Value Added Tax S-4R.T.I.Jammu 1 Value Added Tax International experience Session 4.

Value Added Tax S-4 R.T.I.Jammu1

Value Added Tax International experience

Session 4


Session overview

In the previous sessions we learnt about Tax structure in India .

We learnt about the problems encountered in the implementation of State Sales Tax as a source of revenue by the individual States, its impact on their economy as also on the economy of the country as a whole.


Session overview

It was seen that the way sales Tax was being implemented by many States led to tax wars between the States.

This taxation regime became a thought provoking subject for many a country’s economy taxation experts, and seeds for rationalization of taxation policies started germinating..


Session overview

Many committees set in this regard recommended adoption of Value Added Tax System, which initially was adopted for Central Excise Duty.

Taking a cue from the success of the CENVAT, and in view of the international scenario, experts recommended adoption of VAT system by replacement of State Level Sales Tax.


Session overview

Framing of Empowered Committees was the right step in this direction who reached a consensus of adopting VAT with few specified rates for the entire country with effect from a mutually accepted financial year.

Session overview


Session overview

In this session we will now discuss; International experience in development of

value addition as a basis for taxation of commodities; and

Basic concepts for designing a VAT system.


Learning Objective

By the end of this session the learner will be able to state the International developments in application of value addition as a basis for commodity taxation and basic concepts in designing a Value Added Tax system.


Basic concepts.

Value Added Tax as the name signifies is tax on value added. Accordingly it has been defined as:

It is a simplified and transparent system, levied on the value additions, at each stage from manufacture to supply of goods .


Contd.

In VAT system value added is taxed only once.

It is a tax collected in installments at each stage of production to distribution chain of goods with a facility of input tax credit/setoff/refund of tax paid.


Contd.

It is non-cascading tax due to system of input tax credit mechanism.

It is a tax on consumption, the burden of which is borne ultimately by the consumer.


VAT Concepts

VAT is a multistage tax levied only on value addition at each stage in the production-distribution chain/services

The tax paid at each stage can be set off against the tax payable by the seller.

This avoids cascading effect and the resultant increase in prices of the commodities.


Contd.

In Vat system the businesses are able to recover the Vat on the material/services that they buy to make further supplies/services directly or indirectly sold to end users.

The personal/end consumers of products/services cannot recover the VAT paid.


Production-consumer chainRaw material supplier

Manufacturer of components

Manufacturer of final products

Distributor

Retailer

consumer


Contd.

VAT is collected at each stage except the raw material supplier and the consumer.

Raw material supplier does not get the credit for the reasons that either he has not paid any tax or he has imported the material and there is no input tax credit on imports.


International experience

VAT was invented by a French economist in the 18th Century.

It was first introduced in full fledged form in Brazil in 1960

In Europe, VAT pioneered by France was embraced by the original member States of the European Union (E.U.), who subsequently made it mandatory for other countries seeking membership of E.U.


Contd.

Since the late 1960s, the VAT has been adopted by about 130 countries.

It has become the main consumption tax in industrial and developing countries of the world.

The VAT system has been adopted by Central American countries, Central European countries and a large number of countries in Asia.


Contd.

India adopted VAT system in respect of goods and commodities through Central Excise Duties.

VAT system has now been adopted by almost by all States in India with effect from the financial year 2005/2006 in terms of the Entry 54 of the State List of the Seventh Schedule of the Constitution.


Designing the Value Added Tax System

An efficient system of tax is one that would ensure collection of tax economically, efficiently and effectively , keeping in view the economic policies, international commitments and agreements as also socio-political structure of the country.


Contd.

The designed tax system should be acceptable to the tax-payer, tax administrators and to the citizens.

It should be such as can be administrated without much problems.

Above all it should maximize revenue. The effectiveness of the design will depend

on the variant/principle/method adopted


Contd.

In addition to proper selection of variant, principle/method for computation, the other factors that need to be considered for designing an effective VAT system are;

Number of tax rates, zero ratings, Scope of exemptions, exemption threshold

limit, exemptions to some specified types of business etc.


Variants of Value Added Tax

There are three variants of VAT; Consumption VAT(C-VAT) Income VAT(I-VAT) Gross Product VAT (P-VAT).


Consumption VAT

Consumption VAT(C-VAT) is the most favoured variant all over the world as compared to the other variants.

It is applicable to value addition on goods and services consumed.

The value added by a firm/dealer to the goods/services purchased from others becomes the base for tax.


Contd.

Value addition can be on any inputs, intermediate goods or final goods or even at the wholesale or retail points.

Final tax is invariably collected at the retail point where the value added at all the previous stages converge.


Coverage.

It covers the total private consumption in a country, which is the ultimate and ideal target for an indirect tax.


Advantages.

Consumption VAT has many advantages; Consumption VAT does not interfere with investment

decisions/capital formation in any manner. Its neutrality towards the methods of production

investments, current expenditure savings and consumption enhances its economic efficiency, and makes it the most popular form of indirect tax in the world..


Contd.

The imports are taxed at the points of entry and exports are either not taxed or zero- taxed, which makes the base of C-VAT more or less equal to the estimates of the national income.

Transparency in transactions makes it easiest tax for the administration to enforce.


Contd.

It has a cross audit feature, tax charged by one firm may be claimed as input tax credit by the next dealer, any suppression of production or sale can be cross referenced with other partners in the chain, which minimizes the chances of tax evasion.


Disadvantages.

Disadvantages in the variant are comparatively less and may be summed up as;

It is regressive as the tax burden is shared by all whatever the capacity to pay taxes;

Dealers need extensive record maintenance/documentation to claim set off against/ refund of input tax credit.


Contd.

Like any other tax on commodities it is inflationary and tends to increase the cost of goods and commodities.

It favours capital and technology intensive firms as against labour intensive firms, as value addition for labour intensive firms is higher.


Implementation Principles in VAT

The three variants of VAT discussed above can be implemented by either of the two principles, namely;

Origin Principle, or Destination Principle


Origin principle

The value added on all taxable products (both goods and services), exported or consumed domestically are taxed.

All exports are taxed and no tax is levied on imports.

As such provides indirect protection to producers abroad.

Unpopular, as it results in undesirable tax competition.


Destination principle

Tax is imposed on all value additions of all products consumed domestically.

All goods consumed in a country pay tax, and all exports are made tax free.

Allows computation of value addition irrespective of its origin.

Generally used with consumption VAT.


Contd.

Being implemented almost in all the countries of the world.

Requires border tax adjustments, which means tax is levied on goods entering a country and removed from products leaving the country.


Methods for computation

There are several methods for computing the Value Added Tax using any of the principle under any variant, the methods are;

Subtraction method, or Tax credit method, or Addition method.


Subtraction method.

It is the simplest method for computing a tax liability, which is ascertained by applying applicable rate on the value addition.

Tax liability of each dealer is computed by applying the requisite VAT rate to the difference between his total sales (inclusive of VAT element in his sale price) and his total purchases (inclusive of the VAT element in his purchase price.)


Contd.

• It may be computed by direct subtraction method, or by intermediate subtraction method.

In direct subtraction method, tax is levied on the difference between the aggregates of tax exclusive sales and purchases.

In intermediate method the tax is levied on difference, between tax inclusive values of purchases and sales.


Contd.

In the subtraction method a retailer has to maintain complete records of goods taxed at different rates of tax which is cumbersome and may lead to tax evasion.


Tax credit/invoice method

This is the most prevalent method employed by VAT operating countries.

It is widely used in conjunction with consumption VAT.

Deduction of taxes paid on inputs is allowed from the taxes payable on sales on the basis of the aggregate of the taxes indicated on all invoices.


Contd.

The amount of tax a dealer pays to the tax authorities is simply the difference between the tax he collects on sales and the tax he paid by him on purchases.

The tax liability is correctly indicated from the purchase invoices of inputs and the sale invoices of the value added commodities.


Addition method

In this method values added on the basis of the sum of factor payments (including profits )becomes the base for taxes.

The tax liability is then worked out by applying the relevant rate on this base.

This method is rarely used as it makes VAT resemble income tax.

Value Added Tax S-4R.T.I.Jammu 1 Value Added Tax International experience Session 4.

Documents

tax system

multistage tax

tax structure

tax wars

tax payable

vat system value

way sales tax

value additions