Value added tax (VAT)

VAT was introduced into the Indian taxation system from 1 April 2005. The existing general sales tax laws were replaced with the Value Added Tax Act (2005) and associated with VAT rules.

A few states like (Gujarat, Tamil Nadu, Rajasthan, Madhya Pradesh, Chhattisgarh, Jharkhand, Uttarakhand and Uttar Pradesh) decided to stay out of the VAT taxation system during the initial introduction of VAT but adopted it afterwards.

As of 2 June 2014, VAT has been implemented in whole country except Pondicherry, Andaman and Nicobar Islands and Lakshadweep Island.

What does VAT (Value Added Tax) mean?

Taxes contribute to an integral part of a country’s economic structure. These are very important to run a country smoothly and without many road blocks. Different taxes are levied at various stages while selling the different types of goods and services. One such type of widely consumed Tax structure that has a global reach is known as Value Added Tax or VAT system.

What is VAT?

When a person purchases any particular kind of product, a special tax is imposed at every stage wherever a certain amount of ‘value is added’ to the particular product, as well as at the final sale of that particular product. This tax comes under the category of indirect tax because it is paid by the Taxpayer to the Government indirectly through the producers of various goods and services.

VAT Tax Calculation

VAT, which falls under indirect tax, is payable to the Government only through the producers of various goods and services. As it is not any type of direct tax, a proper and accurate calculation of VAT for a transparent tax payment procedure is important.

There is a simplified formula to calculate VAT by subtracting the input tax from the output tax.

Input tax which is payable by the seller of goods and services for purchasing raw materials required for producing.

Output tax which is received by the seller at the time of sale of goods and services. So we can conclude that:

VAT = Output Tax – Input Tax

This formula acts as a VAT calculator. Let us take an example to understand the calculation of VAT properly. Assume that Akash is the owner of a hotel. He bought raw materials worth ₹ 1,00,000 and an input tax of 10% was levied on raw materials. Therefore, the total input tax incurred by him becomes 10% of ₹ 1,00,000, which is , ₹ 10,000.

Now after selling the food that was made using those raw materials, Akash was able to earn a total of ₹ 2,00,000. If we consider the total output tax to be 10% of the earnings, then the total output tax becomes 10% of ₹ 2,00,000, which is ₹20,000. So, we can easily ascertain the total VAT which is payable by Akash by deducting the input tax from the output tax. So, VAT= 20,000-10,000, which equals to Rs.10,000

Features of VAT

We all know that VAT system is not any voluntary tax system, but still it holds a special importance in tax payment structure. It raises a total of about one-fifths of the tax revenue collected globally. It is a multi-stage tax that is levied at various stages of purchase and sale of goods and services. The various features of VAT system are as follows:

  • As VAT is levied at different levels of purchase and sale of goods and services, any chance of errors are eradicated.
  • It enables more transparent and uniform tax payment process.
  • Through the transparent process of tax system, the chance of tax evasion on the part of taxpayer becomes almost zero.
  • VAT also helps in encouraging acceptance in the minds of taxpayers.
  • In VAT system, similar types of goods and services are taxed on the same level.

As for example, refrigerator under different brand names will be taxed on the same level as they ultimately fall under the same category.

Any type of tax fraud is completely avoided as this is a multi-stage tax system and the goods are taxed even at the smallest level.

Benefits of VAT

Not much countries recognize VAT as a type of any tax. India was one of the few countries that gave VAT the status of tax. With the introduction of VAT, goods and services are taxed even at the smallest level, thus, a transparent tax payment process is made. Let us have a look at the various benefits of VAT system in India:

  • As VAT is imposed at all levels of purchase and sale of goods and services, any form of tax evasion becomes quite tough, thus, it helps in promoting transparency.
  • VAT when applied uniformly form a large part of the revenue collection.
  • It ultimately strengthens the tax policy and solves the fiscal policy deficit.
  • A total of 160 countries out of 193 countries follow the VAT system for taxation.
  • VAT is globally accepted tax system that encourages a good relation with other countries for any foreign trade.

VAT keeps a thorough check on all transactions that take place, thus the tax payment process becomes more easy and efficient.


VAT is a major source of revenue for any country so it plays a vital role in the taxation system of any country.VAT was introduced as an indirect tax in the Indian taxation system as it replaced the existing general sales tax. The Value Added Tax Act came into effect in 2005.

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