What Is the Goods and Services Tax (GST)?
The goods and services tax (GST) is a value-added tax (VAT) levied on most goods and services sold for domestic consumption. The GST is paid by consumers, but it is remitted to the government by the businesses selling the goods and services.
- The goods and services tax (GST) is a tax on goods and services sold domestically for consumption.
- The tax is included in the final price and paid by consumers at point of sale and passed to the government by the seller.
- The GST is a common tax used by the majority of countries globally.
- The GST is usually taxed as a single rate across a nation.
- Governments prefer GST as it simplifies the taxation system and reduces tax avoidance.
Understanding the Goods and Services Tax (GST)
The goods and services tax (GST) is an indirect federal sales tax that is applied to the cost of certain goods and services. The business adds the GST to the price of the product, and a customer who buys the product pays the sales price inclusive of the GST. The GST portion is collected by the business or seller and forwarded to the government. It is also referred to as Value-Added Tax (VAT) in some countries.
Most countries with a GST have a single unified GST system, which means that a single tax rate is applied throughout the country. A country with a unified GST platform merges central taxes (e.g., sales tax, excise duty tax, and service tax) with state-level taxes (e.g., entertainment tax, entry tax, transfer tax, sin tax, and luxury tax) and collects them as one single tax. These countries tax virtually everything at a single rate.
France was the first country to implement the GST in 1954; since then, an estimated 140 countries have adopted this tax system in some form or another. Some of the countries with a GST include Canada, Vietnam, Australia, Singapore, United Kingdom, Spain, Italy, Nigeria, Brazil, and India.
Dual Goods and Services Tax Structures
Only a handful of countries, such as Canada and Brazil, have a dual GST structure. Compared to a unified GST economy where tax is collected by the federal government and then distributed to the states, in a dual system, the federal GST is applied in addition to the state sales tax. In Canada, for example, the federal government levies a 5% tax and some provinces/states also levy a provincial state tax (PST), which varies from 8% to 10%. In this case, a consumer's receipt will clearly have the GST and PST rate that was applied to their purchase value.
More recently, the GST and PST have been combined in some provinces into a single tax known as the Harmonized Sales Tax (HST). Prince Edward Island was the first to adopt the HST in 2013, combining its federal and provincial sales taxes into a single tax. Since then, several other provinces have followed suit, including New Brunswick, Newfoundland and Labrador, Nova Scotia, and Ontario.
Example: India's Adoption of the GST
India established a dual GST structure in 2017, which was the biggest reform in the country's tax structure in decades. The main objective of incorporating the GST was to eliminate tax on tax, or double taxation, which cascades from the manufacturing level to the consumption level.
For example, a manufacturer that makes notebooks obtains the raw materials for, say, Rs. 10, which includes a 10% tax. This means that they pay Rs. 1 in tax for Rs. 9 worth of materials. In the process of manufacturing the notebook, the manufacturer adds value to the original materials of Rs. 5, for a total value of Rs. 10 + Rs. 5 = Rs. 15. The 10% tax due on the finished good will be Rs. 1.50. Under a GST system, the previous tax paid can be applied against this additional tax to bring the effective tax rate to Rs. 1.50 – Rs. 1.00 = Rs. 0.50.
In turn, the wholesaler purchases the notebook for Rs. 15 and sells it to the retailer at a Rs. 2.50 markup value for Rs. 17.50. The 10% tax on the gross value of the good will be Rs. 1.75, which the wholesaler can apply against the tax on the original cost price from the manufacturer (i.e., Rs. 15). The wholesaler's effective tax rate will, thus, be Rs. 1.75 – Rs. 1.50 = Rs. 0.25.
Similarly, if the retailer's margin is Rs. 1.50, his effective tax rate will be (10% x Rs. 19) – Rs. 1.75 = Rs. 0.15. Total tax that cascades from manufacturer to retailer will be Rs. 1 + Rs. 0.50 + Rs. 0.25 + Rs. 0.15 = Rs. 1.90.
India has, since launching the GST on July 1, 2017, implemented the following tax rates:
- A 0% tax rate applied to certain foods, books, newspapers, homespun cotton cloth, and hotel services.
- A rate of 0.25% applied to cut and semi-polished stones.
- A 5% tax on household necessities such as sugar, spices, tea, and coffee.
- A 12% tax on computers and processed food.
- An 18% tax on hair oil, toothpaste, soap, and industrial intermediaries.
- The final bracket, taxing goods at 28%, applies to luxury products, including refrigerators, ceramic tiles, cigarettes, cars, and motorcycles.
The previous system, with no GST, implies that tax is paid on the value of goods and margin at every stage of the production process. This would translate to a higher amount of total taxes paid, which is carried down to the end consumer in the form of higher costs for goods and services. The implementation of the GST system in India is, therefore, a measure that is used to reduce inflation in the long run, as prices for goods will be lower.
Goods and Services Tax vs. Generation-Skipping Transfer Tax
The goods and services tax (GST) should be confused with the generation-skipping transfer tax (GST Tax), and they are not at all related to one another.
The former is a VAT tax added to the purchase of goods or serves. Meanwhile, the generation skipping transfer tax (GST Tax) is a flat 40% federal tax on the transfer of inheritances from one's estate to a beneficiary who is at least 37½ years younger than the donor. The GST Tax prevents wealthy individuals from avoiding estate taxes through naming younger beneficiaries (e.g., grandchildren).
Who Has to Pay GST?
In general, goods and services tax (GST) is paid by the consumers or buyers of goods or services. Some products, such as from the agricultural or healthcare sectors, may be exempt from GST depending on the jurisdiction.
How Is GST Calculated?
The goods and services tax (GST) is computed by simply multiplying the price of a good or service by the GST tax rate. For instance, if the GST is 5%, a $1.00 candy bar would cost $1.05.
What Are the Benefits of the GST?
The GST can be beneficial as it simplifies taxation, reducing several different taxes into one straightforward system. It also is thought to cut down on tax avoidance among businesses and reduces corruption.