Method for Computation of VAT?

Addition Method

Total Costs of All factors of Production (labor electricity,etc)

(It does not include Raw Material Costs)

Add

Profit Margin

= Total Value Addition .

Tax is imposed on this Value Addition.

Duty liability is cacluated periodically (monthly or quarterly) and not invoice vise

Drawback:-

Matching of purchase and sale invoices is not done here,

Hence, there can be evasion of taxes

Note:-This method is normally used with Income Variant.

Invoice Method

It is the most common method

In this

VAT Payable

=Tax on Sales Bills

Less

Tax on Purchase Bills

Hence, tax is payable at each stage and there is less chances of loss of revenue.

If at any stage the transaction is kept out of the books, still there is no loss of revenue.

The Government can recover the full tax at the next stage.

This method is also called the 'Tax Credit Method' or 'Voucher Method'.

Drawback:-

There are chances of tax evasion by producing fake invoices. Hence, proper measures shall be taken to avoid fake invoices.

Cost subtraction method

In this method, tax is calculated as follows

Direct Subtraction Method

Taxable turnover = (Sales excluding taxes-Purchase excluding taxes)

Tax = Taxable turnover*Tax Rate

Intermediate Subtraction Method

Taxable turnover =(Sales including taxes-Purchase including taxes)  

Tax= Taxable turnover*Tax Rate

This method is suitable for Gross Product Variant.

Drawbacks:-

Tax cannot be shown in Invoice

Duty liability is calculated periodically (monthly or quarterly) and not invoice vise

Exam Questions

Question 1
Briefly answer the following questions:-
(a) Which is the most popular and common method for computing VAT liability and at what
stage is the tax imposed under this method?

(c) What are the items aggregated in the addition method to calculate the VAT payable?
When is this method mainly used?