This has been a reason for debate in the corridors of tax and financial Authorities across the globe. Each system comes with its fair share of advantages and disadvantages. From complexities to simplicities, the two systems are poles apart.
Application, as well as proper implementation of each system, depends on the financial standpoint of the state and its citizens. A developed and powerful nation like ASA has adopted the Sales Tax system whereas a rapidly growing rich region like KSA has recently adopted the VAT system. This blog aims to make its readers aware of the difference between VAT and Sales Tax.
What is Sales TAX?
Sales tax is also commonly referred as the ‘use tax’. In this conventional system, the tax is paid on goods and services by the consumer to the governing body directly. The retailer collects the tax from the end consumer. In sales tax, the tax is levied only on the final sale in supply chain i.e tax on purchases made by consumers.
For every item sold in the retail stage of the supply chain, sales tax has to be paid by the final end user. Any sales made to other points of the supply chain like suppliers, manufacturers, and distributors do not attract tax. A purchaser who is not an end user has a ‘ resale certificate ‘ issued by the Tax Authority of the land/country.
The purchaser can buy goods or services from the seller at zero tax by providing the resale certificate or its unique resale ID. In absence of the resale certificate, the purchaser (not an end user ) is liable to pay taxes on the goods or services depending on the respective jurisdiction of the taxing authority. In sales tax, total tax revenue generated primarily depends on the sale made to the end consumer.
What is VAT?
VAT (Value-Added Tax) which is also known as the GST tax in some countries was first introduced during World War 1 by the two rival countries on either side of the trench war i.e France and Germany. France was the first country to launch the modern form of VAT during the 50’s. VAT has been closely linked to Corporatism.
In VAT regime, the end user has to pay tax on the value added to the good or service during the entire production process and not just the product at hand. Each stage of the supply chain i.e Suppliers, manufacturers, distributors and retailers are subjected to VAT for the purchases made by them.
VAT system involves documentation and tracking on behalf of the purchases made by the businesses/individuals. This is necessary to claim credits for the VAT paid on their tax returns.
The difference between the VAT levied on sales earnings and the VAT collected from the goods and services upon which the product depends during the different cycles of the supply chain is the Tax Revenue generated by the State or respective Tax Authorities. Tax jurisdictions receive the tax revenue throughout the entire supply chain as opposed to at the sale to the final consumer chain.
VAT Vs. Sales Tax
- VAT is charged at each and every level of production and supply chain on the addition of value to the goods and services. Sales tax, on the other hand, is levied only on the final value of the commodity at the time of sale to the consumer.
- VAT is a multi-point tax whereas Sales Tax is a single point in nature. In Sales tax, only the final consumer pays the tax. In VAT all purchasers pay taxes.
- TAX Evasion in the VAT can be a difficult thing to accomplish. In case of sales tax, tax evasion easy and goes undetected.
- VAT eliminates the cascading effect of taxation from the consumer. Sales Tax burdens the consumer with taxes levied on taxes to be paid by the various verticals in the supply chain.
- VAT attracts documentation as well as additional resources for return filings. Sales tax on the other requires minimum effort and it is only the retailer who is supposed to maintain the sales records. The other parts of the supply chain are not bound to maintain records.
- VAT is a rational tax regime. It removes tax burden from the shoulder of the consumers and distributes it evenly across all verticals of the supply chain. This is not the case in Sales Tax regime. The consumer bears the burden of the tax revenue generated by the authorities and government at large.
- VAT facilitates input tax credit for all levels of taxpayers from suppliers to retailers. In sharp contrast, Sales Tax is free of such complex mechanism. It has no room for input tax credits. Input Tax credit brings all verticals of the supply chain within the ambit of the State or Tax Authorities. Sales Tax more or less eliminates the role of Tax Authority in Revenue Generation. This hampers growth and transparency.
- VAT is applicable within the jurisdiction of the state. On the other hand, sales tax is Applicable across the length and breadth of the country.
- In case of taxability of purchases made by businesses, Sales Tax Authorities exempts vendors from tax liabilities by issuing vendors the exemption certificates. On the other hand, VAT regime does not entertain such exemptions. Under VAT, resellers pay taxes to the vendors which can be reclaimed as input tax credits.
In Sales Tax, the revenue cycle for the Tax Authorities is dependent on the purchases made by the end consumer. No Tax revenue is generated until and unless the final product is bought by the consumer. However, VAT eliminates this loophole.
Especially in developing countries with low per capita income, VAT plays a major role in bestowing greater stature to the Tax Authorities and State at large. Tax Authorities receive pre-tax receipts with successive increases in the value of goods and services from all verticals of distribution/supply chain.
Sales Tax is ideal for developed countries like the USA where per capita income is high and consumers can bear the burden of cascading taxes. This is not an ideal system for low per capita income countries of south-east Asia as well as countries of the GCC Council dependent majorly on tourism for revenue generation.