Value Added

Tax(VAT)
By - SANJAY KUMAR
Asst. Prof. of Law
The WBNUJS, Kolkata

Sales Tax System

Sales tax
single point
multipoint
first point/MST

last point/RST

Constitutional Provisions
Art. 265- no tax shall be levied or
collected except by authority of law
Art. 246(3) read with Entry 54, List
II(State
List),
Schedule
VII
of
Constitution of India empowers the
states to levy tax on sale or purchase
of goods
Every states had Sales tax legislation to
levy, collect and administer sales tax

Salient Features of Sales Tax System

Two taxes :
Sales tax applies to sales within the
State
Central sales tax-applies to interstate sales
Declared goods goods specified u/s
14 of CST which are considered to be
of importance in inter-state trade
effective sales tax rate can not
exceed 4% and no multipoint

Contd
Tax Incentive Schemes
Tax holidays i.e. no collection of tax
Tax deferral i.e. collection of taxes by
the dealers but payment to govt. is
deferred for specified period. It is like
interest free loan
Tax remission i.e. collection of taxes
which will be kept by dealer himself and
not to be paid to the govt.. It is aid to
the dealer
End use exemption e.g. public hospitals,
military canteens, etc.

 Multiple tax rates

Additional tax in the form of
surcharge or turnover tax, cess
Entry tax and octroi

Drawbacks in Sales Tax

System
Narrow and shrinking tax base
Exclusion of services
Exemptions and concessions
First-point taxation excluding the value
addition at subsequent stages
Undervaluation at the point of first sale

Multiple levies and rates

Contd.
Cascading effect, i.e., tax on tax. In sales
tax system, before a commodity is
produced, inputs are first taxed and then
after the commodity is produced with
input tax load, output is taxed again
Vertical
integration
i.e.
where
manufacturer of a product decides to
produce the input himself
Interference with production decisions

Background
1991- LPG policy
Meetings/ conferences of Chief Ministers in
1995& 1999
The Empowered Committee of State Finance
Ministers, constituted by the Ministry of
Finance, GOI in July 2000, on the basis of
resolution adopted in the conference of the
chief Ministers on November 16, 1999
On January 17, 2005, the Committee released
A White Paper on State-Level value Added Tax

Contd
Based on the white Paper, every
state has enacted its own VAT Act
replacing the existing Sales Tax
legislations
State of Haryana was the first state
in India to introduce the VAT

VAT-Meaning, Definition & Concept

VAT is a tax on value addition at each
stage of production, distribution
chain
VAT is multipoint sales tax with a
provision for input tax credit
Sale is a taxable event in case of VAT
Essentially VAT is a Sales tax,
therefore, the VAT is subjected to
same
constitutional
restrictions
which were in case of Sales tax

Contd.
Illustration: Let us assume a chain of
transactions involving, A- Supplier of
inputs, B- Manufacture of taxable
goods, C- Wholesaler, D- Retailer,
Rate of tax -10%. The VAT will be paid as
under- Commercial Tax Department
10
200+20

10 5
B

250+25

Total VAT= 30

5
C

100+10
300+30

Consumer

Methods to Compute VAT

Addition Method
Subtraction method
Input tax credit (ITC) method
ITC method is followed for
computation of VAT because of its
merits over other methods

Addition Method
Value added to a commodity is determined
by adding the value of all elements which
contribute in increasing the value of the
commodity.
Thus, value added= all trading & manufacturing
exps. + Profit
Demerits:
- Computation is possible only after the end of the
year when final A/Cs are ready
- Tax liability, even if the commodity is sold at a
loss

Subtraction Method
Value added is computed by subtracting from the
value of the output the value of input (purchases)
Thus, value addition = sale price purchase price
Demerits:
- the seller must know accurately the purchase
price of the commodity being sold
- when the purchase price and sale price will be
known to the buyer, he will always insist the
seller to reduce the price and make a less profit

ITC Method
Also known as Invoice Method
All states have adopted this method
In this method, tax charged is shown
separately in the invoice (bill) and the tax is
not included in the amount of turnover of
the dealer. The dealer is required to pay the
difference of what tax he has charged and
what tax he has paid at the earlier stage.
Thus, VAT = tax payable on sale tax paid
on purchase

Features of VAT
Input tax credit
- it is a backbone of VAT. It is available to almost all
the dealers unless otherwise provided
Tax on capital goods
As decided by the empowered committee, there is
negative list of capital goods not eligible goods
Tax credit is available. However tax credit may be
adjusted over a maximum of 36 equal monthly
installments
The States may, at their option, reduce the no. of
installments

Contd.
Purchases not eligible for ITC
From unregistered dealer
From registered dealer opting
composition scheme
Notified by the state govt.
Where the proper invoice is
available
Which are being utilised in
manufacture of exempted goods
Inter-state purchases

for

not
the

Contd..
Registration
Dealer whose gross annual turnover exceeds
Rs. 5 lakhs
Apply to the authority within 30 days from the
date of liability to get registered
Allotment of Tax Payers Identification Number
(TIN). It consists of 11 digits numerals. The
first two digits represent the state code as
used by Union Ministry of Home Affairs and
remaining will vary from State to state

Contd.
Payment
Monthly or quarterly as may be specified
Net tax payable = output tax +reversal
of credit (on exempted goods, stock
transfers, free samples, lost inputs) ITC
available
In any case payment must be made
before filing of return
No carry forward of taxes. However ITC
can be carried forward

Contd..
Return
Monthly or quarterly as may be specified
Accompanied with payment challans
Scrutinized expeditiously within prescribed time
limit from the date of filing of the return

Assessment
No compulsory assessment at the end of each year
Self assessment by the dealer in terms of
submission of return

Contd..
Audit
Since there is no compulsory/ regular
assessment, audit is required
Departmental audit and external audit i.e.
audit by CAs, if any

Records
Purchase records
Sales records
VAT records

Penal provisions
It should not be more stringent than in the
existing Sales Tax Act

 Coverage
of
goods,
Classification of goods

Rates

and

In general, all the goods including declared

goods are covered
Few goods kept outside VAT like liquor, lottery
tickets, petrol, diesel, aviation turbine fuel
(ATF) and other motor spirit as their prices are
not fully market determined. Such goods will
continue to be taxed under the Sales Tax Act
or other State Act or even by making special
provisions in the VAT Act itself

 Two basic rates of 4% and 12.5%(Revenue Neutral rate)

and one special rate of 1%
Rate structure is as followscategory A exempted goods (generally natural and
unprocessed products, items which have social
implications, etc.)
category B zero rated goods/sales, i.e., sale shall be
exempted and input tax shall be refunded ( export of
goods)
category C goods taxed @4% ( goods common for all
the States, items of basic necessities like medicines &
drugs, all agricultural & industrial inputs, capital goods
and declared goods

Contd.
category D goods taxed @ 1%
(gold, silver, precious metals and
articles including jewellery made
thereof, precious & semi precious
stones, etc.)
category E- goods taxed @ 12.5%
(goods not covered any of the
aforesaid categories)

Contd.
Small dealers and composition scheme
Dealers with specified turnover (Small
Dealer) would have an option to pay a
lumpsum amount
based on its total
turnover at a specified rate as low as
0.25%
Conditions
- Turnover of the registered dealer does not
exceed Rs. 50 lakhs

Contd..
Advantages:
- simple calculation
- small tax will be payable
- simple records to be maintained
Disadvantages:
- no ITC can be claimed
- can not issue tax invoices

Levy of VAT in Case of Works

Contract
Entry 54, List II, Schedule VII read
with Art. 246 empowers the states
to levy sales tax
For sales tax, Two conditions - Sale
and goods
Goods
means
movable
and
marketable
Sale ? State of Madras v. Gannon
Dunkerley & Co. (Madras) Ltd.,(1958)
9 STC 53 SC

Continued.
It led to tax avoidance and causing
huge revenue loss to the States
61 Report, 1974, Law Commission of
India
46 Constitutional Amendment, 1982Insertion of Art. 366(29A)- Taxes on
sale or purchase of goods includes,
inter alia, taxes on the transfer of
property in goods (whether as goods
or in some other form) involved in

Continued
Thus concept of deemed sale was
introduced
Contract for sale and contract for
work-Dominant intention test i.e.
main object of contract - Hindustan
Shipyard case
Associated cement companies caseDominant intention test-Rejected, for
levy of sales tax

Nature of Real Estate

Transaction
Situation-I
A-Land Owner
B- Developer
sold
land Agreement to sell the constructed flats
XYZ- Prospective Buyers

Situation-II
A-Land Owner
Developer

agreement to develop

To transfer undivided
interest in the land

land Agreement to sell the constructed flats

XYZ- Prospective Buyers

B-

Works contract for levy of

VAT
Works
contract
includes
any
agreement for carrying out for cash
or for deferred payment or for
valuable consideration, the building
construction,
manufacture,
processing,
fabrication,
erection,
installation, fitting out, improvement,
repair or commissioning of any
movable or immovable property

Continued.
K. Raheja Development Corporation v.
State of Karnataka, AIR 2005SC 2350
Held:
- The definition is very wide
- It is not restricted to works contract as
commonly understood i.e. a contract to do
some work for and on behalf of someone else
- It includes any agreement for carrying out
for consideration, building and construction
of any movable or immovable property

Continued..
Sweeping remark- if the agreement is
entered into after the flat or unit is already
constructed, there would be no works
contract. But so long as the agreement is
entered into before the construction is
complete, it would be works contract
In Assotech Realty case, All. High Court
and in Magus construction case, Guwahati
High Court, took the contrary view

Continued
In Larsen & Toubro Ltd and others v.
State of Karnataka and others,
(2008) 17 VST 460SC
The SC-raised doubts on K. Rahejas
ratio and observed that if K.Rahejas
ratio is accepted, there will be no
difference between contract for sale
and works contract- matter referred
to larger bench of SC