VAT, GST and sales tax: what the three actually are

This article explains how these taxes work in general terms. Rates, thresholds and registration rules differ by country and change regularly, and some of them turn on facts specific to your business. Check your own tax authority, or ask an accountant, before acting.

If you sell across borders you will meet all three names, often in the same week. They are not interchangeable.

VAT and GST: tax at every stage

Value Added Tax and Goods and Services Tax are the same mechanism under different names. Tax is charged at each step of the supply chain, and each registered business reclaims the tax it paid on its own purchases.

The practical consequence: if you are registered, the tax you charge customers is not your money. You are collecting it on the authority's behalf and will remit the difference between what you collected and what you paid.

That single fact drives most of the bookkeeping. Tax collected has to be visible and separable in your records, because some of the balance in your bank account is already owed to someone else.

Sales tax: tax at the last stage

The classic sales-tax model taxes only the final sale to the end consumer. Businesses buying for resale generally do not pay it. There is no reclaim mechanism because, in principle, the tax is charged once.

The United States uses this model, administered at state and often local level rather than nationally — which is why "sales tax" is rarely one rate.

The question that decides which applies

Not "where am I?" but "where is the supply treated as taking place?" Depending on the rules involved, that can turn on where you are, where your customer is, whether your customer is a business or a consumer, and whether you are selling goods or services.

This is why the same invoice can be taxable for one customer and not another.

What to get right in your records

Whatever regime applies, the same things need to be true of your books:

• The tax on each invoice is recorded as tax, not folded into the total. Otherwise you cannot produce a return, and your revenue figures are inflated by money that was never yours.
• The rate used is stored on the transaction, not applied globally at report time. Rates change; historic invoices must keep the rate that was correct when they were issued.
• Your customer's location and status are recorded, because they may determine treatment.
• Currency is converted at the transaction date, not today's rate. For a cross-border invoice the rate on the day of supply is the one that matters, and it is the one an auditor will expect to see.

That last point is easy to get wrong quietly. If your software converts at whatever rate is current when you open a report, last quarter's numbers change every time you look at them.

Registration thresholds

Most VAT/GST systems have a turnover threshold below which registration is optional, and rules about voluntary registration. Both the number and how turnover is measured are jurisdiction-specific, so this is precisely the point to check locally rather than generalise.

Two things are worth knowing in advance: thresholds are often measured on a rolling basis rather than per financial year, and crossing one usually creates a deadline rather than a grace period. Knowing your own running total is the whole game.

The habit that saves you

Keep tax visible in your books as it accrues, rather than reconstructing it at the end of a period. A return should be a report you run, not a project you undertake.