GST: A basic understanding

*What is GSTA good and service tax (GST) or value added tax (VAT) is a tax on domestic consumption. It is multi-stage tax for which the tax burden is intended to fall on the final consumer.

Under GST, registered dealer is to charged GST on its output and pay GST on inputs. Difference of OUTPUT GST and input GST he has to pay to the tax authorities. To avoid cascading effect tax is paid on only on the vale addition at each stage.

More than 140 countries have already introduced GST/National VATMost countries have a single GST rate Typically it is a single rate system but two/three rate systems are also prevalent depending upon the requirement of the implementing nationStandard GST rate in most countries ranges between 15-20%All sectors are taxed with very few exceptions/ exemptionsFull tax credits on inputs 100% set offCanada and Brazil alone have a dual VATUS does not have a national level VATGST-Global Scenario

Slide *GST

CountryStandard rateDate introducedKorea10%22 Dec 1976Indonesia10%1 April 1985Taiwan5%15 November 1985New Zealand12.5%1 October 1986Philippines12%1988Japan5%1 April 1989Thailand7%1 January 1992China17%1 January 1994Singapore7%1 April 1994Cambodia10%1 January 1999Vietnam10%1 January 1999Australia10%1 July 2000India16% (TBC)1 Oct 2010 (TBC)Malaysia4% (?)July 2011 (?)

*Constitutional Provisions on Centre-State Fiscal BalanceDirect Tax Income Tax levied by the CentreTax on manufacturing levied by Centre (Central Excise)Tax on sales levied by the State (Sales Tax or State VAT)Tax on inter-State sale & Declared Goods Central Sales Tax - Central law but collected & retained by the State Tax on services levied by the Centre (Service Tax)Tax on Exports & Imports levied by the Centre (Customs Duty & Export Duty)

Different taxesDirect TaxesPersonal Income TaxTax on Corporate IncomeTax IncentivesCapital Gains TaxIndirect TaxesSecurities Transaction TaxService TaxExcise DutyCustoms DutyTaxes Levied by State Governments and Local BodiesOther TaxesSales Tax or Value Added Tax

Taxes Levied by Central Government Direct Taxes Tax on Corporate Income Capital Gains Tax Personal Income Tax Tax Incentives Double Taxation Avoidance Treaty Indirect Taxes Excise Duty Customs Duty Service Tax Securities Transaction Tax Taxes Levied by State Governments and Local Bodies Sales Tax/VAT Other Taxes

Excise Duty Manufacture of goods in India attracts Excise Duty under the Central Excise act 1944 and the Central Excise Tariff Act 1985. Herein, the term Manufacture means bringing into existence a new article having a distinct name, character, use and marketability and includes packing, labeling etc.Customs Duty The levy and the rate of customs duty in India are governed by the Customs Act 1962 and the Customs Tariff Act 1975. Imported goods in India attract basic customs duty, additional customs duty and education cess.Sales Tax/VAT Sales tax is levied on the sale of movable goods. Most of the Indian States have replaced Sales tax with a new Value Added Tax (VAT) from April 01, 2005. VAT is imposed on goods only and not services and it has replaced sales tax.

Service Tax Service tax is levied at the rate of 10% (plus 2% education cess) on certain identified taxable services provided in India by specified service providers. Service tax on taxable services rendered in India are exempt, if payment for such services is received in convertible foreign exchange in India and the same is not repatriated outside India.Securities Transaction Tax Transactions in equity shares, derivatives and units of equity-oriented funds entered in a recognized stock exchange attract Securities Transaction Tax

How VAT is applied :If, for example, input worth Rs. 1,00,000/- is purchasedand sales are worth Rs. 2,00,000/- in a month, and input tax rate and output tax rate are 4% and 10% respectively, then input tax credit/set-off and calculation of VAT will be as shown below:(a) Input purchased within the month : Rs. 1,00,000/-(b) Output sold in the month : Rs. 2,00,000/-(c) Input tax paid : Rs. 4,000/-(d) Output tax payable : Rs. 20,000/-(e) VAT payable during the month : Rs. 16,000/-after set-off/input tax credit[(d) (c)]Coverage of Set-Off / Input Tax Credit

*Why there is need to GSTThe design of the CENVAT and state VATs was dictated by the constraints imposed by the Constitution, which allows neither the Centre nor the States to levy taxes on a comprehensive base of all goods and services and at all points in their supply chain.

The Centre is constrained from levying the tax on goods beyond the point of manufacturing, and the States in extending the tax to services.

*Why there is need to GSTThis division of tax powers makes both the CENVAT and the state VATs partial in nature and contributes to their inefficiency and complexity.The CENVAT is levied on goods manufactured or produced in India. This gives rise to definitional issues as to what constitutes manufacturing, and valuation issues for determining the value on which the tax is to be levied.

*Why there is need to GSTThe taxable value at the point of manufacturing relative to the value added beyond this point.The advancements in information technology and digitization have blurred the distinction between goods and services. In India even intangible are treated as goods whereas generally it is part of service contract.

*Why there is need to GSTTax cascading effect Central Sales Tax (CST) on inter-state sales, collected by the origin state and for which no credit is allowed by any level of governmentReal estate transactions are outside the scope of both VAT and CENVATThe exempt sectors are not allowed to claim any credit for the CENVAT or the service tax paid on their inputs

*Central VAT & State VATEasy to give input tax credit (ITC) within same jurisdiction. CENVAT is in operation for 10-15 years now.Centre can give ITC for Central Excise and even for Service Tax; but cannot do so when there is a sale of good, which is in the States domain.State can give ITC for Sales Tax within the State, but cannot do so against Central Excise paid to Centre and Sales Tax paid to other States.Even if some mechanism for giving ITC between Centre & States is evolved, there has to be uniformity of rates.If rates are made uniform across all States, there will be a number of States which will lose revenue. They have to be compensated.

*State VATEmpowered Committee of State Finance Ministers set up in 1999. West Bengal State FM is Chairman. All State FMs and the Centre are represented on it.Uniform rates of tax were negotiated and introduced in all States in stages. 12.5%, 4%, 1% & exempted items. Petroleum products, liquor, goods of local importance, etc were exempted. There are deviations.Compensation from the Centre (100%, 75% & 50% in first 3 years) promised to States losing revenue, based on historical growth rate of each State (Total compensation payable : Rs 20,000 cr)State VAT introduced from 1.4.2005. TN & UP were the last to join. Now, all States have joined.

*Tax Cascading

Manufacturer 1Manufacturer 2Raw materials50Raw materials125Labour30Labour45Others10Others15Profit10Profit15Total ex-factory100Total ex-factory200Central Excise@12%12Central Excise @12%24Sale Price112Sale Price224Sales Tax @12%13Sales Tax @12%27Total paid by M2125Total sale price251Total tax paid 12+13+24+27=76Sale price excl. tax : 25176=175Effective tax rate : 76 / 175 = 43%

*Value Added TaxTax payable only on the value addition at each stage

CentreCX @12%StateVAT@12%Manufacturer-1Basic Cost70CentreValue Addition30Total1001213.4Manufacturer-2ValueAddn.+ Taxes50 6Total15018Sales Dealer 1Basic Cost15018-13.4=4.6ValueAddn.+ Taxes404.8Total190Sales Dealer 2ValueAddn.+ Taxes607.2Total25030Service ProviderBasic Cost250ValueAddn.+ Taxes50Total30036-18=18(66/234 = 28%)663630

*GST Basic Features

(3) All transactions will be taxed manufacture, sales, service etc. ITC will be given at each stage.CGST@9%SGST@8%Manufacturer-1Basic Cost70Value Addition30Total1009.008.00Manufacturer-2Value Addition504.504.00Total150Sales Dealer 1Value Addition403.603.20Total190Sales Dealer 2Value Addition605.404.80Total250Service ProvidrValue Addition504.504.00Total3002724(9%)(8%)Rates indicated are for demonstration only. Final rates have not even been discussed .

Slide *General conceptsOutput taxOUTgoing invoice Sale OUTput Tax

Input taxINcoming invoice Purchase INput Tax

Difference = Amount payable to / refundable by Customs( 14 or 28 days)

GST is a tax on final consumer. It is not a cost to the Intermediaries.

It does not appear as an expense item in the financial statement of the intermediaries.

Slide *GST how does it work?

SupplierManufacturerPrice: RM 10GST: RM 0.40Tax remitted to Customs Output tax = RM 0.40Total amount remitted to Customs = RM 2.40RetailerConsumerPrice: RM 50GST: RM 2.00Price: RM 60GST: RM 2.40Output tax = RM 2.00Input tax = RM 0.40RM 1.60 Output tax =RM 2.40Input tax =RM 2.00RM 0.40 GST @ 4%

A simple tax structure with only one or two rates of taxesUniform single tax across the supply chainReduced transaction cost in the hands of the tax payersIncreased tax collections due to wider tax base and better complianceImprovement in international cost competitiveness of indigenous goods and servicesEnhancement in efficiency in manufacture and distribution due to economies of scaleGST encourages an unbiased tax structure that is neutral to business processes, business models, organization structure, product substitutes and geographical locationsWhy is GST considered as the preferred tax structure?

How GST is applied:

*A few pointsThe EC has been discussing GST for about 2 years now. There is a broad consensus between Centre & States on the policy areas relating to GST to be introduced by 1.4.2010. This will be a dual GST

Under this model both goods and services would be subject to concurrent taxation by the Centre and the States. This model is closer to the model recommended by the Kelkar Committee in 2002.

inter-state services for which the place of destination would be difficult to determine. The State tax on these services may be collected by the Centre, and then apportioned among the States in some manner.

*Few more points..

(1) This will be a dual GST there will be Central GST portion (CGST) and a State GST portion (SGST) eg. if GST is 17%, CGST can be 9% & SGST 8% and so on. There could also be multiple rates.(2) GST will subsume Central Excise, State VAT and Service Tax. It will also subsume all cesses & surcharges (by Centre & the States), Entry Tax not in lieu of Octroi, Entertainment tax levied & collected by the State Government, etc. It will not subsume levies by local self-Governments (Panchayats & Urban Local Bodies), petroleum, etc. For liquor, tobacco, etc States could impose an additional tax, over and above the GST. Final view yet to be taken by the EC.

*GST Basic Features Contd(4) Centre will give Input Tax Credit (ITC) only for CGST and the State only for SGST. Cross utilisation of ITC between CGST & SGST shall not be allowed. (5) Centre will legislate, levy & administer the CGST portion on its own and the States the SGST portion on their own.(6) To avoid deviations by the States, there shall be a mechanism (eg. EC), wherein the rates and other relevant parameters will be decided upon by the Centre & the States. The rates can thereafter not be changed by the Centre or any of the States, without approval of the same mechanism. A Constitutional mechanism will be introduced.

*GST Basic Features Contd(7) Destination principle for inter State sales of goods. For services, the rules are yet to be formulated; sub-Working Group has been constituted.(8) Administration of CGST will be Centres responsibility; Administration of SGST will be the responsibility of each State Concurrent jurisdiction for entire value chain and all taxpayers will cause difficulties. A solution will have to be found for this.

*Dual GST Other features/ suggestions:

There would a single registration or taxpayer identification number, based on the Permanent Account Number (PAN) for direct taxation. Three additional digits would be added to the current PAN to identify registration for the Centre and State GSTs.

*Dual GST Other features:

Procedures for collection of Central and State GSTs would be uniform. There would be one common tax return for both taxes, with one copy given to the Central authority and the other to the relevant State authority.

*Dual GST Other features:

To minimize the need for additional administrative resources at the Centre, States would also assume the responsibility for administering the Central GST for dealers with gross turnover below the current registration threshold of Rs 1.5 crores under the central Excise (CENVAT). They would collect the Central GST from such dealers on behalf of the Centre and transfer the funds to the Centre.

*GST Important Issues to be addressed(1) Rates : A revenue neutral model has to be evolved. Fairly simple for the Centre, but difficult when it comes to each State.However, what the new base will be is difficult to calculate, mainly because one has to capture the sum of all value additions at each stage of the billions of transactions. (2) Single rate or multiple rates?(3) non GST items, Exempted items & 0% rate items.

*GST Compensation Mechanism When rates are made uniform across all States and input tax credit is given for all transactions (manufacture or sale or service), some States will lose, while some will gain. How will losing States be compensated? One method is through the mechanism of the XIII Finance Commission.

*GST Inter State transactionsOne of the problem areas is inter-State transactions and giving ITC across States. The entire input tax paid in the preceding transactions will have to be paid by the origin State to the destination State.An IT based clearing house mechanism is to be evolved.

*GST- Rules for appropriation of Service taxPresently, Centre is collecting the entire Service Tax. So, no need to evolve any rules; eg. telephone companiesWhen States also levy service tax, the rules of taxation need to be decided upon.eg. (1) Phone companies(2) Transport carriers(3) Architect

GST Rate in India What would be the GST rate in India?Clearly a huge debate and the rates which are typically being discussed are as follows: 20%14%12%Any of the above, would still be less than the present cumulative rate of indirect taxes The rate to be adopted would depend on the extent of coverage of GST and ability to prune exemptions

Slide *Impact on cash flowIdentification of transaction and GST liabilityMaximisation of input tax credit: GST invoice based - no invoice no claim Effect on demand- YouMay need to do some studyPricing strategies Will price remain the same?Impact on current contractsRegistration & ComplianceCancellation of sales tax / service tax licences potential audit ?

Indirect tax exemption / trade facilities GST payments on purchasesPreferential vendors under GST To maximize input tax credit claim Education and communicationGroup structure reviewSystems changesfor GST complianceFinance and AdministrationHuman CapitalInformation TechnologyAccountabilityBusiness efficiencyProcurement Sales and MarketingGoods & Services Tax(GST)GST impacts EVERY aspect of BUSINESS

Slide *INPUTGST rateRaw Materials - local4% - Imported4%

Services - local4% - Imported4%

Capital Assets - local4% - Imported4%

Salaries - Out of Scope

Slide *OUTPUT GSTSales - Export0%- local4%

Cash flow Impact

GST on accrual basis. If customers dont pay you, you still need to pay the GST.

Slide * Longer term supply contracts e.g.: - Rental of warehouse - Supply of finished goods - Maintenance Contract

If they cross over to 2011 who will bear the GST on these contracts

Slide *GST Treatment on Farming Out (Sub- contractor arrangement) Farming out does not transfer the ownership of the goods to the subcontractor i.e. No supply to goods and you do not have to account for GST output tax on the raw materials If the sub-contractor is a GST registrant, he has to account for GST output tax on the raw materials If the sub-contractor is a GST registrant, he has to account for GST output tax on the value of the services supplies to the owner

A Sdn Bhd

B Sdn Bhd Finished goods (No GST) and RM15,000 for labour (GST @ 4%)Raw materials valued at RM10,000 (No GST)Farmed Out

Slide *Before GST

(a) (1) A & B are related companies (2) A charges sales tax on sales to B (3) No sales tax on sales to and customer.ASales Tax Licensed ManufacturerBTrading Company

End Customer(1) (2)

Slide *After GST

(b) (1) A charges GST on sales to B (2) B charges GST on sales to end customer (3) Cashflow impact to A & B as they need to charge & collect GST for the GovernmentABEnd Customer(3) Cashflow Impact(3) Cashflow Impact(1)(2)

Few more impacts:Supply chains designed to benefit from VATIn Delhi, pulses are exempt from VAT and cashew nuts are taxed at 4%; downstream from Gulati, in Haryana, pulses are taxed at 4% and cashew nuts at 12.5%In Assam, unprocessed tea leaves are exempt from VAT; in Delhi and Haryana andsome other states, the sale of these leaves is taxed at 4%.Integrated BusinessBelow par watch manufacturers

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