In UK the government collects tax from businesses that make sales.

This is called Sales tax or

Value added tax (VAT).
Sales tax is a tax on a sales transaction and it is charged at each point of sale. It is also called VAT
(Value added tax) and is a cumulative tax collected at each stage of a product’s trading cycle
(meaning when the product is sold by the manufacturer, tax is collected by him from the Customer
(say A). Now if A sells this product to B, then tax is added to the product based on the current tax
rate and sold to B and tax from B is collected by A. so, A gets back the tax he paid earlier and the
balance amount is paid to the government. This chain goes on and the Final customer who
consumes the product bears the total tax amount. ) So we say that sales tax is indirect tax. The final
customer bears the tax. So, any tax paid by the trader at earlier stages is recovered from the total
tax.
Formula for sales tax (VAT)
Sales tax collected from the Customer A
- Sales tax paid at the time of purchase B
Sales TAX paid to Government (A-B)
Only a registerd business can collect the sales tax.

Example:
1. MM&Co purchased a Water Dispenser from a trader for $11,000 ($10,000+sales tax at
10% i.e. $1000)
2. MM&Co sold the Disperser to ABC for $14,300 ($13,000 + Sales tax at 10% on 13,000
i.e. $ 1,300)
3. MM&Co Charges sales tax of $1,300 to ABC, but pays only $300 to the government
treasury (since it recovers the tax amount of $1000 paid earlier to the trader)
4. Next ABC sells the Dispenser to XYZ for $15,730 ($14,300 + $1,430 (tax at 10%). So,
ABC now recovers its tax paid earlier i.e. $1,300 ($1,430-$1,300=$130) and pays the
balance amount of $130 to the government.
So in the Case of MM&Co, it paid more tax($300) to government, since it sold the product for a
profit of 2000, while in the case of ABC it paid only $130 to government, as it sold the product at
purchase price itself excluding the tax on it.

So, we notice that the Final consumer, pays full tax to the final supplier. But at every stage of
sale tax is paid to the government on the value added at each stage on the selling price. Each
trader assumes that is customer is the fnal customer and pays tax on the value added by him.
Accounting for Sales tax:
The Sales tax amount charged to the Customers upon sale is not SALES INCOME/REVENUE for
the business. It is the money payable to the government as tax.
Similarly when tax is paid upon purchase of an item it is not par fo the purchase price or expenses
for the business. It is a tax that is paid , but can be reclaimed from the government.
But, when a customer makes a purchse, he has to pay the full sales price ( which includes the sales
tax or VAT0. Also the amounts payable to the supplier includes the sales tax payable.

Sales Tax entry on PURCHASES:

Sales Tax entry on making SALES:

Example:
MicrobookPro.com sold good for $10,000 plus sales tax of 12%. The following entries should be
made into the Main ledger.
Solution:
The Sales Tax Account:
The sales tax account is an asset (cash in bank) or liability account (since the company owes this
money to the government treasury). This sales tax amount is due to the difference arising due to
Sales Tax on Sales & Sales Tax on Purchases. Normally it is a credit balance, since the next amount
is payable to the Government.
Upon the company paying the tax to the government, the Sales tax amount should be reversed:

Calculating Sales tax: If sales Tax amount is not given, then we have to calculate it from the
available information.
1. If sales tax is X% of the basic price &
2. If Net amount of Sales /Purchases including sales tax is given
Then the Sales price or Purchase price excluding sales tax is calculated as follows:

Price (excluding sales tax) = Price Including Sales Tax x [100 / (100+X)]

Sales Tax = Price (including sales tax) x [X/ X+100)]

Example:
MicrobookPro is a company registered for sales tax. In the year 2012, its Sales excluding
sales tax were $120,000 and its purchases including sales tax were $40,000. All sales and
purchases are on credit. Sales tax is @ 10%. At the end of the accounting period,
MicrobookPro paid all the Sales Tax payable to the government for that accounting period.

The Accounting entry for the above transactions are made as follows:
1.

2.

X% =10%
Sales tax on Purchases = $40,000 x [10 / (10+100)] = 3,636.36
Price (excluding sales tax) = Price Including Sales Tax x [100 / (100+X)]
Purchases excluding sales tax = $40,000 x [100/ (100+10)] = 36,363.63
3.

Sales tax = 12,000-3,636.63= 8,363.64

Normally there exists a balance on the Sales Tax account at the end of the accounting
period, which is usually a credit balance, representing the net amount of tax that is currently
payable to the government.

Example 2:
MicrobookPro had a credit sales of $80,000 @ 10% sales tax. Its Purchases for the period
were $38,000 including 10% Sales Tax. Make necessary Ledger Entries for Sales and
Purchases.

Solution:

Working: purchases included sales tax of 10%. So to find the Purchases amount:
Price (excluding sales tax) = Price Including Sales Tax x [100 / (100+X)]
=$38,000 x [100/ (100+10)] = 34,545.5 (tax is @10% so, 3,454.55= $3,454.6)

Example 3:
MicrobookPro made credit sales of $179,400 including sales tax @ 10% on the basic price
and at the same time Purchases including sales tax of 10% were $95,450. Sundry expenses
were $2000 plus 10% sales tax, which needs to be paid (hence account for payables). Make
ledger entries in the Main ledger for the same.

Solution:
Working:
1. Sales including Sales tax = $200,000
2. Sales tax in sales = $200,000 x 10/(10+100) =
3. Sales excluding sales tax = $200,000 x 100/110 =
4. Purchases including sales tax = $100,000
5. Sales tax in Purchases = 100,000 x 10/110=
6. Purchases excluding sales tax = 100,000 x 100/110
7. Sales tax on Sundry expenses = 10% x 2000= $200
Sales Tax and Discounts:
Normally we need to do sales tax calculations for both types of discounts given for
credit sales or credit purchases (i.e. Cash/settlement discount and Trade discount)

Trade Discount: Here the amount of sales tax payable shown on the Invoice is
calculated on the price after deducting trade discount.
Cash / settlement Discount: Cash discount is deducted from the amount shown in the
invoice deducted from net list price for calculation of sales tax.

When the Cash / settlement discount is taken by the customer, then the amount payable
is:

OR
Example:
MicrobookPro sells goods to Proctor &Co, on credit at a list price of $20,000. A trade discount
of 10% was given and a settlement discount of 3% has been offered for payment within 12 days.
Sales tax is @18%. Calculate the Total amount payable by Proctor & Co to MicrobookPro. Also
make calculations if the supplier takes the discount.
Solution:

Calculations of Sales Tax:

Registration with the sales tax authorities:

All traders above a certain minimum turnover must register with the sales tax authorities. But if
the Business’s turnover is below the minimum, then they do not need to register, since they do not
charge sales tax on their sales, hence have nothing to claim.
The Tax authorities decide on how can reclaim tax paid and how.