Part I: How VAT works
In a VAT registered person's books of account, VAT should not be included in income or expenditure account. This is because a VAT registered person is a collector of tax, which is neither his income nor expenditure.
Hence, VAT should be shown in the books of account under a separate liability account, which is ultimately reflected in the balance sheet under creditors. Like any other outward payment, VAT is also a liability. In some cases where VAT is overpaid, it will be shown as an asset under debtors.
Capital Goods
In the case of capital goods purchased for business, only the principal sum should be capitalized leaving the VAT element as a recoverable sum (Input Tax). For example, if machinery worth Rs 10 lakh was purchased and VAT amounting to Rs 1,25,000 paid on it, then only the original value of Rs 10 lakh is capitalized under 'machinery' account. The VAT amount of Rs 1,25,000 should be debited to the VAT account and ultimately reflected as Input Tax.
Unregistered Traders
In the case of unregistered traders, VAT paid will become part of their cost since they are not eligible to claim Input Tax. For them VAT will increase the cost of all goods as applicable. In particular, the VAT on fixed assets shoud be added to the cost of the fixed assets concerned. So in the above example, the capitalized machinery cost will be Rs 11,25,000 for an unregistered trader.
Loss of Goods in Transit
Sometimes goods for which Output VAT has already been charged are lost or destroyed in transit before reaching the premises of the purchaser.
If the goods are lost or destroyed while being transported by the supplier and before being delivered to his customer, and VAT has already been charged on those goods, then the supplier is entitled to issue a credit note to remove the VAT because a 'sale' has not taken place since delivery has not taken place.
If, however, the goods are lost or destroyed in transit already in the custody of the purchaser, the VAT, which had already been charged, must remain because a 'sale' had already taken place when the supplier handed over the goods to the customer or his transport agent.
VAT on Trade
VAT is charged on the supply of goods in India. It is charged on any supply of goods made or provided in India where it is a taxable supply made by a taxable person in the course of furtherance of any business carried on by him.
'Supply' includes:
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Sale, supply or delivery of goods to another person.
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Sale or provision of taxable supplies to another person.
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Appropriation by a registered person to taxable goods for his own case.
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Making of a gift of taxable goods.
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Letting of taxable goods on hire, lease or other transfers.
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Any other disposal of taxable goods.
Where sale takes place in the course of import of goods into or export of goods out of the territory of India, such sale shall not be liable to VAT. VAT is also not payable on sale of goods that takes place in the course of inter-sale trade or commerce.
VAT for Works Contracts
When a contractor starts a works contract, he buys building materials and other inputs for the project and pays VAT on these goods. He does not have to file a VAT Return although he has paid VAT on buying building materials for his works contract.
But if he receives an advance, he must pay VAT in the current or following tax period. When the work is going on and he receives a part payment, he has to file the VAT Return showing this amount and pay VAT accordingly. On completion of the contract, he is owed some retention amount for making good any defects. Where the retention amount is receivable after completion of works, VAT shall become payable in the tax period when retention money is due to be received.
In case the contractor has sub-contractors to carry out some part of the works, VAT is payable by the sub-contractor on his portion of sub-contract. On paying VAT to sub-contractor, the main contractor can claim it against the VAT payable on the amount received by him on its portion of the main contract.
Is VAT payable if he builds his own house or builds for his staff? Where a person puts up his own building, whether for office or for residential use, the purchases made by him thereof are for purpose of use/ consumption in the building.
Since he is not making any sale, he is not liable to pay VAT in such a case. However, for the purchases he makes from a registered dealer, the dealer will collect VAT from the owner of the building. So he cannot claim his VAT.
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