Log In Sign Up

FREE GST Billing & Return Filing at ClearTax GST

File GST Returns
Create GST Bills

The Goods and Services Tax has revolutionized the Indian taxation system. The GST Act was passed in the Lok Sabha on 29th March, 2017, and came into effect from 1st July, 2017.

In this article, we take a closer look at what makes GST the ‘Good and Simple Tax’ everyone has been waiting for. 

Contents

  1. What is GST?
  2. History of GST in India
  3. Advantages Of GST
  4. What are the components of GST?
  5. What changes does GST bring in?

1. What is GST?

Goods & Services Tax Law in India is a comprehensive, multi-stage, destination-based tax that will be levied on every value addition.

In simple words, GST is an indirect tax levied on the supply of goods and services. GST Law has replaced many indirect tax laws that previously existed in India.

So, before Goods and Service Tax, the pattern of tax levy was as follows:

ClearTax GST

Under the GST regime, tax will be levied at every point of sale.

Now let us try to understand “GST is a comprehensive, multi-stagedestination-based tax that will be levied on every value addition.”

Multi-stage

There are multiple change-of-hands an item goes through along its supply chain : from manufacture to final sale to consumer.

Let us consider the following case:

  • Purchase of raw materials
  • Production or manufacture
  • Warehousing of finished goods
  • Sale of the product to the retailer
  • Sale to the end consumerGST basics

Goods and Services Tax will be levied on each of these stages, which makes it a multi-stage tax.

Value Addition

The manufacturer who makes shirts buys yarn. The value of yarn gets increased when the yarn is woven into a shirt.

The manufacturer then sells the shirt to the warehousing agent who attaches labels and tags to each shirt. That is another addition of value after which the warehouse sells it to the retailer.

The retailer packages each shirt separately and invests in the marketing of the shirt thus increasing its value.

Value-addition

GST will be levied on these value additions i.e. the monetary worth added at each stage to achieve the final sale to the end customer.

Destination-Based

Consider goods manufactured in Rajasthan and are sold to the final consumer in Karnataka. Since Goods & Service Tax (GST) is levied at the point of consumption, in this case Karnataka , the entire tax revenue will go to Karnataka.

2. History of GST in India


GST History

3. Advantages Of GST

GST Advantages

4. What are the components of GST?

There are 3 applicable taxes under GST: CGST, SGST & IGST.

  • CGST: Collected by the Central Government on an intra-state sale (Eg: Within Karnataka)
  • SGST: Collected by the State Government on an intra-state sale (Eg: Within Karnataka)
  • IGST: Collected by the Central Government for inter-state sale (Eg: Karnataka to Tamil Nadu)

In most cases, the tax structure under the new regime will be as follows:

Transaction New Regime Old Regime
Sale within the State CGST + SGST VAT + Central Excise/Service tax Revenue will be shared equally between the Centre and the State
Sale to another State IGST Central Sales Tax + Excise/Service Tax There will only be one type of tax (central) in case of inter-state sales. The Center will then share the IGST revenue based on the destination of goods.

Illustration: 

A dealer in Maharashtra sells goods to a consumer in Maharashtra worth Rs. 10,000. The GST rate is 18% : comprising CGST of 9% and SGST of 9%.

In such cases, the dealer collects Rs. 1800 and of this amount, Rs. 900 will go to the Central Government and Rs. 900 will go to the Maharashtra government.

Now, let us assume the dealer in Maharashtra had sold the goods to a dealer in Gujarat worth Rs. 10,000.

The GST rate is 18% comprising of only IGST. In such case, the dealer has to charge Rs. 1800 as IGST. This IGST revenue will go to the Central Government.

5. What changes does GST bring in?

Before GST, tax on tax was calculated and tax was paid by every purchaser including the final consumer. The taxation on tax is called the Cascading Effect of Taxes.

GST avoids this cascading effect as tax is calculated only on the value add. at each transfer of ownership. Understand what the cascading effect is and how GST helps by watching this simple video:

  

GST will improve the collection of taxes as well as boost the development of Indian economy by removing the indirect tax barriers between states and integrating the country through a uniform tax rate.

Illustration:

Say a shirt manufacturer pays Rs. 100 to buy raw materials. If the rate of taxes is set at 10%, and there is no profit or loss involved, then he has to pay Rs. 10 as tax. So, the final cost of the shirt now becomes Rs (100+10=) 110.

At the next stage, the wholesaler buys the shirt from the manufacturer at Rs. 110, and adds labels to it. When he is adding labels, he is adding value. Therefore, his cost increases by say Rs. 40. On top of this, he has to pay a 10% tax, and the final cost therefore becomes Rs. (110+40=) 150 + 10% tax = Rs. 165.
Now, the retailer pays Rs. 165 to buy the shirt from the wholesaler because the tax liability had passed on to him. He has to package the shirt, and when he does that, he is adding value again. This time, let’s say his value add is Rs. 30. Now when he sells the shirt, he adds this value (plus the VAT he has to pay the government) to the final cost. So, the cost of the shirt becomes Rs. 214.5 Let us see a breakup for this:
Cost = Rs. 165 + Value add = Rs. 30 + 10% tax = Rs. 195 + Rs. 19.5 = Rs. 214.5
So, the customer pays Rs. 214.5 for a shirt the cost price of which was basically only Rs. 170 (Rs 110 + Rs. 40 + Rs. 30). Along the way the tax liability was passed on at every stage of transaction and the final liability comes to rest with the customer. This is called the Cascading Effect of Taxes where a tax is paid on tax and the value of the item keeps increasing every time this happens.

Action Cost 10% Tax Total
Buys Raw Material @ 100 100 10 110
Manufactures @ 40 150 15 165
Adds value @ 30 195 19.5 214.5
Total 170 44.5 214.5

In the case of Goods and Services Tax, there is a way to claim credit for tax paid in acquiring input. What happens in this case is, the individual who has paid a tax already can claim credit for this tax when he submits his taxes.
In our example, when the wholesaler buys from the manufacturer, he pays a 10% tax on his cost price because the liability has been passed on to him. Then he adds value of Rs. 40 on his cost price of Rs. 100 and this brings up his cost to Rs. 140. Now he has to pay 10% of this price to the government as tax. But he has already paid one tax to the manufacturer. So, this time what he does is, instead of paying Rs (10% of 140=) 14 to the government as tax, he subtracts the amount he has paid already. So, he deducts the Rs. 10 he paid on his purchase from his new liability of Rs. 14, and pays only Rs. 4 to the government. So, the Rs. 10 becomes his input credit.
When he pays Rs. 4 to the government, he can pass on its liability to the retailer. So, the retailer pays Rs. (140+14=) 154 to him to buy the shirt. At the next stage, the retailer adds value of Rs. 30 to his cost price and has to pay a 10% tax on it to the government. When he adds value, his price becomes Rs. 170. Now, if he had to pay 10% tax on it, he would pass on the liability to the customer. But he already has input credit because he has paid Rs.14 to the wholesaler as the latter’s tax. So, now he reduces Rs. 14 from his tax liability of Rs. (10% of 170=) 17 and has to pay only Rs. 3 to the government. And therefore, he can now sell the shirt for Rs. (140+30+17) 187 to the customer.

Action Cost 10% Tax Actual Liability Total
Buys Raw Material 100 10 10 110
Manufactures @ 40 140 14 4 154
Adds Value @ 30 170 17 3 187
Total 170 17 187

In the end, every time an individual was able to claim input tax credit, the sale price for him reduced and the cost price for the person buying his product reduced because of a lower tax liability. The final value of the shirt also therefore reduced from Rs. 214.5 to Rs. 187, thus reducing the tax burden on the final customer.

For Further Information & Reading:

Simplify Your GST Filing & Invoicing

Get Trained & Try Cleartax GST Software for FREE

Start Free GST Software Trial & Training