Value-Added Tax (VAT) Examples

Updated on May 16, 2022

At every point of sale where value has been added, the product is subject to a tax known as a value-added tax (VAT). Thus, the tax is levied at each stage of the supply chain: when raw materials producers sell raw materials to a manufacturer, when that manufacturer sells its finished product to a wholesaler, and lastly to a retail outlet where the customer can purchase it.

The retail customer is ultimately responsible for VAT. The succeeding buyer in the chain reimburses the buyer in the earlier stages of the product’s manufacture for the VAT. The value-added tax (VAT) is widely utilised throughout Europe. There is no VAT system in place in the United States. 1

There are many ways to express the value added tax (VAT). Consumers must pay the merchant $115 if a product costs $100 and a 15% VAT applies. To the government, the merchant owes a total of $15.

.KEY TAKEAWAYS

From the time raw materials are sold to the time the completed product is purchased by the consumer, a value-added tax (VAT) must be paid.
In order to pay back the previous customer in the chain, each assessment is used. As a result, the consumer is ultimately responsible for the tax.
Anti-tax advocates argue that the higher percentage of income that lower-income customers spend on VAT is unjust to those who earn more money.
The idea’s proponents argue that giving a paper or electronic trail of taxes for each product deters tax evasion.

VAT vs. Sales Tax

A national sales tax and a VAT system are often used interchangeably. It’s only once a buyer buys anything that a sales tax is collected. As a result, it is only ever paid by the retail client.

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The VAT system is based on invoices and collects VAT at various stages of the manufacturing process. In order for the government to get its money, a tax is collected each time value is added. 2

Example of VAT

The following is an example of how a 10% VAT might be applied throughout the course of a production chain:

The raw materials for electronic components are purchased from a merchant who has access to a variety of metals. At this point in the production process, the metals dealer is the one who sells the product. To cover the 10% VAT, the dealer costs the manufacturer $1 and adds a 10 cent value-added tax (VAT).

For $2 plus a 20 cent VAT, the firm turns the raw materials into electronic components that go into cell phones. The factory reimburses the metals dealer for the VAT it had previously paid by sending 10 cents of the VAT it collected to the government and keeping the other 10 cents.

For $3 plus a 30-cent VAT, the cell phone producer makes its mobile phones and sells them to a cell phone shop. For every dollar of VAT collected, the company contributes one penny to the federal government. Cell phone manufacturers get reimbursed for 20 cents of the VAT they paid to the electronic components manufacturer.

To conclude, the store sells a phone to a customer for $5, plus a VAT of 50 cents, of which the government takes 20 cents as a compensation for the VAT it paid earlier.

Ten percent of the value contributed by the seller is paid in VAT at each sale point.

The VAT in the United Kingdom

Since 2011, the standard VAT rate in the United Kingdom has been 20 percent. 3

Certain purchases, such as child safety seats and home energy, are subject to a 5 percent tax. Some goods, such as food and children’s clothing, are exempt from VAT. Transactions involving money and real estate are likewise exempt from the tax. 4

Arguments in Favor of VAT

Value-added tax advocates say that a VAT system reduces tax evasion. At each stage of production, VAT is levied (and documented) and serves as a deterrent to operating in the underground market. 2

The outgoings of manufacturers and suppliers must be taxed in order for them to receive credit for paying VAT on their input costs.

In order to get a credit for the VAT they had to pay while purchasing their items wholesale, retail enterprises have an incentive to collect the tax from their customers.

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Better Than a Hidden Tax

A VAT, on the other hand, may be preferable than so-called “hidden” taxes. People don’t often know about these levies, such as taxes on gasoline and alcoholic beverages. Additional fees on top of sales tax in the United States, however they are not itemised. 56

Compared to income taxes, VATs have a lower impact on individual economic decisions because they are levied at the same percentage on many or most products and services.

Even so, it has the potential to have an impact on a country’s economy. The growth of a nation’s GDP, tax collections, and government budget deficits can all be improved by implementing a VAT.

Arguments Against VAT

People with lesser earnings are argued to be unfairly taxed by VAT opponents.

As opposed to the United States’ progressive income tax, a VAT is a flat tax: All consumers regardless of their income pay exactly the same rate.

VAT in the United Kingdom, for example, has a significant impact on the budget of those who earn less money.

Most nations that have VAT, notably Canada and the United Kingdom, offer exemptions or discounts on necessities like children’s clothing and groceries in an effort to lessen this income gap.

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