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Notes G10 ACC - VAT

J. Cansfield Page 1 of 14

Grade 10 Accounting Notes

SET 1:

TAX

VAT

Name: ________________________

Notes G10 ACC - VAT


TAXATION AND VALUE-ADDED TAX (VAT)

Outcomes

LO1 FINANCIAL INFORMATION

The learner is able to demonstrate knowledge, understanding and the application of

financial information according to generally accepted accounting practice and

concepts

Assessment Standards

1.7 Explain basic VAT concepts

TAXATION IN SOUTH AFRICA

Before studying the specific principles of VAT, it will be useful to consider the

overall context of taxation in general.

In all countries adhering to a capitalistic economy, the forces of demand and supply

determine the goods and services offered by and to the citizens and business

organisations. If the population demands a certain product or service, then

businesses will tend to be formed to satisfy that demand. For example, several years

ago there was a certain demand for cell-phones in this country, which led to the

formation of MTN, Vodacom and Cell-C. The demand and supply for any product or

service ultimately determines its price, and suppliers will enter the market if they

feel that the expected financial returns are worth while.

However, the market forces cannot always be relied upon to provide certain products

or services on a scale and at a price that the country needs. Market forces are also

affected by economic conditions. For example if there is a shortage of money in the

country, the demand for luxury goods will decline and certain suppliers might close

down their businesses. This cannot be allowed to happen in the case of essential

services that the country needs for its continued existence and

progress.

Consider the case of the country’s police force. The SA Police

Services offer their services free to the population of South

Africa. History has proved that there is no entrepreneur or

business organisation that would be willing to use its resources in

Notes G10 ACC - VAT


providing a service such as this for no return. It is true that commercial security

companies have started up. These companies charge fees for their services, which

they offer only to those consumers who might demand more than the public service

offered to all South Africans and who are willing to pay more for that service.

Similar considerations apply in other areas of South African life such as education,

the justice system, health services, roadworks, the defence force and government

administration. In years gone by the South African government was responsible for

the provision of many more services than it provides today, but as the economy of the

country has developed, more and more of these services have become the

responsibility of commercial organisations.

Telkom and Iscor are two examples.

Most governments, however, provide the following:

• a police service

• a defence force

• hospitals, clinics and other medical services

• education

• road and rail infrastructure

• social welfare

• water

The Government requires income to cover these costs. The income it receives is

mainly in the form of taxes. The people of the country should see taxation as a

contribution towards the support of their country and fellow citizens. The Income

Tax Act is a law passed in parliament which makes it compulsory for every person and

company to pay tax on the income earned by them, according to the tax rates laid

down in the Act. All employers are required to deduct this income tax from their

employees on a monthly basis and pay it over to South African Revenue Services

(SARS) who collect the taxes due to the government. This is known as the PAYE (Pay-

As-You-Earn) system.

Those people who are self-employed are required to register as provisional taxpayers

and submit provisional tax returns every six months. The Income Tax rates are based

on a progressive rate structure. The higher a person’s income is, the higher his tax

rate. At present (stated in the 2006 Budget), persons earning less than R40 000 per

year do not pay income tax. (This figure can be adjusted by the Minister of Finance

at any time). Thus our income tax system is based on the idea that the wealthy should

carry a greater part of the tax load than the poor. For this reason, the more a person

earns, the higher the percentage tax he or she pays on his or her income.

Notes G10 ACC - VAT


There are several other forms of tax levied in South Africa. Customs duty is levied

on imported items. Excise duty is levied on certain items, the usage of which the

government wishes to restrict e.g. alcohol or cigarettes. Estate duty is levied on

the value of a person’s wealth when he dies. Transfer duty is

levied on the purchase price of land and buildings.

Value-Added Tax is yet another example.

ACTIVITY 1 (in pairs/ group of three)

Compile a wall-chart or PowerPoint presentation

to reflect:

- The sources of tax revenue received by the government

- The areas in which the government spends the tax

revenue.

ACTIVITY 2

Debate

The motion is:

“The country will benefit as a whole if income tax is abolished.”

Team A is to propose the motion. Team B is to oppose the motion.

VAT accounts for about 27% of total tax revenue/income.

Notes G10 ACC - VAT


THE GENERAL PRINCIPLES OF VALUE-ADDED TAX

ACTIVITY 3 BASELINE ASSESSMENT (individual and in pairs)

Look at the till slip and answer the

questions that follow.

1. What does VAT stand for?

2. What is the current rate of VAT

in South Africa?

3. There is a VAT registration number

printed on the till slip.

Why should VAT numbers appear

on the source document?

4. There is an asterisk (*) next to

some of the amounts on the till slip.

Why is it there?

5. Find a partner and take five minutes to discuss what you know

about VAT, what it is, and how it works.

Work together to draw a diagram showing how VAT works.

Notes G10 ACC - VAT


VAT is a tax paid by everyone, rich or poor, whenever they buy anything.

The government introduced VAT on 29 September 1991. VAT

is the most pervasive of all the taxes levied in South Africa as

it applies equally to all persons. No person, irrespective of how

little he earns, is exempted from paying VAT. Many people may

argue that VAT is the fairest system of taxation.

VAT is charged on the supply of goods or services by a vendor (i.e. a supplier). It is

based on the value of the item and on the general rule that the same rate is charged

on all goods and services unless they are zero-rated or VAT-exempt.

The general rule is that a vendor charges the consumer a standard rate of 14% VAT

(this % is controlled by the government and can be adjusted by the Minister of

Finance at any time) on the price of articles or services charged by him.

If a vendor quotes a price and does not mention VAT, the price is presumed to

include VAT. The vendor deducts the value of VAT paid by him to his suppliers. The

vendor is required to pay over the difference to SARS every month. This represents

tax on the ‘value added’ by his business.

As we shall see below, the system is not so simple but it is effective in the manner in

which SARS is able to collect all the tax revenues due.

What ‘value-added’ means

This flow diagram shows a typical distribution chain for a cake,

from the raw material (maize grown by a farmer) to the final product

(a cake bought by a consumer).

Farming: Maize Miller: Flour Manufacturer: Baker Retailer: Spar Customer

At each stage, value is added to the product and a profit is made by each of the

businesses in the chain, for example:

• The farmer grows the maize then harvests it.

• At the mill, the maize is produced into flour.

• The baker uses the flour to bake cakes.

• The retailer, such as Spar stores, displays and markets the cakes, so

that the customer can make an informed decision as to which cake to

buy.

VAT was introduced in South Africa in September 1991. Originally it was 10%, but increased to 14% April 1993.

Notes G10 ACC - VAT


How VAT works and how it affects the consumer

VAT is charged on goods as well as services. For example, the fees charged by an

advertising business or an accountant are subject to VAT. VAT is charged on any

activity carried out regularly or continuously by businesses, traders, manufacturers,

professional persons or clubs.

Supplies on which VAT is not levied include:

- private sales of personal or domestic items

- hobbies or any private recreational pursuit (unless this becomes a business)

- salaries and wages

- supplies that are exempted from VAT, or those that are zero-rated (we will

look at this later).

VAT is charged on the value that is added by each business in the

chain and paid over to the government department known as the

SARS. Although each business in the chain pays VAT on the goods

it buys, if they are registered VAT vendors they can claim this

tax back. The last person in the chain, the consumer, cannot claim VAT back. Vendors

registered for VAT are obliged to collect VAT from their customers or clients on

behalf of SARS.

VAT is a form of tax in at least 50 countries around the world.

Notes G10 ACC - VAT


REGISTRATION AND PAYMENT PROCEDURES

It is compulsory for all businesses with sales (turnover) in

excess of R1 000 000 per year to register as a vendor.

Registered vendors are then issued with the necessary

forms which must be submitted to SARS every second

month together with the amount payable.

A business with sales less than R1 000 000 may apply for voluntary registration that

means that they can deduct their input taxes from the output taxes in paying over

the required amount. A business selling mainly to other VAT vendors should consider

registering, because the VAT paid on its inputs is deducted from the VAT it charges

its customers. Businesses which are not registered as vendors are simply required to

pay over the full 14% on cost prices to their suppliers, who will pay over the VAT to

SARS. In other words, it cannot charge consumers output VAT and it cannot claim

back its input VAT.

No business earning less than R20 000 is allowed to register as a vendor.

In assessing the sales value, SARS will consider the owner and not specific

businesses. For example if you own one business with sales of R800 000 and another

business with sales of R220 000, you will have to register as a vendor because your

combined turnover exceeds R1 020 000. As a businessman, one of your concerns

might be that if you sell on credit and have to wait for payments from your debtors,

you might face a liquidity problem if you have to pay VAT in the month in which the

sales transaction occurs. It is for this reason that the VAT regulations make

provisions in the calculations to avoid this problem.

The person, and not the business, has to be registered for VAT If a person has

several businesses, or branches or divisions of a business, the person must be

registered only once, unless the person applies to SARS for separate registrations

for each branch or division that maintains a separate accounting system. However,

each separate branch will remain a part of the person who has registered.

For example, Jake Solomon owns a book store that has yearly sales of R880 000, and

a restaurant with yearly sales of R150 000. He must register as a VAT vendor

because the sales of the two businesses combined are R1 030 000, which is more than

R1 000 000.

Once a person or a business has registered as a VAT vendor, he or she will be entitled

to:

• claim a deduction for VAT paid on any business expense that includes

purchases of stock

• issue tax invoices to customers who are vendors so that they, in turn,

can claim their input tax deduction.

Notes G10 ACC - VAT


TWO KINDS OF VAT:

Input VAT

The VAT paid by each business for goods and services bought from other businesses

in the chain is known as input VAT.

Output VAT

The VAT that is charged to customers is called output VAT.

Worked Example 1

A furniture wholesaler purchases a table for R570 (R500 + R70 input VAT).

He sells it to the consumer for R969 (R850 + R119 output VAT).

In respect of the purchase, the wholesaler can claim an input of R70, which

SARS owes him. He takes this amount from the R119 output tax paid by

the consumer.

The wholesaler is then required to pay the R49 (the R119 minus the R70

input tax) to SARS.

ACTIVITY 4

Think of your own example of a business that buys goods, pays input VAT on the goods and then sells the goods at a higher price, on which output VAT is

then paid. Examples of goods can be furniture, cars, soap, or any other item

that you are likely to find in a shop or at a market. Draw a picture or a comic

strip illustrating this process.

In terms of the amount that must be paid to SARS, the input VAT amounts to less than the output VAT. If the input VAT is greater than the output VAT, SARS will refund the business.

Notes G10 ACC - VAT


ZERO-RATED ITEMS

As a general rule, all taxable supplies are subjected to the standard rate of 14%

(VAT-able items). However certain items are zero-rated which means they are

subject to a tax rate of 0%. However, this % can be adjusted at any time by the

Minister of Finance.

Zero-rated items comprise goods or services that normally would be subjected to

VAT, but which because of their nature, cause hardship to indigent (poor) consumers

if 14% VAT were to be levied. In order to help poorer people cope with the tax

burden, the government has declared certain basic foodstuffs and other essential

goods zero-rated.

Here is a list of zero-rated products:

• brown bread • lentils

• paraffin • maize products

• milk • cooking oil

• rice • fruit • eggs

• canned pilchards • milk powders and blends

• dried beans and legumes • vegetables

• diesel fuel • petrol

Petrol and diesel fuel are also zero-rated but they are subject to fuel

levies which are included in the pump price.

Although the businesses selling these products cannot charge VAT on them, they can

claim back from the government any input VAT that they have paid.

ACTIVITY 5

Mark all the items that are zero-rated for VAT with a X.

Good or service Zero-ratedWhite breadBreakfast cerealPetrolChipsTinned jamRiceMaize meal/mealie mealCarrotsMilk powderLentils

Notes G10 ACC - VAT


VAT EXEMPTED ITEMS

VAT-exempted goods and services are those items that, by law, are not subject to

VAT. VAT may not be charged on these items at all and the businesses selling these

goods cannot claim any input VAT from them.

The following are VAT-exempt goods and services:

• salaries and wages

• hobbies or any private recreational pursuit (unless the hobby becomes a

business, for example your hobby of restoring furniture turns into the

way you earn your living)

• private sales of personal or domestic items

• services charged by banks and other financial organisations

• goods and services supplied by schools and other non-profit

organisations

• donated goods.

• interest

• rates

• export services

• child care services

• educational services

• services provided by associations not for gain

This may seem similar to zero-rated items but it is not.

Remember, zero rated items could be charged VAT at any stage the Minister of

Finance decides to increase the % above 0. Whereas VAT-exempted items cannot

have VAT added to the price at all.

EVASION AND AVOIDANCE OF TAX

It is every person’s prerogative to avoid the payment of tax as much as

possible. For example, if you wish to pay as little VAT as possible, then

you may reduce your purchases. If you wish to pay less income tax, then

you can transfer your savings into tax-free investments such as endowment funds or

government bonds.

However, it is illegal to evade tax. If you have earned income which is taxable, it is a

legal requirement to declare this income on your tax returns and the appropriate tax

will be levied by SARS. If you fraudulently submit incorrect tax returns, you will be

guilty of tax evasion which is a criminal offence punishable by fines or imprisonment.

Notes G10 ACC - VAT


Tax evasion is a potential problem that every government tries to combat. It must be

remembered that the government needs a certain amount of tax revenue in order to

cover its expenses. If the government is unable to combat tax evasion, a

consequence will be that tax rates will be increased which means that the honest

taxpayers are disadvantaged even further. In recent years, South Africa has

experienced declining tax rates for a variety of reasons, one of which is the

increased efficiency in collecting taxes.

ACTIVITY 6 Role-play

One person enacts the part of tennis coach who makes a lot of money in

charging fees for tennis lessons. She/he has a flashy car and she/he holidays

overseas. She/he accepts only cash, not cheques, and she/he does not issue

receipts. She/he brags that she/he does not pay taxes and SARS cannot catch

her/him for tax evasion. She/he charges VAT on her/his fees, but she/he is not

registered as a vendor.

Another person enacts the part of her/his neighbour who earns a fixed salary

from her/his employer (PAYE is deducted each month) and struggles to cover

her/his costs each month.

The role-play is intended to communicate:

- The difference between tax evasion and tax avoidance

- The lack of ethics on the part of the tax evader

- The effect on honest taxpayers if tax evasion is allowed to exist.

You may change the circumstances and you may introduce other characters

e.g. a SARS inspector (or St Peter at the pearly gates!)

ACCOUNTING FOR VAT

Accounting for VAT on source documents: Most businesses mark their stock with

the selling price including VAT, so that customers know exactly how much they have

to pay for goods. On most cash sales slips and invoices the business then breaks down

the price showing separately the selling price and the VAT charged.

Accounting for VAT in the journals: Because businesses that are registered VAT

vendors can claim back any input tax they have paid, they need to record all amounts

of VAT that they have paid (input VAT). This is done in the Cash Payments, Creditors

and Petty Cash Journals. In the same way, businesses have to record the VAT they

have charged customers (output tax). This is done in the Cash Receipts and Debtors

Journals.

Notes G10 ACC - VAT


SUMMATIVE ASSESSMENT (individual work)

Imagine that you are a financial adviser who replies to questions sent to a

popular magazine by its readers. This is one of the letters to which you need to

reply.

Dear Financial Adviser, Last year, I started a business where I bought liquid cleaning soap in bulk. I then repackaged it into small containers, which I sold to retailers. My sales for the year were R200 000. I bought soap and material, which cost R100 000 plus R14 000 VAT. I also paid R30 000 plus R4 200 VAT for other business expenses, like stationery, advertising, telephone and rent. I need to know the answers to the following questions: Do I hove to register as a VAT vendor? If I do not have to register, can I register if I choose to do so? What benefits, if any, would I receive by registering as a VAT vendor? Which items are exempt from VAT? Yours sincerely Tina Zuma

Now answer these questions.

1. How much input VAT did Tina pay?

2. If she were a registered VAT vendor, how much output VAT would she

charge at the present VAT rate?

3. Write a letter to Tina answering her questions.

Notes G10 ACC - VAT


CHECKLIST Skills Requires more

attention

Yes -

proficient

Complete

Understand the reasons for taxation in

the country

Understand the basic principles of

Value Added Tax

Understand who needs to register as a

VAT vendor

Understand the difference between

standard VAT, zero- rated and tax

exempted items

Understand the difference between tax

evasion and tax avoidance

GLOSSARY Bank overdraft: when a person or a business needs access to more money than their

income allows, they can apply for more money in their bank account.

Bookkeeping: the recording of transactions in the books of a business.

Current asset: a business resource, which is converted into cash during the course of a

financial year.

Equation: a mathematical phrase, which always contains an equal sign (=). An equation can be

manipulated and the terms moved around, as long as what you do to the one side, you do the

same to the other side.

Expenses: amounts incurred by a business in the daily running of the business, and which

are necessary in order to earn an income. They have the effect of decreasing the owner’s

equity of the business.

Financial accounting: the recording, reporting, analysing and interpreting of the financial

transactions of a business.

Income: the amount earned by a business through its daily operations and through its

investments. It has the effect of increasing the owner’s equity of the business.

Managerial accounting: when accounting information is used to help the owners or

managers to make decisions about the future of the business.

Mortgage bond: money that is borrowed from the bank in order to buy property.

Perpetual: continuous: In the perpetual inventory system we continuously keep track of our

inventory (or stock), so we always know how much we should have on hand at any time.

Profit: the amount by which incomes earned exceed expenses incurred in earning the income.

Retail concern: a business that sells tangible goods to customers to satisfy needs.

Examples of retail concerns are shops, cafes, dress shops and CD stores.

Service concern: a business that provides a service to customers for a fee. It does not

provide a tangible product, but rather uses its skills to meet a need. Examples of people who

own service concerns are lawyers, doctors and painters.

Transaction: any event between people doing business in which something is exchanged for

something else.

Documents

TAXATION IN SOUTH AFRICA - Weeblyaccountingstudents.weebly.com/uploads/6/4/9/4/6494232/...TAXATION IN SOUTH AFRICA Before studying the specific principles of VAT, it will be useful