VAT - a consumption tax

VAT (Value Added Tax)

VAT is a consumption tax levied on services and commodities. VAT is levied on almost all services and items supplied or purchased for consumption or use. VAT is levied on all services and items supplied or purchased for consumption or use in various nations. In most circumstances, items sold are exempt from value added tax. The value added tax applies to usage since the burden is borne by the final consumer.

Business Activities and VAT

All business activities including the distribution and manufacturing of commodities, as well as the supply of all services, are subject to value added tax. The decision for the sales tax to be replaced with the value added tax came as a result of the deficiencies that existed in sales tax system. The sales tax used to be a narrower form of tax than the value added tax since the revenue that was much narrower. The sales tax also used to a single stage form of tax and hence resulted in government’s revenue through tax evasion ("Value Added Tax," 2017).

End User's Burden

Under the value added it is always the end user who bears all the tax. The tax is always charged on each transaction in the distribution and production chain; most institutions tend to deduct the value added tax that is paid informal of input tax. In many states, it is normally the person who acquires the service or good for private use that is not required to deduct the value added tax and bears the cost of the tax. Value added tax tends to be an indirect tax, it is essentially a tax on the expenditure in the domestic economy rather that output of the domestic economy ("Value Added Tax," 2017).


Value added tax is usually calculated by the invoices at the end of the supply chain. Value added tax on any product or commodity that is sold is the percentage of the sale from this point the buyer of the good is required to subtract the tax that was already paid in the proceeding stage. It is done this way to avoid instances of double taxation. Those traders who are registered for the value added tax are issued with an individual number, and they have the mandate of showing the value added tax that charged on the clients on invoices.

For instance, when a car company built by purchasing material from Germany, the manufacturer is charged value added tax on the products that are used to produce the motor vehicle set. Once one the motor vehicle is available to the customer for purchase, the total value added tax that was charged on the raw material is transferred to the customer. In this case, the value added tax is based on the taxpayer consumption of goods rather than the incomes they have. The mechanism of value added tax is such that for the goods that are consumed and imported in any state, the seller will in most cases bear the original tax, the first seller will, in turn, pay the first point of tax, the next seller pays the tax based on the value addition done. This means that the aggregate burden of the tax is the same as the last point of tax (Fuest, & Schneider, 2011).

VAT Tax Base

The amount of value added tax that is charged on goods and services depends on country to the other. And since the value added tax is the tax on consumption and expenditure in the local economy, the individual who finally bears the tax is the consumer of the service or the good. The distributor of the service or goods are simply the unpaid tax collectors for the state. Because of this reason, the value added system are designed to relieve the distributors or supplier of both services and goods most or even all the burden in respect to the values added tax that is charged to them by another supplier in the day to day business activities.

That supplier who is registered is allowed to deduct the value added tax that they are charged from the money they collect from the customers during the purchases of the goods. The difference must, however, be handed back to the government.

Different Rates on All Goods and Services

The value added tax is in many cases an indirect form of tax that is charged on all the services and goods each time the cost is added to the good during the sale. The value added tax is usually charged by the manufacturer of the good to the purchaser of the commodity. The manufacturer refunds the same tax to the government. The services and goods tax or the GST are also indirect taxes that are applied to the services and goods only once, and it is usually at the final sales. In many states around the world, GST and VAT is charged on the service Good tax registration, but it all depends on guidelines and laws on much it will be used (Fuest, & Schneider, 2011).

Tax Evasion Point View On VAT

Reduction of MRTS

From the classes of taxable supplies value the VAT must always be charged. The VAT must be collected by the taxable person during the daily business. A taxable individual is one who has registered for the value added tax. In many countries, the input taxes is paid on that particular trader by the individual who is required to be registered for the value added purpose. Tax evasion is the most prevailing and simplest form of value added fraud. In many cases, the registered traders fail to disclose their true and actual liability on the value added tax by inflating purchases and suppressing the sales sometimes both. Some of the businesses such as launderettes, taxi firms, pubs, and restaurants are the main suspects when it comes to tax evasion.

From the above curve, the unreported income was at point D1 where MB1=MTR1=MC, at that point, the rate of tax evasion was significantly high but after the intervention by the government, the amount of unreported income on an annual basis declines to a new equilibrium E2 where d2 = E2. From the above curve, the marginal benefit curve shifts from the original equilibrium to a new point MB2. This method mostly relies on moral persuasion and force for compliance is often limited.

Raising the Marginal Cost of Duty Evasion

From the above curve, the original value added tax evasion was at point D1 where then MB=MTR=MC1. At this point, the level of unreported income on an annual basis was significantly higher, but after the government had decided to increase the probability of detection or even the penalty that results from evasion marginal cost 2, taxpayers became afraid of the law thereby complying with tax regulation. Unreported income in that year reduced to point D2 with a new equilibrium E. From the above diagram there was an increase in the cost and benefits received from the taxation.

Comparison of the Two Methods

Both the two methods serve the same purpose of reducing the amount of unreported income; the only different is the method that is applied. In the "reduction in the MTRs" method, there is a decline in the cost and benefits when the unreported income is reduced, however, when increasing the cost and benefit of tax evasion the marginal costs and benefits rises.

The level of tax evasion will always depend on numerous factors that include the amount of money that the corporation or person possesses. In many cases, the efforts to evade payment of the value added taxes declines when the amount of money that a person holds is much lower. The level of value added tax will also depend on the level of efficiency of the tax administrations of tax evasion. When the citizens understand the importance of paying the taxes then instances of tax evasion will significantly be reduced (Alm, & El-Ganainy, 2012). The government can also decide to use force whenever they feel that the citizen are not complying; this is done by streamlining the law and making sure that those who fail to pay face a stiff arm of the laws. This serves a means of discouraging others from evading tax payment.


Alm, J., & El-Ganainy, A. (2012). Value-added taxation and consumption. International Tax And Public Finance, 20(1), 105-128.

Fuest, C., & Schneider, F. (2011). Tax evasion, tax avoidance, and shadow economy: an introduction. International Tax And Public Finance, 19(1), 1-4.

Value Added Tax. (2017). Google Books. Retrieved 9 May 2017, from

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