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Aug 18

Demystifying Goods and Services Tax (GST)

goods and services tax

Goods and Services Tax (GST) is the latest buzz in Indian commerce today.

To explain simply, Goods and Services Tax (GST) is a comprehensive tax levied on manufacture, sale and consumption of goods and services at a national level. Through a tax credit mechanism, this tax is collected on value-added goods and services at each stage of sale or purchase in the supply chain

Globally more than 75% countries have adopted GST legislation to streamline their taxes on products and services.  All OECD* countries (except US) follow GST tax model as the general standard for taxing their products and services.

This landmark legislation took more than 7 years to become a reality.  The clash of ego amongst the Indian mainstream political diaspora, coupled with the lack of clarity and consensus on various legislative aspects and the supposed loss of revenues to states contributed to the delay. Does GST mean that we have a new tax in addition to various taxes we already have?  The answer is no.  What does this all mean to a common man on the street?  Let us understand in detail.

Broadly all taxes are classified into direct and indirect.  Direct taxes are paid directly by the individual to the government. Eg., Income tax.  In case of Indirect taxes, the taxes are levied on a person who consumes the goods and services and is paid indirectly to the government through the merchant. The person on whom it is levied bears its burden. The burden of tax can be shifted to another person.  This can be explained in a brief diagram below:

Direct taxes

GST will eliminate the following indirect taxes at the Central and State level.

Central Taxes

  1. Central Excise Duty
  2. Additional Excise duty
  3. Special additional duty of Customs
  4. Additional Customs duty [or Counter Vailing Duty (CVD)]
  5. Central Cesses/surcharges relating to supply of goods and services
  6. Service tax 

State Taxes

  1. Value Added Tax (VAT)/Sales tax
  2. Entertainment tax excluding such taxes levied by local bodies
  3. Luxury Tax
  4. Purchase Tax
  5. Octroi and Entry Tax
  6. Central Sales Tax
  7. Taxes on lottery, betting and gambling
  8. State Cesses/surcharges relating to supply of goods and services

The GST is being introduced not only to get rid of the current patchwork of indirect taxes that are partial and suffer from infirmities, mainly exemptions and multiple rates, but also to improve tax compliances.

Under this regime, the taxation burden will be divided equitably between manufacturing and services, through a lower tax rate by increasing the tax base and minimizing exemptions.

A unified GST is an economically efficient solution for all organized and unorganized sector, as it simplifies the indirect tax structure to one general rate that can be paid by all companies.  Under this, every company gets a deduction on the taxes already paid by its suppliers. That results in every buyer ensuring that his supplier has paid his part, to claim his deductions.

It is expected to help build a transparent and corruption-free tax administration. GST will be levied only at the destination point, and not at various points (from manufacturing to retail outlets). It is also estimated that India will gain, as implementation of GST would help promote exports, raise employment and boost growth.

In the GST system, both central and state taxes will be collected at the point of sale. Both components (the central and state GST) will be charged on the manufacturing cost.  This will benefit individuals as prices are likely to come down. Lower prices will lead to more consumption, thereby helping boost the economy.

An illustrative example is given below:

Existing Under GST
Manufacturer
Selling Price to Wholesaler 100.00 100.00
Excise Duty 14% / GST 18% 14.00 18.00
Total Invoice Value 114.00 118.00
Wholesaler
Input Price 114.00 118.00
Add 25% Margin 28.50 29.50
Selling Price 142.50 147.50

Add VAT 14.5% / GST 18%

20.66

26.55

Less GST input credit – 18.00
Total Invoice Value 163.16 156.05
Retailer
Input Price 163.16 156.05
Add 25% Margin 40.79 39.01
Selling Price 203.95 195.06
Add VAT 14.5% / GST 18% 29.57 35.11
Less GST input credit – 20.66 – 26.55
Total Invoice Value 212.86 203.62

Total Taxes (figures in Red)

43.57

35.11

 

Note – 1. Input costs eligible for GST credits assumed to be Nil at Manufacturer point
Note – 2. GST rate assumed @ 18% in this example
Note – 3. It is assumed that the benefit of input GST credits is passed on to the customer at each level

To conclude, GST is a welcome legislation, which will help achieve the following:

  • Easy compliance
  • Uniformity of Tax rates and structures across the value chain from the manufacturer to the end consumer
  • Real elimination of cascading effect of taxation
  • Improved competitiveness for the trade and industry
  • Reduction in compliance cost
  • Easy tax administration for the state and central governments
  • Better controls on leakage
  • Higher revenue efficiency due to increased tax base 

From CFO’s Desk..

 

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