• Introducing VAT reduced the revenue with the government
• Tax rates were revised so that the government continue to receive the same
revenue prior to the system of VAT implementation
• Tax Neutralization Rate was introduced: keeping the same outflow from the
pocket of the consumer
• VAT can only be collected by the registered dealers
• Compare the revenue disparity using Sales tax regime and VAT regime
Mr. X is the manufacturer incurred purchase cost of Rs. 500000, with a profit of
20% on cost and sold to whole seller at the sales tax rate of 15%. The whole seller
introduced the cost of Rs. 100000 and profit of Rs. 60000 and sold the product to
the retailor at 20% sales tax rate. The retailor introduced the cost of Rs. 50000 and
profit of Rs. 100000 who sells @ 15% of sales tax
Features
• Tax is levied and collected at every point of sale
• Tax paid previously will be deducted as Input Tax Credit
• Transparent and Easier
• Traders are required to maintain books of accounts to claim input tax credit
• To hold the traders who were evading tax
• Simpler filing of returns & challans
• Tax on goods only
• Previously in Sales tax, dealers were required to get their dealing assessed and
finalized by the sales tax officer but VAT introduced the system of Self
assessment along with audit
• Strict penalty in case of fraud
• Though VAT was initially introduced under MODVAT (Excise duty)
VAT Calculation
• VAT calculation is done using 3 methods
• Addition Method
• Subtraction Method
• Invoice Method