What is a VAT?
Value Added Tax means on tax on value addition. Value addition means the value of output as reduced by value of inputs. Under value added tax all taxes borne in respect of inputs is allowed to be set off against the taxes paid on final product in order to subject only value addition, at each stage to taxation. The system of VAT avoids the cascading effect
What is Cascading effect?
The literal meaning of cascade is overlapping. Cascading effect in Taxation, in simple terms means Tax on Tax. It is the fundamental of any Tax structure in India that, no tax should be charged on the Tax. When a raw material passes through various stages of manufacture, before it is made available to the ultimate consumers as finished good, the manufacturing cost of the finished good includes raw material cost and Tax on the same. When consumer buys these finished goods the tax is levied on above mentioned cost of manufacture which results in cascading effect of the tax.
VAT is a system of indirect taxation, which has been introduced in lieu of sales tax. It is the tax paid by the producers, manufacturers, retailers or any other dealer who add value to the goods and that is ultimately passed on to the consumer. VAT has been introduced in India to ensure a fair and uniform system of taxation. It is an efficient, transparent, revenue-neutral, globally acceptable and easy to administer taxation system. It benefits the common man (consumer), businessman and the Government.
VAT enhances competitiveness by removing the cascading effect of taxes on goods and makes the levy of tax simple and self-regulatory, ensuring flexibility to generate large revenues.
The cascading effect is brought about by the existing structure of taxation where inputs are taxed before a commodity is produced and the output is taxed after it is produced. This causes an unfair double-taxation. However, in VAT, a set-off is given for input tax (tax paid on purchases). This results in the overall tax burden being rationalized and a fall in prices of goods.
Merits of VAT
The following are the merits of VAT
1 It widens the tax base and promotes equity:
One can see that VAT is a multiple point taxation mechanism replacing the single point Sales Tax Law. The tax is not just collected at the shopkeepers end. It is collected from every person that forms the chain from the raw material supplier to the person making the ‘final’ sale.
2 It eliminates cascading impact of double taxation and promotes economic efficiency:
Every person making a sale, gets the credit of the tax that he has already paid to the government (indirectly, through the invoice price) on the corresponding purchases made by him.
Other Advantages of VAT:
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It is primarily a self-policing, self-assessment system with more trust put on dealers.
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It provides the potential for a stronger manufacturing base and more competitive export pricing.
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It is invoice based, and as a result it offers a better financial system with less scope for error.
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It has an improved control mechanism resulting in better compliance.