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  1. 1. VATQ.1 Define value added tax and explain the basis on which the various state ‘laws are enacted?Ans. Meaning: value added tax (a) Is a multi-point tax on value addition i.e. increase in value (b) Which is collected at different stages of sale; and (c) With provisions for set-off for tax paid at the previous stage/ tax paid on inputs against the tax collection, on sales before remitting to the government account. Basis: (a) Basic design; the empowered committee of state finance minister brought out a white paper, which provided a base for the preparation of various state VAT legislations. (b) State dependent: since VAT is a state subject the states will have freedom for appropriate aviations consistent with the basic design as agreed upon at the empowered committee. Purpose: the purpose of introduction of VAT is to being harmonization in the tax structure of various states and rationalizes the overall tax burden.Q.2 What are the objectives for introducing VAT?Ans. The objective for introducing VAT are- 1. To avail credit on inputs leading to cost efficiency. 2. Ensure equitable distribution of tax impact amongst dealers. 3. Easy compliance through transparent and easy procedures exist under it and only two rates are there. 4. Easy computation of tax. 5. Avoids double taxation through input rebate. 6. Prevents distortions in trade and economy through uniform tax rates.Q.3 In relation to VAT, define the following terms – (a) dealer (b) sales (c) turnover (d) inputs (e)input tax (f) output (g) output tax (h) capital goods (i) exempted sale (j) Zero Rated saleAns. Definition terms (A) Dealer means nay person (a) who carries on the business of buying, selling, supplying or distributing goods, (b) directly or otherwise (c) Whether for cash or for deferred payment or for commission, remuneration or other valuable consideration. (B) Sale means- (a) every transfer of the property in goods (other than by way of a mortgage, hypothecation, charge or pledge) (b) by one person to another (c) In the course of business for cash, deferred payment or other valuable consideration. (C) Turnover means, the aggregate amount for which goods are (a) bought or sold, or delivered or supplied or otherwise disposed off in any of the ways referred to in Sec.2 (33), (b) by a dealer either directly or through another, on his own account or on account of others
  2. 2. (c) Whether for cash or for deferred payment or other valuable consideration.Turnover includes-Any sums charged for anything done by the dealer in respect of the goods sold at the time of, or beforethe delivery thereof.Turnover Excludes-(a) proceeds of the sale by a person of agricultural or horticultural product, other than tea and rubber (natural rubber later and all varieties and grades of raw rubber) grown within the state by himself or on any land in which he has an interest whether as owner, unsfructuary Mortgage, tenant or otherwise.(b) Any cash or other discount on the price allowed in respect of any sale.(c) Any amount refunded in respect of articles returned by customers.(d) Any amount realized by a dealer by way of sale of his business as a whole.(e) Any amount charged by a dealer by way of tax separately without including the same in the price of the goods sold.“Agricultural or horticultural produce” shall not include such produce as has been subjected to anyphysical, chemical or other process for being made fit for consumption, save mere cleaning, grading,sorting or dying.(D) InputsInput are goods meant for re-sale or use in manufacture processing of other goods or packing of goodsmanufactured(E) Input tax means the(a) tax paid or payable under this act(b) by a registered dealer to another registered dealer on the purchase of goods(c) Including capital goods in the course of business.(F) OutputOutput means sale of goods made by a registered dealer to other registered dealers and consumers in thecourse of his business.(G) Output taxOutput tax is tax collected on sale of goods from the buyer. The output tax is calculated by applying therate of tax on taxable turnover of these goods.(H) Capital goods means-1. plant, machinery, equipment, apparatus, tools, appliance or electrical installation for producing, making, extracting or processing of any goods or for extracting of for bringing about any change in any substance for the manufacture of final products;2. Pollution control, quality control, laboratory and cold storage equipment;3. Components spare parts and accessories specified at (a) and (b) above4. Mould, dies, jigs and fixtures,5. Refractors and refractory materials,6. Tubes, pipes and fittings thereof; and7. Storage tanks used in the state for the purpose of manufacture, processing, packing of storing of goods in the course of business excluding civil structures and such goods as may be notified by the government.(I) Exempted saleAn exempted sale is a sale on which no tax is levied, and no input tax credit is allowed
  3. 3. (J) Zero rated sale Zero rate sales are a sale for which no tax is levied but the tax paid on local purchases is refunded to dealer who affected that sale. The value added tax act specified the zero rated sales as- 1. export sec.5(1) 2. sale in the course of export [5 (3) of CST Act, 1956] (ie) sale to exporters 3. sale to international organizations 4. sale to SEZQ.4 Write a brief note on goods covered by VAT Law.Ans. 1. Meaning: goods means- (a) All kinds of movable property. (b) It includes- • All materials, commodities and articles • Goods (as goods or in some other form) involved in the execution of works contract or those goods to be used in the fitting out, improvement or repair of movable property; • All growing crops, grass or things attached to or forming part of the and which are agreed to be severed before sale or under the contract of sale. (c) It excludes- newspapers, actionable claims, stock and shares & securities. 2. Coverage under vat: all goods except liquor, lottery tickets, petrol, diesel, aviation turbines fuel and other motor spirits, whose prices are not fully market determined, are covered under VAT and get the benefits of VAT credit. The goods not covered by VAT are taxed under the sales Act or by making special notifications in this regard.Q.5 Who are liable for registration?Ans. The following persons are liable for registration: 1. Dealers whose total turnover in respect of purchase and sales in the state as per the state VAT Act are to get registered under the Act. 2. Causal traders, agent of non-resident dealer and dealers in jeweler irrespective of quantum of turnover shall obtain registration. 3. Dealers who intoned to commence the business, on option, may obtain registration.Q.6 How to apply for registration?Ans. 1. New dealer should file an application in the specified form along with fee to the registering authority in whose jurisdiction, his principal place of business is situated with a sufficiently stamped self addressed enveloped, with necessary documents required in the application form. 2. Head of the assessment circle in whose jurisdiction the dealer’s principal place of business is situated.Q.7 Discuss the special cases of levy and collection?Ans. 1. Based on space of activity of dealers: (a) No Tax: Small dealers with gross annual turnover not exceeding specified limit are not liable to pay tax.
  4. 4. (b) Compounded rate of tax: Small scale dealers with Gross Turnover not exceeding the specified limit, who are otherwise liable to pay VAT, however, have an option to pay tax at a small percentage known as ‘Composition Scheme’. 2. Works Contracts: (a) Works Contracts include any agreement for carrying out for cash, deferred payment or other valuable consideration, building construction, manufacture, processing, fabrication, erection, installation, fitting out, improvement, modification, repair or commissioning, of any movable or immovable property. (b) The dealers executing Works Contracts can either- • Pay tax on the value of the goods at the time of incorporation of such goods in the works executed, at the rates applicable to the goods, or • They may opt to pay tax by way of composition at applicable rates on a certain percentage of the total consideration received as may be prescribed. In such a case, they may not be entitled to any VAT Credit or may be entitled to a partial VAT Credit. COMPARISON BETWEEN SALES TAX SYSTEM AND VAT 10% Sales Tax 10% VAT Particulars Price Government Price Government Revenue Revenue Mr. A sells goods to Mr. B 200 200 Sales Tax @ 10% 20 20 20 20 Total Cost to A 220 220 Mr. B processes them and creates final products with the additional labour and 440 440 capital and sells them to C, a wholesaler with 100% markup Sales Tax/VAT 44 44 40 40-20=20 Total Cost to C 484 400 B sells to C, a retailer at a 25% mark-up 605 560 Sales Tax/VAT 60.5 60.5 56 56-40=16 Cost to P 665.5 560 P sells it to the consumer at 100% mark- 1331 1,120 up Sales Tax/VAT 133 133 112 112-56=56 Cost to Final Consumer 1464 1,232 Total Proceeds to Government 257.50 112Q.8 What are the variants of VAT?Ans. 1. Gross Product Variant:(a) Principle: The Gross Product Variant allows deductions for taxes on all purchases of raw materials andcomponents. No deduction is allowed for taxes on capital taxes.(b) Limitation: • Capital Goods are taxed twice i.e., at the time of purchase and at the time of sale of goods produced using capital goods. • Modernization and upgrading of plant and machinery is delayed due to this doubled tax treatment.2. Income Variant:
  5. 5. (a) Principle: • The income variant of VAT allows for deductions on purchase of raw materials and components as well as depreciation on capital goods. (i.e) credit on capital purchases are allowed in the ration of depreciation over the life of the capital assets. • This method provides incentives to classify purchase as current expenditure to claim set off.(b) Limitation:There are difficulties connected with the specification of any method of measuring depreciation which basicallydepends on the life of an asset as well as on the rate of inflation.(3) Consumption variant(a) Principle: • Consumption variant of VAT allows for deduction on all business purchases including capital assets. • Gross investment is deductive in calculating value added. • It neither distinguishes between capital and current expenditures nor specifies the life of assets or depreciation allowances for different assets.(b) Merits: • It does not affect decisions regarding investment because the tax on capital goods is also set off against the VAT liability. Hence, the system is tax natural in respect of techniques of production (labour or capital intensive). • Convenient from the point of administrative expediency as it simplifies tax administration by obviating the need to distinguish between purchases of intermediate and capital goods on the one hand and consumption goods on the other hand.(c) Limitation: The system is tax neutral from the view point of government as it lead to loss of revenues to the government.Q.9 Explain the input tax credit in the context of VAT?Ans. 1. Eligibility: (a) Dealer: a ‘dealer’ who is registered or is required to be registered under the respective state laws on VAT is entitled to an input tax credit (i.e. VAT Credit). (b) Eligible purchases: Tax paid on purchase which are meant for sale or for utilization in the process of production for such sale. 2. tax payment: the VAT liability of the dealer is calculated by deducting VAT credit from tax payable on sale during the tax/ payment period. 3. vat credit for stock transfer: (a) Vat credit is given to a dealer for purchase of inputs/ supplies in a state meant for sales within the state as well as in other states. (b) Even for stock transfer/ consignment sale of goods out of the state input tax paid in excess of a certain percentage is eligible for VAT credit. 4. carry forward of VAT credit: if the VAT credit exceeds the tax payable on sales in a month, the excess credit may be carried over to the future month(s) and the unadjusted VAT credit at the end of the specified period is eligible for refund. 5. Exempt and Zero rated goods: (a) Exempt goods: goods on which VAT credit cannot be claimed and
  6. 6. (b) Sales which are zero rates: VAT credit can be claimed in respect of purchases for such sale. 6. Non-Availability Of Input Tax Credit (N08): the following are not eligible for input tax credit (a) purchase from unregistered dealer. (b) Purchases from other states/ countries. (c) Purchase of goofs used in manufacture of exempted goods. (d) Purchase of capital goods (credit is available in instalments). (e) Purchase of capital goods (credit is available in instalments). (f) Purchase of goods used as fuel in power generation. (g) Purchase of goods used in manufacture of goods to be dispatched outside any state as branch transfer/ consignments. (h) Purchase of goods where the dealer does not have invoices showing amounts of tax charged separately by the selling dealer. (i) Purchase of non-creditable goods. (j) Purchases from a dealer who has opted for composition scheme. 7. VAT credit on (a) opening stock: • All tax paid goods still in stock and purchased upto 1 year prior to the date on which VAT become applicable are eligible for input tax credit. However, the VAT credit available on opening stock is available over a period of 6 months after an interval of 3 months needed for verification. • Capital goods included in the opening stock are not eligible for input tax credit. (b) Capital goods: VAT credit on all capital goods, except a few included in the negative list in respective state laws may be adjusted over a maximum period of 36 equal installments (this period may be reduced by the state).ILLUSTRATION -- OPERATIONS OF VATAns. The operation of vat is explained with the help of the following illustration-STAGE I – RAW MATERIAL (A) TRADER SELLS TO MANUFACTURER (B):A is a trader selling raw materials to a manufacturer of finished products. He imports his stock-in trade as wellas purchases the same in the local markets. If the rate of VAT is assumed to be 12.5% ad valorem, he will payVAT as under- Particulars Rs. Cost of imported materials (from other state) 10,00,000 Deposit of duty paid noted above 1,25,000 Cost of materials purchased local market [VAT charged by local suppliers Rs. 2, 50,000] 20,00,000 Other expenditure incurred ( including profit margin of A) 8,75,000 Sale price of goods 40,00,000 Add: VAT on the above @ 12.5% 5,00,000 Invoice value charged to the manufacturer B 45,00,000
  7. 7. A’s liability for VAT Particulars Rs. Rs. Tax on sales price 5, 00,000 Less: Set-off of VAT paid on purchases On Imported Goods NIL On Local Goods 2, 50,000 (2, 50,000) Net Tax Payable 2, 50,000Note: set off of vat paid on imported goods from outside countries or other States is not allowed.STAGE II – MANUFACTURER [B] SELLS TO WHOLESALER/TRADER OF FINISHED GOODS [C]B manufactures finished products from the raw materials purchased from A and other materials purchased fromother suppliers. His liability would be as under: Particulars Rs.Cost of materials purchased from A [excluding VAT recovered on the above Rs. 5,00,000] 40, 00,000Cost of Other Materials Local Purchases (excluding VAT Paid Rs.2, 50,000) 20, 00,000 Inter-State purchases (including CST paid Rs. 40, 000) 10, 40,000Manufacturing and other expenses (including Profit Margin of B) 29, 60,000Sale Price of finished goods 1, 00, 00,000Add: VAT on the above @ 12.5% 12, 50,000 Invoice value charged by B to the Wholesaler [C] 1, 12, 50, 000B’s liability for VAT Particulars Rs. Rs. Tax on the Sales Price 12, 50,000Less: Set-off of VAT on purchases – Purchase from A 5, 00,000 Purchase from Other Suppliers 2, 50,000 (7, 50,000) Net Tax Payable 5, 00,000
  8. 8. STAGE III – WHOLESALER/TRADER OF FINISHED GOODS [C] SELLS TO CONSUMERS:When C sells the goods to the consumers, the position would be as under: Particulars Rs. C’s Cost of Goods (excluding VAT Recovered by C Rs 12, 50,000) 1, 00, 00,000Add: Expenses incurred and profit earned by C 40, 00,000 Sale price of goods 1, 40, 00,000Add: VAT on the above @ 12.5% 17, 50,000 Invoice value charged by C to the consumers 1, 57, 50,000C’s liability for VAT Particulars Rs. Tax on the sales Price 17, 50,000Less: Set-off of VAT paid by C 12, 50,000 Net tax payable 5, 00,000TOTAL RECOVERY: VAT is collected at various stages as under – Particulars Rs.Paid by suppliers selling raw materials 2, 50,000Net tax paid by A on his sales to B 2, 50,000Paid by suppliers selling other materials to B 2, 50,000Net tax paid by B 5, 00,000Net tax paid by C 5, 00,000 Total Recovery of Revenue 17, 50,000Q.10 What are the methods for computation of VAT?Ans. The various methods of computation of VAT are: 1. Addition Method: (a) Suitability: This method is mainly used with income variant of VAT. (b) Demerits: This method does not easily accommodate exemptions of intermediate dealers. It does not facilitate matching of invoices for detecting evasion. (c) Computation: Step1 - Aggregate all the factor payments including profits to arrive at the total value addition. Step2 – Apply the rate on Step1 to calculate the tax. 2. Invoice Method: (a) Suitability: Under Central Excise Law, this method is followed. (b) Salient features: The most important aspect of this method is that at each stage, tax is to be charged separately in the invoice. This method is also called the “Tax Credit Method” or “Voucher Method”. (c) Merits: In this method the beneficiary is the trade and industry because the tax collection at all stages is very much lesser than the tax received by the state because of the availability of set-off of tax paid. The possibility of tax evasion is reduced to minimum, because credit can be claimed only when purchase invoice is produced. (d) Computation: Step1 – Compute the tax to be imposed at each stage of sales on the entire sale value. Step2 – Set-off the tax paid at the earlier stage. (i.e., at the stage of purchases is set-off).
  9. 9. Step3 – The differential tax is paid. 3. Subtraction Method: (a) Suitability: This method is normally applied where the tax is not charged separately. (b) Salient Features: Tax is charged only on the value added at each stage of the sale of goods. There is no tax credit as the total value of goods sold is not taken into account. (c) Method of determination of value added: (a) Direct Subtraction method: Value added=Total value of sales exclusive of tax Less: Total value of purchase exclusive of tax. (b) Intermediate subtraction method: Value added = Total value of sales inclusive of tax. Less: Total value of purchases inclusive of tax. (c) Indirect Subtraction Method 4. Computation: Step1 – Compute the value added under neither of the above method. Step2 – Apply the rate of tax on the amount calculated on Step1.ILLUSTRAION --Methods of Computation of VAT – Inputs taxable at different ratesInputs used for the production of output ‘M’ are ‘X’ and ‘Y’ respectively. The following are the details of inputs– Input Vat Rate Invoice Price (inclusive of VAT) Product X 12.5% 45, 000 Product Y 4% 26, 000The following are the details of Sales and the rate of VAT applicable for the Output ‘M’ is 12.5% -- Description A to B B to C C to D D to E E to Consumer Invoice price Rs. 76,500 Rs. 1, 12,500 Rs. 1, 80,000 Rs. 2, 25,000 Rs. 2, 70,000From the above details, Calculate the VAT collected at each stage and the VAT finally remitted using the twodifferent methods i.e. (a) Invoice Method; and (b) Subtraction Method.Solution: A. INVOICE METHOD (Amount in Rs.) Particulars Invoice Material Value VAT Input Tax Credit Net (1) (2) (3) (4) (5) (6)Inputs for AProduct X (@ 12.50%) 45,000 40,000 5,000 -- 5,000Product Y (@ 4%) 26,000 25,000 1,000 -- 1,000
  10. 10. Sale by A to B 76,500 68,000 8,500 6,000 2,500Sale by B to C 1, 12,500 1, 00,000 12,500 8,500 4,000Sale by C to B 1, 80,000 1, 60,000 20,000 12,500 7,500Sale by d to E 2, 25,000 2, 00,000 25,000 20,000 5,000Sale by E to Consumer 2, 70,000 2, 40,000 30,000 25,000 5,000Final 2, 70,000 2, 40,000 30,000 30,000 B. SUBTRACTION METHOD (Amount in Rs.) Particulars Invoice Purchase Price Value Added Input Tax Credit (1) (2) (3) (4) (5) = 4 x 12.50/112.50On Input 71,000 --- --- 6,000Sale by A to B 76,500 71,000 5,500 610Sale by B to C 1, 12,500 76,500 36,000 4,000Sale by C to D 1, 80,000 1, 12,500 67,500 7,500Sale by D to E 2, 25,000 1, 80,000 45,000 5,000Sale by E to Consumer 2, 70,000 2, 25,000 45,000 5,000Final 2, 70,000 --- --- 28,110Inference: In the above illustration, total collections under Invoice Method and Subtraction Method differ dueto differences in rates of VAT on inputs and outputs.DETERMINATION OF VALUE ADDED TAX – N 07Q.11 Compute the invoice value to be charged and amount of tax payable under VAT by a dealer whohad purchased goods for Rs. 1, 20,000 and after adding for expenses of Rs. 10,000 and of profit Rs. 15,000had sold out the same. The rate of VAT on purchases and sales is 12.5%.Ans. 1. Computation of Invoice Value Particulars Rs. Cost of goods purchased 1, 20,000Add: Additional expenses 10,000Add: Profit Share 15,000 Total Invoice Value 1, 45,000 2. Computation of Tax Payable Particulars Rs. VAT on Invoice Value @ 12.5% 18,125Less: Input Tax Credit – VAT on purchases @ 12.5% (1, 20,000 x 12.5%) (15,000) VAT Payable 3,125Q.12 What are the administrative procedures adopted by different states?Ans. 1. Invoice:
  11. 11. (a) VAT system is based on documentation of tax invoice, cash memo or bill. (b) Every registered dealer, having turnover of sales above the specified amount, shall issue to the purchaser serially numbered tax invoice signed and dated by the dealer or his regular employee, showing the required particulars. (c) The dealer should keep a counterfoil of such tax invoice duly signed and dated. 2. Registration: (a) Registration of dealers with gross annual turnover above a specified amount is compulsory. (b) A new dealer is generally allowed 30 days time from the date of liability to get registered. 3. Taxpayer’s Identification Number: (a) The taxpayer’s identification number will consist of 11 digit numerals throughout the country. (b) First two characters represent the State Code. The set-up of the next nine characters may, however, be different in different States which includes 2 check digits. 4. Self-Assessment: (a) All the assessments are self-assessments as all returns files are to be accepted. (b) Dealers need not appear before assessing authority or produce the accounts for annual assessments. (c) The assessing authority shall accept the returns filed by the dealer and pass assessment order after the assessment year is over. (d) The orders shall be served on dealers in the manner prescribed in Rules. 5. Return: Returns are to be filed monthly/quarterly as specified in the State Acts/Rules, and should be accompanied with payment challans. Every return furnished by dealers will be scrutinized expeditiously within prescribed time-limit from the date of filing the return. 6. Audit: Correctness of self-assessment will be checked through a system of departmental audit. A certain percentage of the dealers will be taken up for audit very year on a scientific for basis. This audit wing will remain de-linked from tax collection wing to remove any bias. 7. Coverage of goods under VAT: All goods, including declared goods will be covered under VAT and will get the benefit of input tax credit. However, there are a few goods which are outside VAT. Exempted category includes liquor, lottery tickets, petrol, diesel, aviation turbine fuel and other motor spirit since their prices are not fully market determined. 8. VAT rates and classification of commodities: (a) Under the VAT system covering about 550 goods, there will be only two basic VAT rates of 4% and 12.5%. (b) Moreover, there is a specific category of tax-exempted goods. (c) Also, a special VAT Rate of 1% is applicable only for gold and silver ornaments, etc.Q.13 Summarize the merits of the VAT System vis-à-vis traditional Sales Tax System?Ans. The following are the merits of VAT --- 1. Proper Accounting systems: under Vat, credit of tax paid is allowed against the liability on the final product manufactured or sold. Therefore, unless proper records are kept in respect of various inputs, it is not possible to claim credit. Since the tax paid on an earlier stage is to be received back, the system will promote better accounting practices. 2. Deterrent to tax evasion (M 08): Better and perfect records will create and leave Audit trail. A perfect system of VAT will be a perfect chain where tax evasion is difficult.
  12. 12. 3. Neutrality (M 08): Since the system has anti-cascading effect, it is neutral with regard to choice of production technique, as well as business organization. VAT facilitates precise identification and rebate of the tax on purchases and thus ensures that there is no cascading effect of tax. In short, the allocation of resources is left to be decided by the free play of market forces and competition. 4. Certainty (N 07): The VAT is a system based simply on transaction. Thus there is no need to go through complicated definitions like sales, sales price, turnover of purchases and turnover of sales, the tax is also broad-based and applicable to all sales in business leaving little room for different interpretations. Thus, this system brings certainty to a great extent. 5. Transparency: Under VAT system, the buyer knows, out of the total consideration paid for purchase of material, what is tax component. Thus, the system ensures transparency also. This transparency enables the State Government to know as to what is the exact amount of tax inflows at each stage. Thus, it is a great aid to the Government while taking decisions with regards to rate of tax, etc. 6. Better revenue collection and stability: The Government will receive its due tax on the final consumer/retail sale price. There will be a minimum possibility of revenue leakage, since the tax credit will be given only if the proof of tax paid at an earlier stage is purchased. Thus, in particular, an invoice of VAT will be self enforcing and will induce business to demand invoice from the suppliers. 7. Effect on retail price: VAT does not have any inflationary impact as it merely replaces the existing equal sales tax. With the introduction of VAT, he tax impact on the raw materials is to be totally eliminated. Therefore, there may not be any increase in prices. 8. Self – Assessment: There will be self-assessment by dealers. 9. Other taxes: Other taxes such as turnover tax, surcharge, additional surcharge, etc. will be abolished. 10. Fairness: VAT is a move towards efficiency, equity in competition and fairness in the taxation system. It helps common people, trade, industry and also the government. The overall tax burden is rationalized.Q.14 What are the demerits of VAT?Ans. The following are the demerits of VAT – 1. Differential Rates of Tax: The merits accrue in full measure only under a situation where there is only one rate of VAT and VAT applies to all commodities without any question of exemptions whatsoever. Concessions like differential rates of VAT, composition schemes, exemptions schemes, exempted category of goods etc. distorts the systems. Thus, fundamental principle that VAT will totally eliminate cascading effects of taxes will also be subject to qualifications. 2. Disintegration: So long as Central VAT is not integrated with the State VAT, it will be difficult to put the purchases from other States at par with State purchases. Therefore, the advantage of the neutrality will be confined only for purchases with the State. 3. Accounting costs: Compliance with the Vat provisions requires better accounting and records maintenance which will cost more. Such incremental cost may not reflect any incremental benefits to small traders. 4. Increasing working capital requirements: Since the tax is to be imposed or paid tat various stages and not on last stage, it would increase the working capital requirements and the interest burden on the same.
  13. 13. 5. Inequality of Taxation: VAT is a form of consumption tax. Since, the proportion of income spent on consumption is larger for the poor than for the rich, VAT tends to be regressive.6. Increase in Administration Costs: As a result of introduction of VAT, the administration cost to the State can increase significantly as the number of dealers to be administered will also go up significantly.7. Non-Coverage of both goods and services: The State Vat is characterized by non inclusion of services which reduces its effectiveness as a comprehensive system.8. Higher Base Rate: The base rate 12.54% is considered as relatively high. This rate is fixed so as to ensure collection of equal revenues under the VAT system as compared to sales tax system. However, as the rate is uniform in all the States, revenue neutrality may be difficult to achieve.9. Floor Rate: Floor rates refer to the rates which have to be uniformly applied by all states. However there is no flexibility available for states to tinker with the floor rates. This is contrary to what the concept of floor rate actually refers to.10. Treatment to exempted goods: A major deficiency is observed with regard to treatment of exempted goods. No VAT is leviable on such goods, but no credit will be provided for taxes paid on their purchases at the time of sales to final customers.11. Need for Extensive definition: As there is scope for interpretations, there is a need for defining even a simple term to avoid any confusion as to the rate to be applied for it and also the category in which it falls i.e. whether capital or revenue.12. Arbitrary classification of goods: The basis adopted for classification of goods under capital and revenue category seems to be arbitrary which can lead to confusion and inequity with regard to application of taxes on goods.13. Concessional rates based on End Usage: VAT system is based on the principle that the consumer’s end use (industrial use or export or domestic use) should not affect the levy of taxes on goods except under special circumstances. However, in practice, several concessions being given for industrial inputs which contravenes this principle.14. Revenue loss due to concessional rate: Due to concessional rate, revenue losses from undeclared sales of finished goods increase.15. Huge volume of Exemptions: The basic structure of VAT does not allow many exemptions and it is to be fairly comprehensive which has to lead to periodic elimination of exemptions provided under the erstwhile sales tax system. However, in practice, due to continuous pressure from various industrial and social sectors, the number of exemptions provided has been steadily on the rise which can lead to administrative problems.