The value-added tax (VAT) is a kind of consumption tax that applies to the purchase of goods and services. Value-added taxation is a type of tax that is imposed on the basis of consumption instead of income. From the point of manufacture until the point of sale, a value-added tax (VAT) is collected on a good or service throughout every stage of its production where value is added.
The amount of VAT paid by the customer is determined based on the product’s cost, minus any expenses of materials used in the manufacturing process that has already been taxed. Certain commodities could be exempt from VAT, allowing consumers to pay a cheaper price. This is most common for necessary goods required by low-income households.
Unlike a progressive income tax, which imposes higher taxes on the wealthy, the VAT applies to all purchases equally. At each stage of the manufacturing, distribution, and sale of an item, a VAT is charged on the gross margin. At each stage of the process, the tax is evaluated and collected. This differs from a sales tax system, wherein the tax is only evaluated and collected at the end of the supply chain by the customer.
However, since the VAT is dependent on the amount of consumption, the tax burden falls disproportionately on lower-income households who must spend a larger percentage of income on necessities. Since it is impossible for anybody to evade paying the tax, the VAT is utilized by the European Union (EU) and many other countries. As a result, when the value-added tax is used, tax collection tends to be higher.