Introduction to

VAT
and its implications
By Uday Prabhupatkar
The Present Scenario and Structure of
Sales Tax
The Sales Tax levied by State Government on
intra state sale & purchase transactions
The Sales Tax levied by Central Government on
inter state sale transactions
The principles followed are:
Single Point levy of tax (with exception of Kerala &
Karnataka where few commodities suffer multiple point
of tax)
generally collected at first stage in majority of the
states, at last stage in the states of Delhi, Punjab &
Haryana
Weaknesses observed in the
present Taxation Scheme
Lack of uniformity
Multiplicity of Rates
Heavy reliance on first point taxation
Cascading effect of tax in relation to
manufacturing activity
Revenue loss due to incentives
Lack of mechanism for tax compliance
Lack of transparency in the system
Reforms Slated
Phase I
wef 01.01.2000
Uniform Sales Tax Rates of
commodities in all the States
and Union Territories
Phasing out all sales Tax
based incentive Schemes
Partially
implemented
Phase II
wef 01.01.2001

Introduction of Value Added
Tax (VAT) System by all states
and Union Territories
for North East States
Postponed to
01.04.2002

01.04.2003
PARTICULARS PLAN STATUS
Phase III
wef 01.04.2002

Amendments to CST Act so as
to fall in line with VAT system
with reference to Interstate
Sales & Stock Transfers
Postponed to
01.04.2003
or thereafter
VAT

The Concept
VAT - Definition
As per the European Union:

Value Added Tax (VAT) is a general
consumption tax assessed on the value
added to goods and services.

What is VAT?
The Value Added Tax - VAT is a method of
imposing Tax by installment or in stages on
the final consumer spending
This is achieved by taxing the sales at each
stage
Tax paid at earlier stage is allowed as rebate
or setoff at subsequent sale till such time the
goods are finally consumed
No VAT is charged on goods Exported
Evolution of VAT
VAT system was introduced in Europe in
early 50s
Due to simplicity in its operation and
implementation, it is the most accepted
form of commodity taxation worldwide
except in America & India
Presently VAT is on in more than 120
countries in the world
More than 50 countries have switched over
to VAT System in the last decade
Where does VAT exists?
Non VAT VAT
Why VAT is popular?
State point of View
Regular stream of income for the State
Higher revenue for the state
Full economic Value Addition is taxed
Low cost of collection
Ensures self sustaining Audit trail
Brings the entire trade chain to the books
Greater emphasis on compliance

VAT - in a nutshell
In nutshell VAT as it prevails in the world is:
A tax on all transactions
Covers goods & Services
Tax applicable on the gross consideration
Credit available for tax paid on inputs or at
earlier stages
Effective tax on value added at each stage
In most countries VAT replaces all other
Indirect Taxes and exists as National Tax

How VAT Operates
A
Raw Material Producer

Sales Value Rs. 100.00
Gross VAT 10%, Rs 10.00
Net VAT Rs 10.00
C
Wholeseller
Sales Value Rs. 300.00
Gross VAT 10%, Rs 30.00
Net VAT Rs 30-20 = Rs 10.00
B
Manufacturer

Sales Value Rs. 200.00
Gross VAT 10%, Rs 20.00
Net VAT Rs 20-10 = Rs 10.00
D
Retailer
Sales Value Rs. 400.00
Gross VAT 10%, Rs 40.00
Net VAT Rs 40-30 = Rs 10.00
Total VAT Collected at four points Rs 10+10+10+10 = Rs 40
Methods of calculating VAT
Sales 250 Sales 250 Sales 250
Purchases Purchases VAT on sales @ 10% 25
Raw Material 100 Raw Material 100
Value addition Purchases
Wages (a) 50 Raw Material 100
Rent (b) 50 10
Interest (c) 20
Profit (d) 30
150 150
VAT @ 10% 15 VAT @ 10% 15 VAT (25-10) 15
Invoice Method Addition Method
Value Added
(a)+(b)+(c)+(d)
Substraction Method
Value Added
Sales - Purchases
VAT on Purchases @
10%
VAT

Its Implications
VAT - its Implications
The concept of Resale will be no more valid.
Sales Tax will be applicable on each point of
sale.
This will lead to minimization of Chain of
Distribution.
To keep the incidence of VAT to its
minimum, goods will have to be sourced
from Manufacturers.
The level of Documentation has to be
improved to avail proper credit of VAT paid
on procurement.
VAT - its Implications
Goods will be cheaper for Manufacturers.
Particulars Before After
VAT VAT
Raw Material 100 100
Purchase Tax 10 10
Landed Cost 110 110
Add Processing cost 50 50
Cost of Manufacture 160 160
Less Setoff / VAT Setoff 6 10
Effective cost of Manufacture 154 150

VAT - its Implications
There will be no impact of VAT on the
margins of Traders Community.
Particulars Before After
VAT VAT
Purchase Cost 100 100
Purchase Tax 10 10
Landed Cost of Purchases 110 110
Add cost of Distribution & margins 50 50
Sales Price 160 160
Less VAT Setoff 0 10
Effective sales price (Stage I) 160 150
VAT 0 15
Cost to ultimate customer 160 165


VAT - its Implications
Particulars Before VAT After VAT
Manufacturing Cost 154 150
Sales Tax 15 15
Landed Cost for Wholesaler 169 165
Add cost of Distribution & margins 30 30
Cost of Sales for wholesaler 199 195
Add Sales Tax (II sales) 0 (VAT) 20
Landed Cost for Retailer 199 215
Add cost of Distribution & margins 50 50
Cost of sales for Retailer 249 265
Add Sales Tax (II sales) 0 (VAT) 27
Effective Cost for Consumer 249 292
If the VAT set-off is not passed on to the Consumer
VAT - its Implications
Particulars Before VAT After VAT
Manufacturing Cost 154 150
Sales Tax 15 15
Landed Cost for Wholesaler 169 165
Add cost of Distribution & margins 30 30
less VAT Set-off 0 15
Cost of Sales for wholesaler 199 180
Add Sales Tax (II sales) 0 (VAT) 18
Landed Cost for Retailer 199 198
Add cost of Distribution & margins 50 50
Less VAT Set-off 0 18
Cost of sales for Retailer 249 230
Add Sales Tax (II sales) 0 (VAT) 23
Effective Cost for Consumer 249 253
If the VAT set-off is passed on to the Consumer
Indian Experience on VAT
Modvat for the purpose of Central Excise was
introduced wef 01.03.1986.
Modvat was replaced by CENVAT in the
budget of 2000 - 01.
State VAT was introduced in:
Andhra Pradesh wef 01.04.95
Maharashtra wef 01.10.95
Madhya Pradesh wef 01.04.97
State VAT was subsequently withdrawn by the
states due to non economic consideration
Why State VAT failed in India
Multiplicity of Legislation
Central Sales Tax Act
State Sales Tax Act
Entry Tax Act
Works Contract Tax
Lease/Hire Purchase Tax Act
Luxury Tax
State Excise on Liquor
Lack of Computerisation in Sales Tax
Administration
No uniformity in Tax Rates across the states
leading to shift of trade.


Reforms required for success of VAT
Uniformity in Sales Tax Rates - commodity
wise - across the states
Minimum No of tax rates
Amendment of CST Act in the following
areas:
taxation of Declared goods
taxation of imports
taxation of branch transfers
Amalgamation of Sales Tax Act , Works
Contract Tax Act & Lease Tax Act