In this article, we will discuss the basics of GST in a simple and easy way, and try to understand its various important aspects, So to understand well, definitely read the article till the end as well as read other articles related to this topic.
For the sake of understanding, this whole topic has been divided into three parts, now you are reading the first part of it. Read other part also…
The practice of paying tax is not new, which was once the practice of giving gifts to the chieftain of his clan, gradually that chieftain became so powerful that he made it obligatory for the people to pay tax. From then till today, the tax system has gone through many reforms process during the history of about 2500 years.
The tax system of modern nations is an excellent form of that development process. But with the changing times, even a good system becomes irrelevant, like our old tax system; And then again we feel the need to reform that system. Today, the system of paying tax is considered as a duty of the citizens of that country towards the nation for the national interest and development. In such a situation, as a good citizen and a taxpayer, we must have a basic understanding of the tax system of our country.
Integrated tax system has come in the country after the implementation of GST from 1st July 2017 . This has not only affected our economy and us, but it has also affected the financial relationship between the Center and the states. Or rather, a little better than before. how that?
For this it is very important to know the Basics of GST and before knowing Basics of GST it is important to know the tax system . Let’s get to know him first.
There are mainly two types of taxes – Direct tax and Indirect tax .
Direct tax, that is, such a tax, on which it is levied, is also collected from it. Such as income tax, corporate tax, property tax, gift tax, etc.
This type of tax is taken directly from such people or organization. The government has made a slab that how much tax will have to be paid for earning how much. Whoever pays the tax according to the slab in which it comes, in this way that tax goes directly to the government. There is no hassle in this. Because everything is clear in it, the process is easy.
Since there are different taxes for people of different income groups, it is also called Progressive Tax System .
Indirect tax means such tax, which is levied on someone else and is collected from someone else.
For example, suppose you buy a pack of chips worth Rs 10, then you do not have to pay any separate tax on it. Because the tax has not been levied on you.
The tax has been imposed on the company that makes the chips, and the tax is also paid there. But he will not pay from his house, that’s why all the tax he pays, he adds on those chips. And eventually we have to pay that. So if it did not happen, it went on it but we have to pay, that is why it is called indirect tax.
Some examples of this are – Central Excise Tax, VAT (Value Added Tax), Custom Duty , Service Tax etc.
The problem was in this indirect tax system (how to understand it further) and to solve this problem, it needed to be reformed which was done in the form of GST.
What is GST?
GST is a comprehensive indirect tax system .
It is comprehensive because it is applicable to the whole country and there is only one tax in lieu of many taxes, and the indirect tax system is because it is not levied on the direct tax system . Let’s understand it further.
| The entire GST system is Value Added Tax, which we know as VAT, i.e It Works on the same principle. Or rather say that GST is an upgraded version of VAT. That’s why in order to understand GST, it is important to understand VAT and to understand VAT it is necessary to understand where was the mess in our indirect tax system that VAT was introduced.
Before VAT was implemented in the whole country, our country used to work on single point tax system. That is, each point had to be taxed separately.
Its drawback was that it had too many sequential effects or cascading effects . Cascading effect means that the taxpayer had to pay tax on tax . how that? Let us understand this by example.
| Let’s say you run a sweater manufacturing company. You need wool as a raw material.
You import wool worth Rs 100, suppose 10 percent is currently import tax, that’s why you have to pay Rs 110.
Now you have made a sweater out of it. You had to spend 40 rupees to make the sweater. Meaning that now that product has become 150 rupees. (110+40),
Before it will go for sale in the market, you will have to pay Central Excise Tax on it. Let’s say, if that is also 10 percent, then you will have to pay Rs 15 more to the central government. (Because 10 percent of 150 is 15.)
Thus the cost of that sweater became Rs 165. Now you will not sell the goods yourself, it will be sold by the retailer. Suppose the retailer takes a profit of Rs 35 and sells it in the market. So now the cost of that sweater is Rs.200.
Now the state in which this sweater will be sold will levy sales tax on it. If that too is 10%, then the final price of the product becomes Rs.220. Now if you see, tax has been paid on every single point . That’s why it is called single point tax system .
Its drawback is that it has to pay tax on tax . You see, when first 10 percent tax had to be paid on it, then its cost became Rs 110.
Further, when its price went up to Rs 150, the earlier tax of Rs 10 was included in it, Then when 10 percent tax was imposed on it further, then even that 10 rupees had to be taxed. Which was itself a tax and had already been paid as a tax. Similarly, when the price of that product further increased to Rs.200, then Rs.15 was tax in it.
Then when 10 percent tax was imposed on it further, then tax had to be paid on that 15 rupees as well as the tax which was imposed on the earlier 10 rupees also had to be taxed again. Are you not understanding? Similarly, when tax is imposed on it again, then tax on the previous tax will also have to be paid.
So there was tax on tax . This is called the cascading effect . In this way, due to tax on tax, the final price of the commodity would have become very high. To eliminate this, the entire system was replaced by the VAT system. This cascading effect gets eliminated in VAT. How does it happen? Let us understand it again with the same example.
VAT System (Value Added Tax System)
After paying 10 percent tax initially, the cost of that raw material was Rs 110. Now after spending 40 more rupees in it, when you made a sweater, its cost became 150. Now you have to pay the Central Excise .
If you look from the old system, then you have to pay 15 rupees. But due to VAT, now the 10 percent tax that will be levied will not be levied on Rs 150 but only on 140. Because if you have already paid 10 rupees of tax, then you do not have to pay tax on it again. That’s why now we see 10 percent of 140 is 14. Now its cost has become Rs 154. Which if you remember, earlier it was Rs 165.
Now the extra Rs 14 you have to pay is called output tax liability .
The Rs 10 you have already paid is called ‘ Input Tax Credit ‘. So overall here is what you have to pay VAT. That would be only 4 rupees. why that?
Because VAT itself means Value Added Tax. This means that the amount of value you have added to that raw material or as much as you have increased its value,
You will have to pay tax on the same and not the cost of the whole item. Now look here, you had bought raw material worth Rs 110, out of which Rs 10 was tax.
How much did you add to that 40 rupees? So now you have to pay tax only on this 40 and not on 150. That’s why 10 percent of 40 is Rs 4. And you have to give only 4 rupees to the government. That’s where VAT is. The simple formula to extract it is,
VAT = Output tax liability – Input tax credit
, According to this formula also, the output tax liability was Rs 14 whereas the input tax credit which has already been paid. That was 10 rupees.
That’s why when you practice VAT, you will get 14 – 10 = 4 rupees. You just have to pay this 4 rupees as excise tax, whereas if you look at the total price, it becomes Rs 154.
| Suppose the retailer will take advantage of Rs 36, then its price becomes Rs 190. And we have paid total tax of Rs.14 till now. 10 in the first phase and Rs 4 in the second phase.
Now let’s talk about the third step. The price which has been Rs 190 since Rs 14 has already been added to it. Therefore, now the tax that will be levied on it will be applicable only on Rs 176.
Now here also 10 percent tax will be levied. That’s why its final price becomes 176+17.6 = 193.6 rupees.
Here Rs 17.6 is the output tax liability. At the same time, the tax that has been paid till now, which is Rs 14, is input tax credit, that is why VAT = output tax liability – input tax credit; 17.6 – 14 = 3.6 rupees. That is, here you will have to pay a total of 3.6 rupees.
| Anyway, if you see, their price in the second phase was Rs 154 and the value added to it. That was Rs 36. And that’s what Value Added Tax means. Tax on the value added to it. Here it is Rs.36 and if 10 percent of 36 is taken out, it is Rs.3.6. This is called VAT system.
| Now you must have come to know the difference between the two. In the case of single point tax system, the final product price after three phases was Rs.220,
On the other hand, in the case of VAT, here too only 10 percent tax has been levied at all three levels. But here the cost of the final product is only Rs.193.6. That means a difference of around Rs 26. And why this difference came because the system of tax on tax has ended. That is, the cascading effect is over.
This is a decrease of Rs 26. The public will also get its benefit. Now you must have understood why VAT was introduced.
| Now this question may come in your mind that when VAT was so good, the cascading effect was gone in it. The price of the commodity was reduced. Then why was it changed to GST? So the answer is that even after the introduction of VAT, there were some flaws in the tax system, which even VAT could not fix. If any system could fix this, it was GST.
Tax system problems despite VAT
After the introduction of VAT in 2005, some problems ended but some problems also arose. Let us understand why this happened;
no end of cascading effect
The introduction of VAT did not completely eliminate the cascading effect. how that? It was such that the tax system between the center and the state was cascading.
Think of it in such a way that if someone imported raw material from somewhere, then the central government imposed import duty on it. When that goods went to a factory, when it came out from there, the central government imposed excise duty on it .
So the tax has been imposed by the central government at the two levels now. In that VAT used to work well. There was no cascading in this because the money remained near the center by moving around. And the input credit was easily managed.
The same thing was applicable to the state also. Many things were produced and consumed within the state itself. The state government also imposed its own tax on it. It also did not have cascading.
But the problem used to come when the central government imposed excise duty on an item and the same goods went to the state, then the state imposed VAT on it. In such a situation, there was a cascading effect. Because it used to be difficult or not possible to manage input tax credit. Why so?
Because different states had different VAT rates. The difference was so, that the price of the same commodity was different in different states. Since it was in the hands of the states, there was no scope for the Center to do much here.
entry of service tax
Earlier, only goods were taxed, but by the 88th Constitutional Amendment 2003, a system called Service Tax was introduced.
But only after bringing it, problems started coming. It happened that since the rate of tax on goods was different, the rate of tax on service was different. And the biggest thing was it was not completely clear what is a commodity or goods and what is service. Some people took great advantage of this. Those whose tax rate was low, they used to enter it.
Think of it as if you are reading this article right now. So this is a service which is being provided by me. But if I say that it is a goods, then what proof do you have that you will prove that it is not a goods. The same problem used to come with the government. The government had to frequently update its list of what was a service and what was a commodity or goods.
Then both the taxes (goods and services) were levied separately. That’s why there was a lot of difficulty in managing it together. A permanent solution had to be found for this.
Another major problem was the movement of similar loaded trucks. The state government used to levy very high taxes of different types. For example, if a truck is entering the border of a state, then it had to pay the customs duty. At the same time, if that truck is passing through the area of any municipality of that state, then octroi had to be paid.
Now imagine that if a truck has to go from Delhi to Mizoram with the goods, what would be its fate. usually trucks used to stand on the border of a state for many days and the goods could not reach at the right time. This was a big problem.
one country different tax
The country was one but the tax system was different in it, the tax rates were different, it used to be that the price of one commodity is something in some state and something else in some state. People were also puzzled because often they used to buy from some other state in order to save some money.
Apart from this, the taxpayers also had to face a lot of trouble, a lot of returns, payments etc. had to be made. That is why the GST system was introduced keeping everyone in mind and with the aim of establishing one nation one tax system .
What happened after the implementation of GST?
As the name suggests, it is the Goods and Services Tax . That is, it applies to both goods and services simultaneously.
We have just discussed above how much hassle there used to be between service and goods. This solved that problem. Now whether it is a good or a service, since the tax rate of both is the same, now it does not matter who is what?
Secondly, with its introduction, many taxes were abolished and only one tax came in its place, GST. Let us know which tax has been abolished by this.
Note – Remember that since it has nothing to do with direct tax . That is why it is fully applicable to indirect tax only.
Central government tax; that ended
(1) Central Excise Duty – Remember that it is not completely abolished. Yes, where GST is applicable, it has been completely abolished. Central excise still works on those on which GST is not applicable. Such as – Petrol, Diesel etc.
Note – Earlier the Central Government used to levy Central Excise Duty. But due to its operation on VAT principal in 1986, it was named MODVAT (Modified Value Added Tax). Again in the year 2000, this name was changed to CENVAT i.e. Central VAT.
(2) Additional Excise Duties abolished.
(3) The service tax which was imposed by the central government was completely abolished and it merged with GST itself.
(4) Countervailing duty or additional custom duty was also levied by the central government on imported goods. This too is ended.
(5) Special Additional Custom Duty abolished.
(6) Central Sales Tax was abolished. IGST came in its place. Let us understand how it came;
Central sales tax
When the center and the states used to do business, there was no problem in it, but when the traders of one state used to do business with the traders of another state, there was a problem. Prior to 2005, sales tax was levied in such business and it was levied by the states.
When in 2005, at the behest of the central government, all the states abolished their sales tax and implemented VAT, then a problem arose.
The problem was that according to this system, one state could not go to another state to collect tax from that state. Because they did not come under his jurisdiction. Whereas earlier when sales tax was imposed, the tax was already collected by the states. But after the introduction of VAT, these types of problems came in it.
| Keeping this in mind the Central Sales Tax was introduced. The purpose of this was that the state from which the goods will be sold and the amount of VAT that will be charged on it, the center will collect the tax from the state in which the goods were sold and give it to the state in which it was originated. Here was the Central Sales Tax which is mentioned in Article 269.
But with the introduction of GST, except for a few things (such as electricity), the central sales tax was abolished. That is why IGST was brought in its place under Article 269A . Whatever is recovered from this is divided between the center and the state.
(For more details read – Centre-State Financial Relations )
state government tax; that ended
| State abolished VAT . But remember that VAT has ended only where GST is applicable. Where GST is not applicable, VAT is not abolished, such as liquor, opium etc.
Note – Before 2005, only sales tax was used in the states. In 2005, the same sales tax was removed and VAT was introduced.
| Customs Entry Tax The entry tax was completely abolished. Now no truck has to stop at any state border. They can go to their destination unimpeded.
| Octroi is completely over. Now no municipality can collect octroi by encircling the roads with bamboo.
Advertising tax abolished. and The luxury tax was abolished.
| Entertainment and Amusement Tax, Lottery Tax, Gambling Tax have been abolished.
This amount of indirect tax was abolished or rather merged with GST and one tax system was implemented for the whole country, hence it is called Comprehensive indirect tax system.
Other facts related to GST
GST as a Multi-Level Tax Regime
The biggest advantage of GST is that it eliminates the cascading effect completely and secondly, where earlier VAT was levied on raw material, central excise on production, service tax on service, VAT on wholesaler, VAT on retailer and so on. Due to all this, only one tax has come to GST, that is why it is also called multi-level tax.
GST as a destination based single tax regime
GST is a destination based single tax regime on the supply of goods and services from the producer and consumer .
Policy makers were in a dilemma in this matter whether to levy GST on production, supply or consumer . Ultimately it was decided where the chain of any product would end. There the tax will be levied.
That is, even if a product is made in some other state, the tax will be levied in the same state in which it reaches the same consumer and its input credit will be returned to the state from which the same has come. That is why it is also called destination based tax .
Overall this is GST, hope you have understood what is GST. Next, we will discuss two other important topics related to this “ What are the features and drawbacks of GST and how does GST work? Let’s talk about it in a simple and easy way. Read that also for a complete understanding of GST;