Value Added Tax

VAT Talk

Value Added Tax (VAT)

What is Taxation?

  • A tax is a financial charge or other levy imposed upon a taxpayer (an individual or legal entity) by a state/country or the functional equivalent of a state/country to fund various public expenditures. A failure to pay, or evasion of or resistance to taxation, is usually punishable by law.

What is Direct Taxation?

  • A direct tax is a tax imposed upon a person or property
  • It is paid by the person on whom it is imposed.

 Examples of Direct Tax

  • Income Tax
  • Corporate Tax
  • Wealth Tax
  • Gift Tax
  • Estate Duty

What is Indirect Taxation?

  • An indirect tax is a tax collected by an intermediary (such as a retail store) from the person who bears the ultimate economic burden of the tax (such as the consumer). The intermediary later files a tax return and forwards the tax proceeds to government with the return. In this sense, the term indirect tax is contrasted with a direct tax, which is collected directly by government from the persons (legal or natural) on whom it is imposed.

Examples of Indirect Taxation

  • VAT / GST
  • Excise duty
  • Custom duty
  • Entertainment tax
  • Service tax

Different between Direct Tax and Indirect Tax

Basis for Comparison Direct Tax Indirect Tax
Meaning Direct tax is referred to as the tax, levied on person’s income and wealth and is paid directly to the government. Indirect Tax is referred to as the tax, levied on a person who consumes the goods and services and is paid indirectly to the government.
Incidence and Impact Falls on the same person. Falls on different person.
Inflation Direct tax helps in reducing the inflation. Indirect taxes promotes the inflation.
Evasion Tax evasion is possible. Tax evasion is difficult.
Imposition and Collection Imposed on and collected from assesses, i.e. Individual, Company, Firm etc. Imposed on and collected from consumers of goods and services but paid and deposited by the assesse.
Burden Cannot be shifted. Can be shifted
Event Taxable income or wealth of the assesse. Purchase/sale/manufacture of goods and provision of services.

What is Value Added Tax?

  • A value-added tax (VAT), known in some countries as a goods and services tax (GST), is a type of general consumption tax that is collected incrementally, based on the value added, at each stage of production and is usually implemented as a destination-based tax, where the tax rate is based on the location of the customer. In a country which has a VAT, it is imposed on most supplies of goods and services that are bought and sold.
  • VAT is charged at each step of the ‘supply chain’. Ultimate consumers generally bear the VAT cost while Businesses collect and account for the tax, in a way acting as a tax collector on behalf of the government.
  • A business pays the government the tax that it collects from the customers while it may also receive a refund from the government on tax that it has paid to its suppliers. The net result is that tax receipts to government reflect the ‘value add’ throughout the supply chain. To explain how VAT works we have provided a simple, illustrative example below (based on a VAT rate of 5%)
  • A value-added tax (VAT) is a type of consumption tax that is placed on a product whenever value is added at a stage of production and at final sale.
  • Indirect tax on the domestic consumption of goods and services, except those that are zero-rated or are otherwise exempt. It is levied at each stage in the chain of production and distribution from raw materials to the final sale based on the value (price) added at each stage. It is not a cost to the producer or the distribution chain members, and whereas its full brunt is borne by the end consumer.

Global Scenario

VAT is one of the most common types of consumption tax found around the world. Over 150 countries have implemented VAT (or its equivalent, Goods and Services Tax), including all 29 European Union (EU) members, Canada, New Zealand, Australia, Singapore and Malaysia.



Features of Value Added Tax

  • It is a form of consumption tax. This means that tax is collected when goods or services are actually purchased
  • Easy to calculate as the tax amount is charged as a percentage of the final value of goods or services
  • Compliance rate is average and VAT is easy to collect
  • VAT is collected by the seller from the buyer at the time of Sale of goods and services
  • VAT is determined by states, cities and local municipal authorities and as such varies geographically
  • VAT is collected completely from the end purchaser and the seller does not pay any part of it.

Advantages of Value Added Tax

  • Uniform rates are applicable to goods in the tax system.
  • VAT is levied at successive stages of production and distribution of goods and services
  • It is collected at each stage of sale of goods and as such the interim business does not need to pay the whole VAT amount
  • VAT alleviates the cascading effect and as such related economic distortions
  • VAT introduces fairness and uniformity in the process of taxation
  • VAT ensures better tax compliance and reduces chances of tax evasion
  • Transparency in transactions is encouraged by VAT

VAT is one of the most common types of consumption tax found around the world. Over 150 countries have implemented VAT (or its equivalent, Goods and Services Tax), including all 29 European Union (EU) members, Canada, New Zealand, Australia, Singapore and Malaysia.

Disadvantages of Value Added Tax

  • VAT’s are hugely regressive, with the highest impact mostly on the poor.
  • Implementation of VAT has an administrative burden on the businesses.
  • VAT could hamper the appeal of goods and services to customers who are not VAT registered.
  • To implement the VAT successfully, governments need to be alert and active

Types of Value Added Tax

  • Input VAT is the value added tax added to the price when you purchase goods or services liable to VAT.
  • If the buyer is registered in the VAT Register, the buyer can deduct the amount of VAT paid from his/her settlement with the tax authorities.
  • Output VAT is the value added tax you calculate and charge on your own sales of goods and services if you are registered in the VAT Register.
  • Output VAT must be calculated on sales both to other businesses and to ordinary consumers.
  • VAT on sales between businesses must be specified in a sales document.

Benefits to Economies

  • Single Taxation on consumption
  • Constant Revenue Flow
  • Financial Sustainability
  • People will be attracted to more savings

Benefits to Business

  • Easing Business Dealings
  • VAT Refunds
  • Boosting Business Profile
  • Reduces Risk
  • Avoiding Financial Penalties – No one likes to get an angry letter from the taxman. If you don’t keep a careful eye on your turnover then you might not notice when it creeps over the VAT registration threshold. You can be sure the taxman will though and failure to properly register could result in a nasty fine for your business. The obvious advantage of voluntary VAT registration is you won’t have to worry about passing the threshold or notifying HMRC in time. You can voluntarily register for VAT whenever you want to.
  • Boosting Your Business Profile – starting out as a small business or new limited company it can be tough to compete against the big boys. Most people are aware of the VAT registration threshold, so voluntarily registering your business for VAT might give the impression that your business is bigger and more successful than it actually is.
  • Easing Business Dealings – many suppliers and organisations are unwilling to do business with companies and SMEs that aren’t VAT registered. You might find that without the ability to produce a proper VAT invoice many of these people will be unwilling to deal with you. The advantage of voluntary VAT registration is you will be issued with a VAT registration number and can more easily deal with external businesses.
  • VAT Refunds – another advantage of voluntary VAT registration is the ability to claim VAT on goods and services purchased for your business. If you are selling one sort of VAT Rated product (e.g. zero rated) while buying another (e.g. standard rated) you may actually receive money back from the HMRC in VAT refunds!
  • Reclaiming The Past – voluntary VAT registration allows you to reclaim VAT from the last 4 yeaAED So if you’ve been in business for a while, but not yet reached the threshold you can still reclaim VAT as long as you have kept the proper VAT records and invoices.
  • VAT Registration Number – voluntary VAT registration means you’ll get a VAT registration number for your business. You can (and should) display it on your business website, stationery and correspondence. It will instil faith in your business and give your business a professional touch.