Chapter 5: Sales tax
Chapter learning objectives
Upon completion of this chapter you will be able to:
- explain the general principles of the operation of a sales tax
- calculate sales tax on transactions correctly
- enter sales tax on sales and purchases into the ledger accounts.
1 Principles of sales tax
- A business that is registered for sales tax is essentially a collection agent for the government.
- Sales tax is charged on purchases (input tax) and sales (output tax).
- Sales tax is excluded from the reported sales and purchases of the business.
- Periodically the business pays the sales tax to the tax authorities.
- If output tax exceeds input tax, the business pays the excess to the tax authorities.
- If input tax exceeds output tax, the business is repaid the excess by the tax authorities.
- Sales tax is sometimes called value added tax (VAT) or goods and services tax.
- Sales tax is charged on most goods and services.
2 Calculation of sales tax
- It is common for a rate of 17.5% sales tax to be charged on the selling price.
- The following is therefore true:
Proforma
![](/images/default-source/default-album/ACCAF3_CH5_img001.gif)
- The net selling price is the amount that the business wishes to achieve.
- The gross selling price is the price charged to customers.
- The difference is paid to the tax authorities.
Note: You should be prepared to apply any % to the proforma above.
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Illustration 1 – Calculation of sales tax
Calculation of sales tax
Orlando sells the following goods:
(1) to Bruno at a tax inclusive price of $470.
(2) to Cosmo at a tax exclusive price of $700.
How much sales tax is Orlando collecting on behalf of the government if the rate of sales tax is 17.5%?
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Solution
Solution
Sales tax can be calculated using the relevant percentage depending on whether the price is tax inclusive or exclusive.
Sales to Bruno (sales price tax inclusive) (17.5%/117.5%) x $470 = $70
Sales to Cosmo (sales price tax exclusive) (17.5%/100%) x $700 = $122.50
Total sales tax collected: $70 + $122.50 = $192.50
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Test your understanding 1
Lorenzo purchases goods for $170,625 (including sales tax) and sells goods for $230,500 (including sales tax).
What amount of sales tax is ultimately payable to the tax authorities?
A $8,918
B $14,926
C $4,471
D $10,479
The sales tax rate is 17.5%.
![](/images/default-source/default-album/bottom.png)
3 Accounting entries for sales tax
The usual bookkeeping entries for purchases and sales are onlyslightly amended by sales tax, the main addition being the introductionof a sales tax account, which is a receivable or payable account withthe tax authorities.
Sales tax paid on purchases (input tax)
Dr Purchases – excluding sales tax (net cost)
Dr Sales tax (sales tax)
Cr Payables/cash – including sales tax (gross cost)
- The purchases account does not include sales tax because it is not an expense – it will be recovered.
- The payables account does include sales tax, as the supplier must be paid the full amount due.
Sales tax charged on sales (output tax)
Dr Receivables/cash – sales price including sales tax (gross selling price)
Cr Sales – sales price excluding sales tax (net selling price)
Cr Sales tax (sales tax)
- The sales account does not include sales tax because it is not income – it will have to be paid to the tax authorities.
- The receivables account does include sales tax, as the customer must pay the full amount due.
Payment of sales (output) tax
Dr Sales tax (amount paid)
Cr Cash (amount paid)
- If output tax exceeds input tax, a payment must be made to the tax authorities.
Receipt of sales (output) tax
Dr Cash (amount received)
Cr Sales tax (amount received)
- If input tax exceeds output tax, there will be a receipt from the tax authorities.
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Test your understanding 2
![](/images/default-source/default-album/ACCAF3_CH5_img003.gif)
Record these transactions in the ledger accounts.
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Test your understanding 3
Valerie’s business is registered for sales tax purposes. Duringthe quarter ending 31 March 20X6, she made the following sales, all ofwhich were subject to sales tax at 17.5%:
$10,000 excluding sales tax
$7,402 including sales tax
$6,745 excluding sales tax
$11,632 including sales tax.
She also made the following purchases all of which were subject to sales tax at 17.5%:
$15,000 excluding sales tax
$12,455 including sales tax
$11,338 including sales tax
$9,870 including sales tax.
What is the balance on the sales tax account on 31 March 20X6?
A $7,639 Dr
B $1,875 Dr
C $7,639 Cr
D $1,875 Cr
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Chapter summary
Test your understanding answers
![](/images/default-source/default-album/top.png)
Test your understanding 1
The correct answer is A
![](/images/default-source/default-album/ACCAF3_CH5_img002.gif)
![](/images/default-source/default-album/bottom.png)
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Test your understanding 2
![](/images/default-source/default-album/ACCAF3_CH5_img004.gif)
Note that sales are recorded excluding sales tax, as this is not income for the business.
![](/images/default-source/default-album/ACCAF3_CH5_img005.gif)
Note that purchases are recorded net of sales tax, as this is not a cost to the business.
![](/images/default-source/default-album/ACCAF3_CH5_img006.gif)
Receivables are recorded including sales tax (the gross amount) asthe customer must pay to the business the cost of the goods plus thesales tax.
![](/images/default-source/default-album/ACCAF3_CH5_img007.gif)
As with receivables, the payables must be recorded inclusive ofsales tax, as the business needs to pay its suppliers the gross amount.
![](/images/default-source/default-album/ACCAF3_CH5_img008.gif)
Note: As the balance on the sales tax account represents a normaltrade liability it is included in accounts payable on the statement offinancial position.
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Test your understanding 3
The correct answer is B
![](/images/default-source/default-album/ACCAF3_CH5_img009.gif)
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Created at 5/24/2012 3:31 PM by System Account
(GMT) Greenwich Mean Time : Dublin, Edinburgh, Lisbon, London
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Last modified at 5/25/2012 12:53 PM by System Account
(GMT) Greenwich Mean Time : Dublin, Edinburgh, Lisbon, London
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