What Is GST (Goods & Services Tax) & How It Works?

5875
views

What is GST (Goods & Services Tax)? Before knowing about it, we need to know what is the current tax structure followed by the Indian government.

The tax structure in India

In India, Taxes are controlled by Central & State Governments along with local municipal corporations. Any new tax in the country cannot be introduced by the government unless and until it is passed as a law.

Types of Taxes

There are two types of taxes in India

  1. Direct Tax
  2. Indirect Tax

1. Direct Tax: The Direct tax is controlled by the Central government. The Direct tax is levied on individuals and corporate entities.

Income tax, wealth tax, service tax are some examples of Direct tax. As you are paying these taxes directly to government authorities hence it is called as Direct Tax.

2. Indirect Tax: It is controlled by State government. Indirect tax is levied on goods & services. You will not pay directly tax to government authorities. Instead, you pay tax to the goods sellers and services.

Most common indirect taxes are

  • VAT(Value Added Tax) – Tax on goods sold within the state.
  • Octroi – Tax on goods that move from one state to other states.
  • Excise duty – Tax on goods produced domestically.
  • Customs duty – Tax on imported goods.

Well, we will not focus on direct tax now, we will discuss more on Indirect Tax. When I said indirect tax you should switch your mind to topic goods & services.

Let us see an example how the tax is levied on goods & services currently.

Let us consider a T-shirt manufacturer. So let us assume that manufacturing cost of one T-shirt is 100Rs/-. Now a wholesaler came to purchase T-shirt from the manufacturer. Now manufacturer sells T-shirt by adding 10 Rs/- profit + 10 % Tax.

So now the cost of T-shirt is 100 + 10 + 10 = 120 Rs/-  (Cost + Profit + Tax)

Now wholesaler adds labels to the T-shirt. So for adding labels to T-shirt let us assume it costs him extra 30Rs/-. It is called as ‘value Addition’.

So now the cost of T-shirt is 150 Rs/-.

Now a retailer comes to purchase T-shirt from the wholesaler. He will sell the T-shirt by adding 10% tax(15 Rs/-) on it and also he will add 10 Rs/- profit on it.

So now the cost of T-shirt is 150 + 10 + 15 = 175 Rs/- (Cost + Profit + Tax).

Now the retailer again packs the T-shirt in a cover or boxes. So let us assume that it cost’s him again extra 10 Rs/-. So now the cost of T-shirt is 185 Rs/-.

Now when a customer purchases a T-shirt he will add 10% tax (18.5 Rs/-) on it and also 10 Rs/- profit on it.

So now the cost of T-shirt is 185 + 10 + 18.5 = 213.5 Rs/- (Cost + Profit + Tax).

If you observed carefully the above example for every step 10% tax is added. It means the customer has to bear all the taxes from manufacturer to retailer. So to reduce this taxes government has introduced GST (Goods & service Tax).

What is GST?

GST is reform for indirect tax. It is introduced to avoid tax barriers between states and to create a single market.

Well, Let’s see how exactly GST is helpful for everyone.

Let us consider the same T-shirt example.

The manufacturing cost of one T-shirt is 100 Rs/-.

Now a wholesaler came to purchase T-shirt from the manufacturer. Manufacturer sells T-shirt by adding 10 Rs/- profit + 10 % Tax.

So now the cost of T-shirt is 100 + 10 + 10 = 120 Rs/-  (Cost + Profit + Tax)

This first step is similar to the one discussed above. Now from the second step, you will come to know where exactly GST is applied.

Now wholesaler adds labels to the T-shirt. Let us assume that it costs him 30 Rs/-. So the total cost of T-shirt is now 150 Rs/-.

10% tax of 150 Rs/- is 15 Rs/-. But you already paid 10% (10 Rs/-) tax when you purchased the product from the manufacturer right? So you just need to pay 5 Rs/-.

So now the cost of T-shirt is 150 + 10 + 5 = 165 Rs/- (Cost + Profit + Tax).

Now the retailer again packs the T-shirt in a cover or boxes. So let us assume that it cost’s him again extra 10 Rs/-. So now the cost of T-shirt is 175 Rs/-.

10% tax of 175 Rs/- is 17.5 Rs/-. As you already paid (15 Rs/-) so you just need to pay 2.5 Rs/-.

So now the cost of T-shirt is 175 + 10 + 2.5 = 187.5 Rs/- (Cost + Profit + Tax).

So clearly you can see the difference.

Before GST the cost of one T-shirt is 213.5 Rs/-.

After GST the cost of one T-shirt is 187.5 Rs/-.

Difference 213.5 – 187.5 = 26 Rs/-

This is how GST tax is applied.

For different products, different taxes are applied. Let us see the tax % for the products below.

Products Tax %
Edible oil, sugar, spices, tea, coffee, Coal, Mishti/Mithai (Indian Sweets), Life-saving drugs 5 %
Computers, Processed food 12 %
Hair oil, toothpaste, Soaps, Capital goods and industrial intermediaries 18 %
Small cars, High-end motorcycles, Consumer durables such as AC and fridge, Luxury items, cigarettes and aerated drinks 25 %

How does GST Tax work? 

There are three kinds of applicable goods & services taxes.

CGST: Where the revenue will be collected by the central government

SGST: Where the revenue will be collected by the state governments for intra-state sales

IGST: Where the revenue will be collected by the central government for inter-state sales

So when a dealer sold goods, for example, a computer to another dealer within the state. Then 18% tax is levied on that particular product. Out of it, 9% Tax (CGST) goes for central government and other 9% Tax(SGST) goes for state government.

Similarly, if a dealer sold goods outside the state, then the total 18% tax called IGST goes to the Central government.

This is how GST works. Hope you got to know what is GST & how it works. In my next article will explain you the GST registration process.

If you liked the article please do share it. Thanks for reading.

If you have any queries about GST. Feel free to ask in the comment section.

LEAVE A REPLY

Please enter your comment!
Please enter your name here