Lesson 6

Introduction to Consumption Tax

Consumption tax
 is a tax upon the utilization of goods or services by consumer or
buyers. It is a tax on the purchase or consumption of the buyer and
not on the sale of the seller.
 Consumption occurs when one acquires good or services by purchase,
exchange or other means.

Rationale of Consumption Tax

1. It promotes savings formation
 The residual income that remains after consumption is SAVINGS.
Savings promotes capital formation and investment which are
considered crucial to economic development.
2. It helps in wealth redistribution to society
 Rich people buy more and spend more since they can afford expensive
life style. A tax consumption will make them pay more tax.
Therefore, consumption tax supports the redistribution of wealth
from the rich to the less privileged members of the society.
3. It supports the Benefit Received Theory
 Benefit received theory, those who receive benefits from the
government shall pay taxes. Everyone in the state is receiving
benefits from the government; hence, everybody should be tax.
 A tax consumption will effectively make everyone contributes to the
support of the government. Consumption tax provides a practical
application of the Benefit Received Theory.
 It should not be levied upon basic necessities such as food,
education, health and shelter or housing.

Income tax and consumption tax distinguished

Income Tax Consumption Tax
Tax upon receipt of Tax upon usage of income
Nature
income or capital
Scope A tax to the capable A tax to all
Ability to pay Benefit received
Supporting tax theory
theory Theory
NOTE: Income tax is a consistent with the ability to pay the theory
because it taxes only those who are capable to pay tax. Consumption tax
effectively taxes everyone.

Types of consumption
1. Domestic consumption – refers to consumption or purchase of Philippine
residents.
2. Foreign consumption – refers to consumption or purchases of non-
residents.
NOTE:
 Because taxation is inherently territorial, only domestic consumption
can be subjected to Philippine taxation. Foreign consumption cannot
be taxed.
 In observing this territorial limitation, the Philippines follows the
“destination principle”. Under the destination principle, goods and
services destined for use or consumption in the Philippines are
subject to consumption tax whereas those destined for use or
consumption abroad are not imposed with consumption tax.
 Goods that cross the border which are destined toward foreign
territories should not be charged with consumption taxes. This is the
cross-border doctrine of consumption tax.
Summary of tax rule on consumption
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Domestic consumption Foreign consumption
The seller is
(Buyer is resident) (Buyer is non-resident)
Non-resident Taxable No tax
Resident Taxable Effectively no tax

Types of taxable domestic consumption

1. Purchase of residents of goods or services from non-residents abroad.
This is most commonly known as “importation”.
2. Purchase of residents of goods, properties or services from resident
sellers. This transaction is a “sale” on the seller’s perspective.
NOTE: In short, domestic consumption encompasses import and sale.

Consumption Tax on Importation

 Every importer of goods, shall pay consumption tax on his importation.
This consumption is called “Value Added Tax (VAT)” on importation. The
VAT on importation is 12% of the total import cost of the goods prior
to the withdrawal of the goods from the warehouse of the Bureau of
Customs.
 Every purchase of service from non-residents (i.e. import of service)
shall likewise pay VAT on importation of the service. This VAT on
importation is called “Withholding Tax”. The withholding tax is
computed as 12% of the contract price of the service.

Consumption tax on Domestic Consumption from Resident Sellers

 The consumption on the purchase of Philippine residents from resident
sellers is collected from the seller. Our tax law imposed the
consumption tax upon the sales of seller goods or receipts of sellers
of services.
 The sellers are the ones named by law to pay the tax. The sellers are
the statutory taxpayers. However, the buyer are the ones who actually
shoulder the tax burden. The buyer are the real taxpayers or economic
taxpayers.
 This indirect imposition of tax is necessitated by administrative
feasibility.

Consumption tax on resident buyers applies to business only

 It must be emphasized, however, that the consumption tax levied on the
sales or receipts of a resident seller is application only when the
seller is regularly engaged in business. The tax does not apply where
the seller is not in business. That is why the consumption tax is
called “business tax”.

The term “Business Tax” is a misnomer

 It must be emphasized again that businesses are merely acting as
agents of the government for the collection of consumption taxes from
the buyers. Businesses are not the real taxpayers.
 In law, Sellers are made directly liable for the payment of the
consumption tax. Businesses would suffer penalties for non-compliance.
Business tax is made to appear as tax on the privilege to do business.
 As a result, business tax is often viewed as a “privilege taxes”. This
however, do not change the very essence of business tax as a
consumption tax. The rule is merely intended to enforce compliance.

Table of Comparison
VAT on Importation Business Tax
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Basis of tax Acquisition cost Sales or receipts
Consumption from
Scope of tax All consumption
businesses only
Nature of consumption tax Pure form Relative form
Statutory Taxpayers Buyer Seller
The economic taxpayer Buyer Buyer
Nature of imposition Direct Indirect

Table summary: Consumption tax rules on domestic consumption

Domestic Seller Resident Buyer Applicable Consumption Tax
Business Business Business tax
Business Non-business Business tax
Non-business Business None
Non-business Non-business None

Foreign Seller Resident Buyer Applicable Consumption Tax

Business Business VAT on Importation
Business Non-business VAT on Importation
Non-business Business VAT on Importation
Non-business Non-business VAT on Importation
NOTE: The VAT on importation consistently applies regardless of whether or
not the seller or the buyer is engaged in business.

Basis of Business Taxes

1. Sales – for businesses which sells goods or properties
2. Receipts – for business that sells services
NOTE:
 “Sales” pertain to the total amount agreed as consideration for the
sale of goods whether collected or uncollected.
 “Receipts” pertain to collections from the sale of service.

Types of Business Taxes

1. Value Added Tax (VAT) on sales
2. Percentage Tax
3. Excise Tax

Types of Business Taxpayers

1. VAT Taxpayers – those required to pay VAT
2. Non-VAT Taxpayers – those who pay the percentage tax
NOTE: Excise tax is an addition to either VAT or percentage tax, if the
taxpayer produces certain excisable goods such as alcohol or cigarettes.

The Value-Added Tax (VAT) on Sales

 The VAT on sales is a consumption tax imposed upon the sale of goods,
properties or services or lease of properties.

Characteristic of the VAT on sales

1. Tax on value added
 VAT is a tax on the value added by the seller (mark-up) on its
purchased in making sales.
2. Top up on sales
 The VAT on sales is required by the law to be included in the
price of the goods as a top-up thereto. The amount which will be
billed to the customers shall include both the selling price and
the VAT. This amount is called the “invoice price”. If the VAT is
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not separately indicated in the sales document, the amount
appearing therein is presumed inclusive of VAT.
3. Tax credit method
 The VAT on sales shall be reduced by the amount of VAT paid by
the business on its purchases. The resulting excess VAT on sales
is the amount due to be remitted to the government. An excess VAT
payment on purchase is carried over as deduction against the VAT
on sales in future periods.
4. An explicit consumption tax
 The amount of VAT is explicitly disclosed in the invoice or
official receipt of the seller.
5. Quarterly tax
 The VAT return is filed quarterly but is paid on a monthly basis.
(Sec. 114 (A), NIRC as amended)

Methods of computing VAT

1. Direct method – the VAT is computed by applying the VAT rate to the
difference of the selling price and purchase.
2. Tax Credit Method – the VAT rate is imposed upon the sales or receipts
(output) of the business. This is called the “Output VAT”. The output
VAT is the reduced by the VAT paid by the business on its purchases
(input). This is called the “Input VAT”. The excess of the Output VAT
over the Input VAT is the VAT due or payable.
NOTE: The tax credit method is the computation method used in the
Philippines.

VAT Taxpayers
1. VAT – registered taxpayers
2. VAT – registrable taxpayers
NOTE:
 Businesses which exceed P3,000,000 in sales or receipts in any 12-
month period are mandatorily required to register as VAT taxpayers.
Small businesses with smaller annual sales or receipts may opt to
voluntarily registered as VAT taxpayers. A VAT registered taxpayer is
required to pay VAT even if their annual sales fall below the
P3,000,000 VAT threshold.
 A registrable taxpayer is one who exceed the P3,000,000 threshold in
any 12-month period but did not register as VAT taxpayer. Even if not
registered, they are still subject to VAT.

Percentage Tax
 It is a sales tax of various rates, generally 3%, imposed upon the
gross sales or gross receipts of non-VAT taxpayers.

Characteristics of the percentage tax:

1. Tax on sales or gross receipts
 The total amount due from the buyer (invoice price) is considered
sales or gross receipts. The percentage tax is computed from this
amount.
2. An expensed tax
 In income taxation, the percentage tax is presented as an expense
deductible against the sales or gross receipts. This treatment
gives percentage tax the impression of being a direct tax or
privilege tax of the seller.
3. An implicit consumption tax

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 The percentage tax is inherently factored by sellers in the pricing
of their goods or services. The percentage tax passes to the buyer
by inclusion to the selling price but the same is not separately
presented in the invoice; hence, not specifically disclosed to the
buyer.
 The percentage tax is actually a consumption tax in the form of a
privilege tax. It is an indirect tax include form of a direct tax.
4. Monthly or quarterly tax
 The percentage tax is payable monthly for most percentage taxpayers
and quarterly for certain percentage taxpayers.
NOTE: The percentage taxes expense is presented as part of “taxes and
license” and is presented as a deduction against gross income under income
taxation.

Who pays percentage tax?

1. Non – VAT taxpayer – are those with sales or receipts not exceeding
the P3,000,000 VAT registration threshold and who did not opt to
register as VAT-taxpayers.
2. Taxpayers who sell services specifically subject to percentage tax.

Percentage Tax, VAT and Excise Tax apply only to domestic consumption
 The export sale of non-VAT registered taxpayers is exempt from
percentage tax. The export sale of a VAT-registered taxpayers is
imposed by the law with a 0% VAT. In both cases there is
effectively no consumption tax.
 When excisable articles are exported without returning to the
Philippines whether exported in their original state or as
ingredients or parts of any manufactured goods or products, any
excise tax paid thereon shall be credited or refunded upon
submission of the proof of actual exportation. (Sec. 130 (D), NIRC)

Imposable Tax per Types of Consumption

Buyer/Consumer
Sellers of goods
Resident Non-resident
Domestic business
0% VAT on gross selling
VAT-registered business 12% VAT on gross sales
price
Non-VAT registered 3% Percentage tax on
Exempt
business gross sales
12% VAT on landed cost
Foreigners Exempt
of importation

Buyer/Consumer
Sellers of services
Resident Non-resident
Domestic business
0% VAT on gross
VAT-registered business 12% VAT on gross sales
receipts
Non-VAT registered 3% Percentage tax on
Exempt
business gross sales
12% final Withholding
Foreigners Exempt
VAT

Comparison of the Business Taxes

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VAT 0% Tax Excise Tax
Various ad valorem
Tax rate 12% Generally, 3% tax rates and
specific taxes
Sales value or per
Mark-up or
Basis Sales or receipts unit of excisable
value added
goods or articles
Timing of Upon sales or Upon sales or Upon production or
imposition collection collection importation
Generally paid Bigger Both big or small
Smaller Businesses
by Businesses businesses
Subject to 0% Exempt (Tax is
Export Sales Exempt
VAT reimbursable)
Note:
 The various excise tax rates are enumerated in Section 141 to Section
151 of the National Internal Revenue Code (NIRC)
 Excisable articles produced for foreign markets are also exempt from
excise tax.