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According to my understanding, VAT is the tax paid by the consumer on value added at each step. For example, suppose VAT is 10%. A farmer produces tomato and sells for $10 to a packaging company. Packaging company pays $11 ($10 + $1 VAT). The company produces canned tomatoes and sells the cans for $20. A restaurant pays $22 ($20 + $2 VAT) and makes tomato soup. Tomato soup is sold to customers for $30 but the price is $33 after VAT.

Now, VAT paid by Farmer = $1 Packaging company = $2 - $1 = $1 restaurant = $3 - $2 = $1

But The packaging company charges $2 VAT and pays $1 VAT. Does it mean they keep the extra $1? Same with restaurant. They charge $3 but only pay $1. If so wouldn't it be a huge burden to the customer?

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    While this could depend on country, every scheme I've heard of called VAT has each party pay their net collection: the difference between their outputs and their inputs, so that the cost to the end consumer is the same as a 'sales' tax on retail only. See en.wikipedia.org/wiki/Value-added_tax#Examples . Aug 9, 2020 at 4:47
  • Why would the companies keep the $1 VAT they collected for their added value? That is tax they collected on behalf of the government and needs to be paid to the government. Also, in some countries B2B transactions are VAT exempt (or more precisely: the buyer is responsible for paying appropriate VAT). Then, VAT would only be applied in the final link in this chain, the B2C transaction from the restaurant to the customer, so that the restaurant would collect $3 in VAT and pay it to the government entirely.
    – amon
    Aug 9, 2020 at 8:19
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    No country tax needed as every VAT scheme I know of works the same in all the world. The percentages vary, the timeframes for declaration vary, but this question is about the fundamental mechanisms and they are identical.
    – TomTom
    Aug 9, 2020 at 8:19
  • Not sure how this works in different VAT countries, but in Texas, if you must collect sales tax you get a very small discount if you pay that to the state government early so you can effectively make a very small profit. Some VAT systems could have a similar government incentive to encourage prompt payment.
    – Eric
    Aug 9, 2020 at 12:49
  • @Eric Sales tax in the US and VAT are fundamentally different as sales tax is only done at the end point. VAT is calcualted on most steps in the supply chain. My business basically pais VAT on pretty much every in country business I get.
    – TomTom
    Aug 9, 2020 at 17:16

2 Answers 2

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Generally: No, only if they commit VAT fraud.

Basically, VAT is money for the government. The business collects it, deducts the amount of money it PAID for VAT, then sends the rest to the government. If the result is negative (because you have more VAT expenses than income - which may happen i.e. if you export out mostly to countries that are outside the EU and so there is no VAT on the sales) - the government will return the balance to you.

There are some VERY few exceptions, and those basically are if you run a business that is in a category that can not deduct VAT. VERY small list. And then they basically do not collect VAT.

Does it mean they keep the extra $1?

No, it means that they have 1 USD to send to the government to balance the VAT account.

VAT is always a pass through for the government. The only way it impacts you as a business is if you run a VAT deficit and the government takes months to refund the money (without interest).

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You can make a bit of money in the UK on VAT if you are a very small company (one man band). If your revenue is low, you can get a deal where you register for VAT so 20% is added to each bill, but you don’t deduct itemised VAT but are allowed to pay only say 14.9% of the bill including VAT. So you can put about 2% or so in your pocket, legally.

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