In India, there are two taxation systems – direct taxation and indirect taxation. Direct taxation deals with income tax, where you pay tax on the income you earn. Indirect taxation, meanwhile, deals with taxes paid on goods and services. One of the many indirect taxes still prevalent in the country is Value Added Tax (VAT). Read on to know all about this taxation system, its benefits and how VAT is calculated.
What is Value Added Tax (VAT)?
Value Added Tax or VAT is an indirect consumption tax that’s levied on the supply of certain goods. The tax is imposed on every stage of value addition, be it production or distribution. By levying tax only on the value-added portion at each stage, VAT prevents the cascading effect of tax to a substantial extent.
Additionally, Value Added Tax also has a provision for input tax credit. Input tax credit enables you to reduce your overall tax liability by letting you deduct the VAT you pay when you purchase goods against the VAT you collect when you eventually sell goods.
How is VAT Calculated?
Now that you know what VAT is, let’s quickly look at how it is calculated with the help of a hypothetical example.
Assume you’re a business owner registered under VAT. You purchase certain raw materials intending to make a finished product from them. The total cost of the raw materials is ₹50,000 and the rate of VAT on the inputs is 20%, meaning that you need to pay an additional ₹10,000 (₹50,000 x 20%) as VAT to the seller. The ₹10,000 you pay to the seller of the raw materials is termed input VAT.
Now, using the purchased raw materials, you make a finished product and sell it in the market for ₹1 lakh. The rate of VAT on the finished product is 25%, meaning you need to collect Rs. 25,000 from the purchaser. The ₹25,000 you collect is output VAT and must be deposited with the tax authorities.
However, since Value Added Tax (VAT) allows for input tax credit, you can deduct the VAT you paid against the raw materials and deposit only the remaining amount with the authorities. Here’s the formula you need to use to determine your VAT liability.
|VAT Liability = Output VAT – Input VAT
In this case, your VAT liability would be just ₹15,000 (₹25,000 – ₹10,000).
What is VAT Registration?
Every individual or business involved in the supply of VAT-specified goods can register themselves with the Commercial Taxes Department of the state in which they conduct their business.
However, registration under VAT becomes mandatory if the total turnover (from the supply of VAT-specified goods) in any financial year exceeds ₹40 lakh or if the turnover exceeds ₹10 lakh during any three consecutive months.
What is the Procedure for VAT Registration?
Since Value Added Tax is a state subject, the VAT registration process may vary from one state to another. Most state governments have dedicated portals designed to help you register online. Here’s a quick overview of the process you need to follow to get yourself registered.
- Visit the official Commercial Taxes Department website of the state in which you conduct your business.
- Register yourself as a new user in the portal.
- Once you’ve created a new account, use your user credentials to log into the portal.
- Fill out the online VAT registration application form.
- Upload scanned copies of all the necessary documents onto the portal.
- Submit the application and make the VAT registration fee payment online.
That’s it. Once the application is submitted, the Commercial Taxes Department of your state will scrutinise it and allot a Tax Identification Number (TIN). Similar to PAN, the TIN is an 11-digit VAT number that’s unique to every VAT-registered individual or business. In addition to the TIN, you will also receive a registration certificate on your email ID.
How is VAT Different from Sales Tax?
Value Added Tax (VAT) was introduced in 2005 as a replacement for the erstwhile sales tax. The primary objective of VAT is to ensure a more equitable and efficient way to collect tax from the sale of certain goods.
Value Added Tax is different from sales tax in many facets. For instance, VAT prevents cascading effects by only levying tax on the value additions that a product undergoes during its manufacturing process, which was not the case with sales tax.
Furthermore, sales tax was levied only on the consumers, whereas VAT is levied on both the producers of goods and consumers. And finally, Value Added Tax enables registered individuals to claim input tax credit, which was not available with sales tax.
How Does VAT Help Trade, Consumers and Government?
The introduction of Value Added Tax (VAT) to the indirect taxation system in India had a positive effect on consumers, trade and the government. Here’s how.
- By eliminating the cascading effect of taxes, VAT reduced the prices of goods, which benefited the consumers.
- Value Added Tax promoted self-assessment of taxes, which reduced the resource burden on state governments.
- VAT brought about uniform rates of tax for goods across the country, which encouraged both intrastate and interstate trade.
VAT Rates in India
Before the introduction of Goods and Services Tax (GST), there were four VAT slab rates – nil rate, 1%, 4% and 5%. However, with the implementation of GST, almost all of the goods taxed under Value Added Tax are now being taxed under GST.
Currently, only a handful of goods like alcohol, tobacco and petroleum products like petrol, diesel and aircraft fuel, among others, are still being taxed under VAT. The rate of VAT for these specified goods tends to vary from one state to another and can range anywhere between 1% and 35%.
Also Read More About What is Income Tax?
Value Added Tax (VAT), when it was first introduced in 2005, revolutionised the indirect taxation system in India. It brought with it several benefits like the elimination of cascading effects of taxes, input tax credit and uniform tax rates.
However, VAT has one limitation. It didn’t address the fragmented nature of the indirect taxation system of the country. This led to the introduction of the Goods and Services Tax (GST), which is a far more comprehensive indirect tax system that subsumed many taxes ranging from excise duty and customs duty to VAT and service tax.
Who levies Value Added Tax?
Value Added Tax (VAT) is levied by the state governments through their respective Commercial Taxes Department.
Can I still register my business under VAT even after the introduction of GST?
Yes. You can still register yourself or your business under VAT even though GST has been implemented. However, to register under VAT, you must be in the business of supplying goods on which VAT is applicable. This includes goods like alcohol, petroleum products like petrol, diesel and aviation fuel and tobacco, among others.
Is Value Added Tax (VAT) applicable for services?
No. Value Added Tax is only applicable on certain specified goods. For services, however, the Goods and Services Tax (GST) is levied.
What are the different VAT rates in India?
The rate of VAT applicable on certain specified goods varies from one state to another since Value Added Tax is governed and administered by the various state governments of the country. For instance, VAT on petrol was 31.04% in Rajasthan and 13.77% in Gujarat as of February 2023.
Does Value Added Tax (VAT) offer Input Tax Credit (ITC)?
Yes. You can claim an input tax credit under VAT. By offsetting the VAT paid on your purchases (inputs) against the VAT you collect, you can effectively reduce your overall tax liability.