Difference between VAT and Sales Tax

Difference between VAT and Sales Tax

In this article we will discuss difference between VAT and sales tax. VAT and sales tax are two different forms of consumption tax. Both have differences in the method in which they are imposed on the consumer.

Value-added tax, or VAT, is a tax model widely used worldwide in all developed and developing markets except the United States. Sales taxes are used in the United States only and are applied by state and local governments to various categories of retail goods. The differences in these two systems are clear although they do overlap in some cases.

Value Added Tax is a form of indirect tax levied on various stages of production of goods and services. VAT is levied on imported goods as well and the same rates are maintained as for local products. Most European and non-European countries have adopted this taxation system. The transparent and neutral nature of taxation has encouraged VAT to emerge as one of the strong revenue generators in these countries.

What is VAT?

VAT stands for Value Added Tax. It is a form of indirect tax levied on a product or service at various stages of manufacture. Taxes are paid to the government directly by producers, and costs are passed on to consumers. It is also a type of indirect tax because the taxpayer is the consumer whereas the taxpayer is the seller of goods. The added value for each product can be calculated as the selling price minus the cost of inventory and other taxable items. Value added tax is imposed on imported goods and original products.

The VAT system effectively covers issues regarding declines and credit input taxes that lead to price increases at the consumer level. Avoiding tax payments in this VAT system is the least likely in this system because taxes are imposed on each level of production of goods. This tax payment system involves much needed transparency and is easy to understand.

VAT is a form of consumption tax. One of the drawbacks of this system is that it requires comprehensive account handling. This type of tax structure is in use worldwide but is still not used in the United States. The VAT indirect tax system may impose some limitations with respect to developing countries.

What is Sales Tax?

Sales tax is levied at the time of purchase of a product or service. Taxes are easy to calculate, and the consumer knows very well how much he will pay in taxes. The sales tax amount can be calculated as a percentage of the sales taxable price. The tax is collected from the consumer by the seller at the time of purchase. The seller at a later stage transfers the tax to the responsible government agency. Sales tax is easy to calculate because it is charged to the final amount.

Sales tax has strict rules to follow. Ideally, these taxes would be difficult to avoid, have a high level of compliance, and be easy to collect. But the situation is actually different. Sales tax has a very high level of evasion. Sales tax is also a form of consumption tax.

Difference between VAT and Sales Tax

Following are the main differences between Central Sales Tax and VAT:

  1. VAT is levied on producers and consumers while sales tax is levied only on final consumers.
  2. VAT involves complicated accounting while sales tax involves simpler accounting.
  3. VAT is applied to various stages of production while sales tax is applied to the total value of purchases.
  4. VAT efficiently avoids tax evasion while sales tax cannot deal with this.
  5. In VAT, the possibility of tax evasion is very less compared to Sales Tax where tax evasion can be done easily.

VAT is one of the newest instruments of the global economy and is widely accepted and implemented in most countries. However, VAT poses a problem in developing countries. The dominance of low per capita income in developing countries makes it difficult for governments to generate income through income taxes. Compared to VAT, sales tax is the main revenue generator for local governments in these countries.