VAT

VAT, or Value Added Tax, a tax on consumption that is levied whenever goods and services change hands in the course of production, distribution, and final sale to the consumer. For example, a manufacturer pays VAT on the materials it buys to make a product, the wholesaler pays VAT on the price it pays the manufacturer for the good, the retailer pays VAT on the price it pays the wholesaler, and the price paid by the consumer also includes VAT. Ultimately, it is the consumer who carries the burden of the tax because all those in the process up to the final sale are able, when accounting to the tax authorities, to deduct the VAT they have paid on their inputs from the VAT they have collected on their outputs. So, the manufacturer can deduct the VAT paid on materials from the VAT collected from the wholesaler. The idea is that at every stage value is added, tax is levied on the amount of value added. This distinguishes it from a sales tax, which is simply a tax on the retail price of goods.

VAT is the principal means of indirect taxation in many countries, including the member states of the European Union (EU). It is levied at a flat or variable percentage rate. In the EU the standard rate of VAT varies from 15 to 25 per cent according to member state, although lower rates of between 0 and 5 per cent may be applied to a handful of goods or services, including food, domestic heating and lighting, children's clothes, passenger transport, and books and newspapers.

Businesses are required to register for VAT if their turnover exceeds a certain amount. Those who are self-employed and are not registered for VAT cannot, of course, reclaim the VAT paid on their inputs. However, the total cost (including VAT) of their inputs can be set off against revenues for the purpose of calculating their income tax liability.