VAT Calculation Basics

Value-added tax (VAT) is an indirect tax the seller adds to the price of a good or service.

Introduction

VAT is simple to understand, but not always simple to calculate. This article aims to explain the essence of calculating this tax in the clearest language possible. Because VAT is added to the price of a good or service, the starting point for calculation is the initial price of the item, often called the price WITHOUT VAT.

Next you need to know which VAT rate applies in the country where you do business. VAT rates can differ for some groups of goods or services, but those details are outside this article’s scope, because the rate size does not change the calculation process.

Example

Using an example, let’s walk through the full VAT cycle. Suppose the VAT rate is 20%.

We want to buy a batch of roses for resale. Our company uses a tax regime with VAT and the supplier is also a VAT payer. When we ask the supplier for the price of one rose, they may quote only the price without VAT. For example, they say one rose costs 5 rubles without VAT.

Calculating the price with VAT on purchase

To get the price with VAT, add 20% of the price to that same price. In other words, increase the price by 20%. Recall how percentages are added. In general, 20% of 5 rubles is:

 VAT = 5 * 20 / 100 = 1

which is 1 ruble. Note that 20/100 is simply percentages as a fraction — and that fractional form is what is used most of the time. Back to our example: we found that 20% of 5 rubles is 1 ruble. To get the final price with VAT, add 5 rubles (price without VAT) to 1 ruble (20% VAT on 5 rubles). So we will need to pay the supplier 6 rubles WITH VAT for one rose. That gives a general formula for adding VAT to the initial price:

price with VAT = price without VAT + price without VAT * VAT rate / 100

If we simplify the expression by factoring out price without VAT, we get a simpler formula:

price with VAT = price without VAT * (1 + VAT rate / 100)

Let’s use that formula for our example:

rose price with VAT = 5 * (1 + 20 / 100) = 6 or 5 + 5 * 20 / 100

Same result. Which formula you use is only a matter of preference.

Calculating the price with VAT on sale

We established that we will actually pay the supplier 6 rubles. But how does VAT itself work? To answer that we need to sell the roses we bought. For example, we want to sell one rose for 9 rubles without VAT. Then we add 20% VAT to 9 rubles the same way as on purchase. The price with VAT will be:

Sale price with VAT = 9 * (1 + 20 / 100) = 9 * 1.2 = 10.8 rubles

So the final sale price is 10.8 rubles. We have not paid any tax yet — we only marked the price up by the VAT rate. To calculate the tax amount due, we need to extract VAT from the final price.

Extracting VAT from the price. Input and output VAT

Essentially this is the reverse of the markup we already covered. To extract, we divide rather than multiply. The formula looks like this:

price without VAT = price with VAT / (1 + VAT rate / 100)

And to get VAT itself, subtract price without VAT from price with VAT:

VAT = price with VAT - price without VAT

From our example we can calculate VAT after selling one rose:

VAT = 10.8 - 9 = 1.8

That gives so-called OUTPUT VAT — VAT that goes out from us, or is included in the final price of our products.
There is also a simpler way to get VAT from the final price (or price with VAT):

VAT = price with VAT * VAT rate / (100 + VAT rate)

Plugging in our example for output VAT:

VAT = 10.8 * 20/(100+20) = 10.8 * 20 / 120 = 1.8 rubles.

Same result, shorter formula. To extract VAT you only need the final price and the VAT rate. We still have not calculated the tax we must pay. For that we need so-called INPUT VAT — VAT we pay when buying goods. Recall we bought a rose for 6 rubles with VAT. Extract VAT from the purchase price:

Input VAT = 6 * 20 / (100 + 20) = 6 * 20 / 120 = 1 ruble.

Input VAT is VAT we paid and have the right to reclaim, because we resell the goods further. To see how much tax we owe, subtract INPUT VAT from OUTPUT VAT. In our example:
VAT payable = output VAT - input VAT = 1.8 rubles - 1 ruble = 0.8 rubles or 80 kopecks. So having bought one rose for 6 rubles with VAT and sold it for 10.8 rubles with VAT, we owe 0.8 rubles in tax. General formula for VAT payable:

VAT payable = sale price with VAT * VAT rate / (100 + VAT rate) - purchase price with VAT * VAT rate / (100 + VAT rate)

After simplifying:

VAT payable = (sale price with VAT - purchase price with VAT) * VAT rate / (100 + VAT rate)

Plug our values into the final formula:

VAT payable = (10.8 - 6) * 20 / 120 = 0.8 rubles (80 kopecks).

The numbers match, so it checks out. If we sold 10 roses, we would multiply 10 by 0.8 and owe 8 rubles of VAT for selling 10 roses.

Conclusion

So we covered how to add VAT, how to extract VAT, what input and output VAT mean, and how to get the VAT payable amount quickly. Still, it is not always easy to track every process in a business or untangle purchase and sale history without a financial monitoring system — we invite you to try the datalizeCRM demo. Our system automatically calculates input and output VAT and produces a report with the amount due. With our system you can focus on business processes instead of calculations.