What is Value Added Tax?

Value Added Tax

By definition, VAT is a tax levied on the value added at each stage of production and distribution process. It is an ideal form of consumption taxation since the value added by a firm represents the difference between its receipts and cost of purchased inputs

Value Added Tax (VAT) is a general tax on commodities to replace sales tax, surcharge and other entry level taxes levied by the states and Union Territories

VAT is levied on sale of all taxable goods. VAT is not levied if sales of goods are not made in the course of furtherance of business

VAT is collected in stages: tax paid on purchases (input tax) is rebated against tax payable on sales (output tax). The concept of second sale or resale tax is done away with

VAT can be computed using one of three techniques

Subtraction method: tax rate is applied to the difference between the value of the output and the cost of the input

Addition method: the value added is computed by adding all payments that is payable to the factors of products (wages, interest payments etc)

Tax credit method: this entails the set off of the tax paid on inputs from tax collected on sales

India uses the tax credit method for VAT computation

Advantages of VAT include

1. Tax evasion becomes difficult. Businesses compelled to keep proper record of purchases and sales, and keep a trail of invoices
2. Avoids problem of undervaluing
3. Increase in revenue as tax net widens
4. Uniformity in tax regime avoids confusion
5. Permits easy and effective targeting of tax rates, as a result of which exports can be zero-rated
6. Parity with tax structures in other countries