An Insight into Value Added Tax

VAT is determined by the end-market price. Its primary objective is to tax only the value added by a business over and above the services and goods it can buy from the market. At each stage of production, the product becomes more valuable (for example, a diamond starting as a piece of coal). When an end consumer makes a purchase, they are not only paying for the VAT of the product at hand (for instance, a diamond necklace) but for the entire process of production (for instance, the purchase of the coal, processing it into a diamond, designing the necklace, etc.), as VAT is always included in the prices.

How is Value Added Tax different from Income Tax?

While VAT is similar to income tax in that it is based on the value of a product or service at each stage of production, there are some key differences.

• VAT is generally collected by the final retailer.
• VAT is typically a flat tax.
• For VAT purposes, an importer is considered to have contributed the full value of a product imported from outside the VAT zone. The importer incurs VAT on the entire value of the product, and this cannot be refunded, even if the foreign manufacturer paid other forms of income tax.

Limitations of Value Added Tax

Like most taxes, a VAT alters what would have occurred without it. As the price for someone increases, the number of goods exchanged decreases. This means that more is lost due to shifts in supply and demand than the gains through tax. This is referred to as a deadweight loss. If the income lost by the economy is more than the government’s income, the tax is inefficient. VAT and non-VAT have the same implications on the microeconomic model.

The above details would be helpful for candidates preparing for UPSC 2022 .

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