Can it be true? Did I read that right? Can you imagine purchasing an item and paying a 21% tax on the purchase price? Not only is it not an ordinary sales tax; but a value added tax. The citizens of Spain found out today that their value added tax was going from 18% to 21%–a 3% increase. What’s the difference between a sales tax and value added tax?
A sales tax is a tax based on the purchase price that an end consumer pays when they purchase an item. A value added tax is a taxed that is added onto a product’s cost during the manufacturing of the item which increases the value of the item. Value added tax and the sales tax are both consumption taxes. Let’s take a closer look at the difference between the two taxes.
An item is produced in 2 stages. During the first phase of production, the cost to produce the item is $100. The second phase the final cost to products the item is another $100. The consumer’s or retail price of the item is $250 due to competition.
Under the value added tax, the tax is added each time the product is created which brings the production cost of the item to $242.
1st Cost $100
Value added tax (first cost) $21
2nd Production Cost $100
Value added tax (Second cost) $21
Total Production Cost $242
Company Profit $8
Cost to Consumer $250
Value Added Tax (Consumer) $52.50
Total Cost to Consumer with the tax $302.50
Total Value Tax Collected by the Government – $94
Under the Sales Tax, it is much simple to calculate the tax:
Cost – $200
Sales Price – $300
Company Profit – $100
Consumer Price – $250
Sales Tax (21%) $52.50
Total Sales price with Tax: $302.50
Total Sales Tax Collected by the Government $52.50
$94.50 vs 52.50. The government will bring in $42.00 more in tax revenue under the value added tax than the sales tax. There are some people who would like to replace the U.S. income tax with a National Sales Tax or a Value Added Tax. Where I live in Tennessee, the sales tax is 9.25% which some people consider to be high. At the same time; however, Tennessee does not have a true income tax on wages. The State does have a tax on investment income (Dividends, capital gains, interest, etc.) of 6% with a $2,500 married exemption or $1,250 single exemption. For me, a 9.25% sales tax is a better deal than 21% value added tax and/or income tax. Which do you prefer a value added tax, sales tax, or income tax? I am sure the citizens of Spain are not too thrilled about $1 out of $5 going for taxes. Do you think increasing the value added tax will decrease Spain’s economy further?
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