Decoding Goods and Services Tax- An Overview

Goods and Services Taxes  (GST) in an indirect tax. It is applied on value addition achieved at each stage of supply of goods and services. It is a complete, multi-stage and destination based tax.

To explain GST, we need to first know what the term “multi-stage” means.

Before you buy any good from the market it has to go through multiple stages starting from manufacture or production till the final stage. The 1st stage is buying of raw elements leading to the 2nd stage that is production or manufacturing of the good leading to storing and warehousing of the goods so produced and then they are finally sold to the consumers. Tax is levied on each of this stage.

Now let’s know what is meant by value addition. Let’s assume the manufacturer wants to make a car. To start with the manufacturer will initially purchase raw materials, virgin steel, petroleum-based products or other components from the supplier. Post this, he will start making the chassis and the body of the car. So the price of the raw materials or components is increased once it gets converted into the car. Then the car is sent to the warehouse for painting, labeling, an internal assembly which further add values to the car. GST is levied on each of these value additions.

How is GST  levied?

Let’s learn the application of GST via a hypothetical model.

Suppose that the manufacturer of a shirt pays Rs.100 to buy wool and other raw materials. Suppose that the rate of the tax is 10% and there is no profit or loss then he has to pay Rs 10 as tax, so the cost of the shirt becomes Rs. 110.

The wholesaler purchases the shirt from the manufacturer, adds values of Rs. 40. Now the cost of the shirt has increased by Rs.40 and he also pays a tax @ 10% on this and hence the final cost of the shirt becomes Rs 165 (110+40=150, tax @of 10% =15).

The retailer purchases the shirt from the wholesaler of Rs. 165 and adds a value of Rs.30. Now the cost of the shirt comprising tax becomes Rs. 214.5.(165+30+ tax @10%= 195 + 19.5 = 214.5).

Under this scenario, the customer pays Rs. 214.5 for a shirt that technically cost only Rs. 170 (100+40+30).

With the rollout of GST cascading effect of taxes will be decreased. As per the new taxation regime credit will be ready for the tax paid in the acquiring input. Therefore, the individual who has paid taxes already can claim credit for the taxes which he has already paid.

In this shirt instance, when the wholesaler buys the shirt from the manufacturer he has previously paid a tax of Rs.10 because that was included in the cost. Moreover, when he adds a value of Rs. 40 his cost price becomes Rs. 140 and then he pays a tax @ 10% i.e. Rs. 14 but since a tax of Rs. 10 has previously been paid he can get the credit of Rs. 10 and his net tax liability will be Rs. 4.

Now the retailer will pay Rs.154 to buy the shirt (140+14). He adds a value of worth Rs. 30 so now the cost of the shirt becomes Rs. 170( 100+40+30). The retailer will spend tax over this @ 10%, i.e, Rs 17 but he will pay only Rs. 3 to the government as he will get a credit of Rs. 14.

Under the GST framework, the cost of the shirt to the consumer will definitely be Rs. 187, i.e. Rs 170 as total cost and Rs. 17 as a total tax. From Rs. 214.5 the cost of the shirt has come down to Rs. 187.

Henceforth, GST will reduce the burden of taxes from the consumer as he will not have to pay tax on tax. He will only respond to pay the net taxes after availing the tax credit for the taxes which have already been paid in the manufacturing process.

In a nutshell, it can be announced that the GST framework will bring 2-fold benefit, one it will degrade the cascading effect of the taxes and by allowing input tax credit, it will reduce the burden of taxes and hopefully the price of goods and services.

Why is GST considered so important?

GST is considered the most significant tax reform since 1947 because of the following reasons –

  1. Simplified Tax Structure– In the contemporary framework recurring taxes are exposed but after GST all these taxes will be reduced and only GST will be levied which is way simpler and easier to understand. A homely taxation system will lead to ease in compliance and leave the manufacturers with more time.

  2. A catalyst for exports– When the cost of production degrades in the domestic market, Indian goods and services will become more competitive in other in foreign markets and hence help in increasing exports.

  3. Competitive Prices – GST will subsume all other kinds of indirect taxes. A fall in prices will lead to an increase in consumption which in turn will be beneficial to the companies.

  4. Increased revenues to government– A simpler tax model will lead to ease of compliance and thus decreasing the number of defaulters and in turn, there will be an increase in the revenue from the government.

How will GST help India and common man? 

The common man has no idea about the value of taxes he pays on goods currently. When we get a bill after purchasing a product, it furnishes the VAT we have paid which is actually an understatement of the total taxes paid. Hence, the consumers today pay around 20% tax for every product they buy.

After GST kicks in it will improve the consumer in 2 ways. All the taxes will be gathered at the point of consumption and there will no taxes on taxes.

Few products and services will become expensive like recently, the mobile bills are attached with a Service Tax of 15% but after the implementation phone bills will attract tax at 18%. Cosmetics such as shampoos, perfumes, and makeup items will be taxed at the rate of 28% as opposed to the current rate of 22%.

All needs and a lot of products will go cheaper like the tax on smartphones will come down from 13.5% to 12%. Or next time you go for a movie you can spend more on popcorn as the entertainment tax applied by the state has been subsumed under GST and effective rate has been kept at 18%. Transport services will also get cheaper as the effective GST rate for cab rides will be 5% as against a present rate of 6%.

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