How GST Works: Explanations with Examples

Goods and Services Tax (GST) is a major indirect tax in India. It unified earlier levies such as excise duty and service tax into a single framework. GST is a destination-based tax applied to every value addition across the supply chain. This structure has simplified taxation, enhanced transparency, and eliminated the need for multiple taxes. 

It can be challenging to grasp what GST is, but its working becomes clearer when explained with real-life examples. 

Types of GST 

GST is split into four parts: 

1. CGST (Central Goods and Services Tax): Imposed by the Central Government on sales within a state.  
2. SGST (State Goods and Services Tax) – Imposed by the State Government on sales between sellers and buyers within the same state. 
3. IGST (Integrated Goods and Services Tax) - Charged on sales between different states. IGST is collected by the Central Government and distributed to states. 
4. UTGST (Union Territory Goods and Services Tax) – Imposed on sales within Union Territories without a legislature. 

Example: If a seller in Kolkata supplies goods to a buyer in Gujarat, IGST is applicable. If both seller and buyer are in Kolkata, then CGST and SGST apply. 

Framework of GST 

GST is levied at each stage of production or distribution, but businesses can claim credit for the tax already paid on purchases. This ensures that the tax burden applies only to the value added. Importantly, the state where final consumption occurs receives the revenue. 

As a result, GST improves compliance, reduces evasion, and allows input credits to flow seamlessly through the supply chain.  

GST tax rates 

GST applies at different slabs depending on the type of goods or services: 0%, 5%,  18%, and a special 40% rate for luxury and sin goods. Essential items attract lower rates, while luxury and sin goods are taxed at higher slabs. 

The workings of GST can be explained through different examples.  

Scenario:  

• A supplier sells timber worth ₹2,000 to a manufacturer. GST at 5% is ₹100, so the invoice totals ₹2,100. 
• The manufacturer converts the timber into a table. Production cost plus margin brings the selling price to ₹2,500. GST at 18% is ₹450, making the invoice ₹2,950. The manufacturer claims ITC of ₹100, so the net GST payable is ₹350. 
• The wholesaler sells the table to a retailer for ₹3,000. GST at 18% is ₹540, making the invoice ₹3,450. The wholesaler claims ITC of ₹450, so the net GST payable is ₹90. 
• The retailer sells the table to the final consumer for ₹4,000. GST at 18% is ₹720, making the invoice ₹4,720. The retailer claims ITC of ₹540, so the net GST payable is ₹180. 

Impact of Input Tax Credit (ITC) 

• Removes cascading effect: Avoids ‘tax on tax’ and reduces the overall burden. 
• Supports cash flow: Tax is paid only on value added, improving liquidity. 
• Encourages compliance: To avail ITC, every link in the chain must be GST-registered. 

GST and the End Consumer 

Although GST is applied at each stage, the ultimate burden lies with the end consumer. In the example, the final consumer pays ₹720 in GST, which is passed on to the government through various stakeholders. 

Advantages of GST 

1. Simplification: Replaced multiple indirect taxes with one unified system. 
2. Improved compliance: Online returns and payments streamline the process. 
3. Cost reduction: Elimination of cascading taxes lowers overall prices. 
4. Competitive market: Easier cross-state trade fosters business growth. 
5. Higher revenue: A broader base and compliance have increased government collections. 

Conclusion 

GST has transformed India’s taxation landscape by simplifying administration, reducing compliance costs, and eliminating cascading effects. While challenges remain, its advantages are significant for both businesses and consumers. By understanding GST through practical examples, individuals and organisations can navigate the system more effectively and take full advantage of its benefits. 

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