# 2. VAT

The Value Added Tax (VAT) is an indirect tax that is levied on most commercial transactions. Take the definition given by the European Comission:

The Value Added Tax, or VAT, in the European Union is a general, broadly based consumption tax assessed on the value added to goods and services. It applies more or less to all goods and services that are bought and sold for use or consumption in the European Union. Thus, goods which are sold for export or services which are sold to customers abroad are normally not subject to VAT. Conversely imports are taxed to keep the system fair for EU producers so that they can compete on equal terms on the European market with suppliers situated outside the Union.

• a general tax that applies, in principle, to all commercial activities involving the production and distribution of goods and the provision of services.  However, if the annual turnover of this person is less than a certain limit (the threshold), which differs according to the Member State, the person does not have to charge VAT on their sales.
• a consumption tax because it is borne ultimately by the final consumer. It is not a charge on businesses.
• charged as a percentage of price, which means that the actual tax burden is visible at each stage in the production and distribution chain.
• collected fractionally, via a system of partial payments whereby taxable persons (i.e., VAT-registered businesses) deduct from the VAT they have collected the amount of tax they have paid to other taxable persons on purchases for their business activities. This mechanism ensures that the tax is neutral regardless of how many transactions are involved.
• paid to the revenue authorities by the seller of the goods, who is the “taxable person”, but it is actually paid by the buyer to the seller as part of the price. It is thus an indirect tax.

Although the definition presented is that of the European Union, the major principles are applied in most countries around the world where VAT taxes have been implemented. VAT is charged on every good and service, independently if the buyer is an intermediary or the end consumer. The price that is charged is the price after VAT:

• $$P_{afterVAT}= P_{before VAT}+P_{before VAT}\times {VAT rate}=P_{before VAT}\times (1+{VAT rate})$$
###### Example – How is VAT charged?

Electroappliances is a domestic electronic appliances retailer. Daniel is buying a toaster from them. The VAT rate for electronic products is 17%. The base price at which Electroappliances sells its toasters is 50 EUR.

What is the end price that Daniel pays?

The answer is simple: Electroappliances will have to charge both its price and the VAT. The end price is:

• $$Price=50\times\left(1+0,17\right)=58,50$$

The previous examples is a simplification, but it provides you an idea of how VAT works. You probably noticed that Electroappliances got paid more than the price it was charging. So, what happens to the 8,50 EUR Electroappliances charged as VAT?

The company will have to deliver them to the local tax authorities. Depending on the local legislation, companies are obliged to present the details of all commercial transactions to the tax authorities within a given timeframe and pay the VAT to the country’s tax authority on behalf of their clients.

Businesses can deduct the VAT that they were charged when acquiring products or services for their productive system. When companies handout the information about the VAT they charged, they will also provide the information of the VAT they were charged by other companies. The VAT to be paid to the tax authority is the difference between the VAT on sales and the VAT of purchases.

###### Example – VAT balance

As a retailer, Electroappliances buys appliances from manufacturers and sells them to consumers. The VAT rate is 17%. The company holds the following information for a month period:

 Purchased goods Quantity Price (before VAT) Purchase value VAT paid Toasters 150 25,00 3.750,00 637,50 Refrigerators 10 280,00 2.800,00 476,00 TVs 25 500,00 12.500,00 2.125,00 A/C units 5 350,00 1.750,00 297,50 Dishwashers 25 250,00 6.250,00 1.062,50 Washing machines 15 320,00 4.800,00 816,00 Total 31.850,00 5.414,50
 Sold goods Quantity Price (before VAT) Revenue value VAT charged Toasters 114 35,00 3.990,00 678,30 Refrigerators 16 360,00 5.760,00 979,20 TVs 28 750,00 21.000,00 3.570,00 A/C units 3 420,00 1.260,00 214,20 Dishwashers 23 330,00 7.590,00 1.290,30 Washing machines 14 415,00 5.810,00 987,70 Total 45.410,00 7.719,70

The net VAT to be paid is:

• $$Net\ VAT\ =VAT\ charged-VAT\ paid=7.719,70-5.414,50=2.305,20$$

The company will have to handout 2.305,20 EUR to the tax authority.

The concept behind VAT deductibility is that only the final consumer pays the VAT charges. If companies could not deduct the VAT, the VAT amount would be considered a cost and, thus would increase the cost of production on every stage of production until the final good or service is delivered to the individual clients. The acquisition of investment assets is also deductible in most situations.

VAT does not affect the profits and losses of a company, because it is not a cost, but it affects the company’s cash flows, because it increases the amounts that clients owe the company and the amounts that the company owes its suppliers and because the company holds the net VAT balance for a given period before paying it to the tax authority. Be aware that, depending on the nature and industry of a company, there are some costs that are no VAT deductible. In those cases, VAT is considered to be a cost.

Each country that taxes VAT has a different structure of rates, but the configuration commonly includes:

• A standard rate: the rate that applies to the majority of goods and services;
• One or more reduced rates: rates that are lower than the standard rate, which are applied to essential products or services within the health sector or to necessity goods.
• A zero rate: in generic terms it is the rate that is applied to exports and, in some countries, to goods related of the health sector or necessity goods.

Necessity goods are the last products that clients will stop buying if their income diminishes. The most common example of a necessity good is food (although not all food items are considered a necessity good). Which items are considered a necessity good and how are reduced and zero rates applied varies from country to country, except the application of the zero rate to exports, which is applied equally everywhere.

#### VAT rates around the world

The table below presents the VAT rates applied in several countries. Do be aware that the incidence of the zero-rate and the reduced rate changes from country to country.

 Country Reduced rates Standard rate Austria 10% / 13% 20% Belgium 6% / 12% 21% Bulgaria 9% 20% Croatia 5% / 13% 25% Cyprus 5% / 9% 19% Czech Republic 10% / 15% 21% Denmark – 25% Estonia 9% 20% Finland 10% / 14% 24% France 2,1% / 5,5%/ 10% 20% Germany 7% 19% Greece 6% / 13% 24% Hungary 5% / 18% 27% Ireland 4,8% / 9% / 13,5% 23% Italy 4% / 5% / 10% 22% Latvia 5% / 12% 21% Lithuania 5% / 9% 21% Luxembourg 3% / 8% / 14% 17% Malta 5% / 7% 18% Netherlands 6% 21% Poland 5% / 8% 23% Portugal 6% / 13% 23% Romania 5% / 9% 19% Slovakia 10% 20% Slovenia 9,5% 22% Spain 4% / 10% 21% Sweden 6% / 12% 25% United Kingdom 5% 20%
##### VAT is different from sales or use taxes

The United States are one of the few countries where VAT is not applied, either at federal or state level. Instead most states impose a sales or use tax.

Sales tax is calculated by multiplying the purchase price by the applicable tax rate. Tax rates vary widely by jurisdiction and range from less than 1% to over 10%. Sales tax is collected by the seller at the time of sale. Use tax is self assessed by a buyer who has not paid sales tax on a taxable purchase.

Sales taxes can be charged indefinitely if a good is retailed more than once (if it is a product for which it is common to exist second-hand retailing) and, unlike VAT, sales taxes are not deductible.

#### VAT within CASFLO APP

Whether you are forecasting a product or service sale, or you are forecasting a raw material, consumable or any other operating expense you must input the price before VAT. VAT will automatically be added for you. The same applies to investment items.

CASFLO APP treats every investment asset that is forecasted to be VAT deductible. If you are forecasting an item that is not tax deductible you should input its price after tax.

You can set a generic VAT rate in the project settings. That rate will be the one suggested to you in every item of forecast that is subject to VAT: revenues, raw materials and consumables, operating expenses and the acquisition of investment assets.

Next Section: 3. Corporate tax