How does GST Eliminate Tax on Tax? [Video]

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In the current regime of indirect tax system, the chain of input credit, at a certain point, is broken. Let’s say Central Sales Tax (CST) applicable on interstate trade is non-creditable, leading to a break in the input credit chain. Similarly, a manufacturer charging excise duty on sale to a dealer causes the chain to break. This leads to taxes forming a part of the product cost.

In the year 2005, VAT was introduced with the similar objective to overcome cascading affect (tax on tax). If VAT was designed to eliminate it, how is it different in GST?

Yes, VAT eliminated the cascading tax effect on the state indirect tax, while the cascading effect of other indirect taxes still remained. GST allows for seamless flow of tax credit, and eliminates the cascading effect of all indirect taxes in the supply chain from manufacturers to retailers, and across state borders.

Let us examine this with an example of car as a product with overall rate of tax being considered @22% under existing and GST regime – to illustrate elimination of tax on tax

Savings of 5,280 catching your eyes! Isn’t it? Let’s us examine this.

If you observe closely, in the example, the taxes paid by dealer (CGST + SGST) to manufacturer is not added to cost. This is because GST allows the dealer to set off the tax liability of CGST+SGST. This is one of the fundamental features of GST, which allows seamless credit from manufacturer to dealer, and eliminates the cascading effect.

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Pugal T & Yarab A

16 Comments

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  • Dear Sir,

    I appreciate GST formula , because their is no problem to remind to customer to receive C Forms from them and they will avoid to send the C forms and other forms also.

    Any way Good luck to G S T

    • In the current structure, dealer charges only Vat @ 12 % on sales affected; reason being the excise duty + cess is already added to the product cost and cascaded to customer. In GST regime, CGST + SGST paid on purchase is allowed as Input credit. Thereby it is not added to cost and on making sales, CGST 11% + SGST 11% is charged.

  • Dear Sir,
    Please note that in your example savings of 5,280 is mentioned. But the dealer has a loss of Rs.4000/ from current tax Structure. How can we compare this scenerio

    • Hii Sathosh Kumar,
      Nice to see that you are so proactive with respect to implementation of GST & its impact. Regarding your question,
      the profit taken in both the cases is taken as 10%. The reason behind using a percentage (10%) apart from a number i.e Rs. 44,000 profit in both the cases is explained hereafter. See, a Profit of 44,000 or 40,000 in itself is vague. Let me help you with the help of an example.
      Lets say you earn a profit of Rs. 10,000 and I earn a profit of Rs. 20,000. Who has earned more profit? Well, you might be thinking that obviously I have earned more profit but let me tell you that above information that i have supplied to you is insufficient in determining who earned more profit. Let me give you additional information too. You earned a profit of Rs. 10,000 employing a capital of Rs. 20,000. Whereas, I have earned a profit of Rs. 20,000 employing a capital of Rs. 1 Lakh. What do you understand? You have earned a profit of 10,000 @ 50% on capital of 20,000. I have earned a profit of 20000 @ 20% on a capital of Rs. 1 lakh. Who has earned more rate of profit? Obviously, you.
      Thus, profit in itself is vague term. It should be compared with capital or sales to determine actual results.
      Coming to the present example in above video. In first case, i.e excise and Vat, dealer has purchased Car @ Rs. 4,40,000 ( 4,00,000 cost and 40,000 excise, Vat is not taken into consideration because input tax credit will be available when car is sold). The profit added is Rs. 44,000 @ 10%. Similarly in second case, under GST, since cost of car is 4,00,000 only, profit added @10% is 40,000. Do you know why? Because in first case dealer has employed 4,40,000 and in second case only 4,00,000. In second Case, under GST, he is expected to earn another 4,000 @ 10% on Rs. 40,000 which he has not employed in purchase of this car which we are talking about. Hence, there is not any lose to dealer.

      • Thanks for the explanation.

        Quick question: Does it mean that we are taking the opportunity cost of money saved (i.e. INR 40,000 which was not employed in purchase of car) into account as well while calculating the overall savings in GST regime? I guess it is hard to say that the dealer would be able to earn 4000@10% on INR 40,000 which he has not employed in purchase of this car. And, if we consider opportunity costs then probably we should also take the time gap between payment of input tax and collection of output tax into account (which, of course, would be cumbersome).

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