Value Added Tax (VAT)

Meaning of Value Added Tax:

VAT is a multipoint levy of sales tax that enables the person

to claim set off of tax which he pays on the purchases. The system of VAT is so designed that the final levy
and burden of the tax on the goods is borne by the final consumer of the goods.

Levy of Value Added Tax:

VAT is levied at every stage of production. It is levied only on the value added by the last seller. The seller is
accordingly liable to pay tax on the net value added to the gross value as
reduced by the value of intermediate materials purchased.

How is VAT different from the Sales Tax?:

Sales Tax Under VAT

1. Tax levied at the stage of the 1. Tax levied and collected at every point of sale
first sale or at the final stage

2. Successive sales (resale) of 2. Tax collected at every point of sale and the tax
goods on which tax is already already paid by the dealer at the time of purchase of
paid do not attract tax goods will be deducted from the amount of tax paid at
the next sale

3. Dealers reselling tax paid 3. Dealers reselling tax-paid goods will have to
goods do not collect any tax on collect VAT and file returns and pay VAT at every
resale and file NIL returns stage of sale (value addition)

4. Computation of tax liability is 4. It is transparent and easier

complex

5. Sales Tax is not levied at the
time of purchases against
statutory forms but there is
misuse of such forms resulting in
tax evasion.
5. VAT dispenses with such forms and sets off all tax
paid at the time of purchase from the amount of tax
payable on sale

6. Returns and challans are filed 6. The returns and the challans are filed together in a
separately and the dealers have to simple format after self-assessment done by the
give numerous details dealer himself
 7. A large number of forms are 7. At the most a few forms are required
required

8. Tax on goods only 8. Tax on goods and services both.

9. Assessment done by the 9. Self-assessments by dealers

department

10. Penalty for defaulters/evaders 10. Penalties will be stricter

not strict

ADVANTAGES OF Value Added Tax:

1) The cases under Value Added Tax are more likely to be accepted as such and only limited cases would be
taken for scrutiny. The method would be more or less identical to the one followed under the Excise law.
2) There are minimum exemptions and hence reduced complications and complexities.
3) The cost of compliance by the dealer is less and is transparent.
4) There are limited possibilities of litigation and the protracted litigation can be avoided.
5) It is easy to administer the levy of VAT due to its simplicity.
6) The possibility of tax evasion is less, as the dealer is liable only for part of the amount of tax. Hence, one may
not indulge into tax evasion techniques for a small amount.
7) Further, the dealer would not indulge into purchase of goods out of books since otherwise he would not get
any set off tax paid.
8) The VAT does not have a cascading effect.
9) The cost of purchase reduces, as the dealer is able to claim set
off tax paid on purchase against tax payable on sales.
Limitations of Value Added Tax:
1) There could be cases where the Value Added Tax is collected by the dealer, but not paid to the Government. As a
result, the set off of such VAT paid by the purchaser may not be allowed to the purchasers. A mechanism has
to be devised to tackle such situations.
2) A situation of refund would arise is no VAT is payable on the final sale. As a result, the set off cannot be
availed. In such cases, the tax paid becomes the cost or the same has to be claimed as refund. Hence,
the mechanism of refund has to be framed.
3) VAT would also contain multiple rates of tax due to multiple types of items.
4) In countries such as India where in there exist sales taxes already covering a wide range of
commodities, replacement of those taxes by a revenueneutral value added tax should lead
to no inflationary consequences.
5) The dealers will now be required to maintain upto date records of purchase and sales in order to claim set
off. Many small dealers maintain only primitive accounts, which were accepted by the department.
6) Since Central Sales Tax Act continues to remain in force, there can be conflict between the VAT and CST.
Eligible purchases for availing input tax credit:
The input tax credit is available only when the taxable goods are purchased for the following purposes(1)
For sale/resale within the State;
(2) For sale in the course of inter State trade or commerce; i.e. Goods are sold to any other State or Union Territory of
India;
(3) To be used as
(i) Containers or packing materials;
(ii) Raw materials; or
(iii) Consumable stores,
and the goods so manufactured by the use of the above raw-materials, packing materials are sold within the State or
in the course of inter State trade commerce;
(4) For being used in the execution of a works contact;
(5) To be used as capital goods required for the purpose of manufacture of taxable goods;
(6) To be used as(a) Raw materials;
(b) Capital goods;
(c) Consumable stores; and
(d) Packing materials/containers
and goods so manufactured by the use of above items are sold in the course of export out of the territory of India.
Calculation of Value Added Tax:

Value Added Tax is calculated by deducting tax credit from tax collected during the payment period.

Further, every time the VAT is charged, it is not an expense to the person who pays it, but just an advance to the
government via the supplier. This is true for all except the final customer who cannot claim the VAT deduction.
Actually, he is the only one who pays the full amount.

Methods of Computation of Value Added Tax:

(A) Invoice method/Tax credit method:

Tax credit method involves payment of tax by the seller i.e. manufacturer or dealer at full selling price and credit of tax
is allowed, which he has paid at the time of purchase. Thus, the tax is levied on full sale price, but credit is given of
tax paid on purchases and effectively, tax is levied only on Value Added only.
Its an easy and simple way to ensure that tax is paid. It helps elimination of cascading effect of tax on consumers.

(B) Subtraction method:

Under subtraction method, the purchase price is deducted from selling price and tax is paid on the net amount only
i.e. value added. Thus, when the tax is paid on net amount, dealers margin is disclosed.
This method is unpopular and cumbersome. It is practically impossible when various inputs are used in the
manufacture of numerous outputs. It is also not preferred by dealers as their margin gets disclosed.