What is VAT in accounting and how does it work on a day-to-day basis?

You see it every day on your invoices. It is reflected in each and every purchase you make, but do you really know what VAT is in accounting?

This tax, created in France in 1930, is part of our daily lives, whether as consumers or as entrepreneurs and self-employed people. However, as an entrepreneur and business owner, you need to know more about it, and Appvizer gives you the information you need.

In this article we will look at VAT in its broadest sense: what it is for, the rates that exist in Spain and information on how to calculate it. Without further ado, let's get started!

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What is VAT in accounting? Definition

Value Added Tax, whose acronym VAT we are all familiar with, is the tax or levy charged on certain products and services.

It is an indirect tax, as it is not levied on income but on consumption. In other words, it is financed by the final consumer and depends on the quantity of products consumed. Its indirect nature also means that it is not paid directly to the tax office, but through companies. In a way, the company helps in the collection of this tax.

As its name suggests, this tax is only levied on the value that the last seller has added to the product.

What is VAT used for?

In principle, VAT is used to tax both the supply of goods and services by professionals and intra-Community transactions.

At the same time, VAT is one of the main sources of financing for the State and, since it is paid from the beginning of the value chain, the Treasury does not have to wait until the end of the year to collect it in full.

Characteristics

• Flat and compulsory: it is the same percentage for everyone equally. It does not depend on the taxpayer's income.
• Proportional: the same tax rate applies to all products and services in the sector.
• Neutral (in the case of businesses): for businesses, VAT is neither an expense nor a profit, they only serve as a tax collecting body for the tax authorities.

Types of VAT

Each country has its own regulations and tax rates. In the case of Spain, there are three types of VAT depending on the activity or product:

1. General VAT

This is the tax rate corresponding to 21% of the transaction. It is, by default, the tax that is applied to all transactions.

2. Reduced VAT

Equivalent to 10% of the transaction and applies in cases such as the following:

• Foodstuffs intended for human or animal consumption (except alcoholic beverages).
• Agricultural, forestry or livestock products(fertilisers, insecticides, seeds, etc.).
• Consumption of water, whether for human, animal or irrigation purposes.
• Sanitary products and instruments or those intended to make up for physical deficiencies (glasses, contact lenses, etc.).
• Sales of dwellings, parking spaces, annexes.

With regard to services such as:

• Transport of passengers and their luggage.
• Catering services, restaurants and consumption of food on the spot.
• Services in favour of owners of agricultural, forestry or livestock farms.
• Public road cleaning services.
• Health care, dental care and thermal cures which are not exempt.
• Repairs and refurbishment of dwellings.
• Leases with an option to purchase housing, parking spaces and annexes.
• Imports of antiques, art and collectors' items.

In 2018, VAT on tickets to cinemas, theatres, concerts and sporting or cultural events was reduced from 21% to 10%.

3. Super-reduced VAT

With a tax rate of 4%, this is the tax applied to cases such as:

• Sale of unprocessed food (vegetables, cereals, flour, bread, eggs, cheese, etc.).
• Sale of books and magazines that do not contain any content that is not mainly advertising.
• Sale of medicines.
• Vehicles for persons with reduced mobility.
• Sale of prostheses or implants.
• State-subsidised housing (when the delivery is made by the promoters).
• Telecare services, home help, day and night centre and residential care.

VAT in the world

As mentioned above, value added tax varies according to the country and local laws. In English, this tax is known as VAT (Value Added Tax).

Let's look at some of the tax rates around the world:

Output VAT vs. input VAT

Depending on the position of the seller or buyer of the product or service, the tax will have a different denomination:

1. Input VAT: The amount paid by the business at the time of purchasing a product or service.
2. Output VAT: The tax you charge a customer after providing a service or selling a product.

In other words, both input and output VAT rates are two sides of the same coin, it just varies depending on the position you are in.

Let's say, for example, that in order to run your business you need to buy raw materials, which you will then transform into a final product that will be put on the market. When you buy raw materials, you have to pay the appropriate tax (that's your input VAT). Once you sell the final product, your customer/buyer will have to pay an amount corresponding to VAT, this will be your output VAT.

Who collects VAT?

Two people are involved in the process of collecting value added tax:

• Taxpayers: This is any individual who pays this tax out of his or her own pocket every time he or she purchases a product.
• Taxpayers: This is the individual or legal entity that collects the tax and then pays it to the Treasury in compliance with their tax obligations.

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How is VAT declared?

In Spain, Value Added Tax is usually settled quarterly (with a few exceptions). This declaration is made by filing form 303, which calculates the difference between output VAT and input VAT. This is part of the tax obligations of companies and the self-employed.

Failure to declare this tax can result in administrative penalties that can affect your business. Avoid this kind of inconvenience and arm yourself with the right accounting tools to deal with this liability without wasting time and money.