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Input VAT limitation

Input VAT limitation


When signed into law, the amendment to the VAT Law would take effect on July 01, 2005. Other than the expansion of the coverage of the VAT system, there are other significant provisions that had not been talked about often in the mass media that the business people and VAT taxpayers should be conscious and be aware of.

Our current VAT system works on a tax credit method under which the VAT is levied on full sales price (output tax), but credit is given on VAT paid on purchases (input tax). Under present rules total input taxes, whether coming from the current quarter and/or carried forward from the previous quarters, can be fully applied against output taxes. The new VAT law changes this rule by providing a limitation on the extent of creditable input taxes to the effect that “the input tax inclusive of input VAT carried over from the previous quarter shall not exceed seventy percent (70%) of the output VAT”. Thus, every VAT taxpayer would end up paying at least 70% of the output tax for every quarter even if it has substantial amount of accumulated input taxes.

The application can be illustrated in the following example. Assuming that a VAT taxpayer incurs output taxes of a uniform amount of P100,000 for each quarter and input taxes of P150,000 for the first quarter and P75,000 each for the second and third quarters, the taxpayer would not be liable for any VAT for all the three quarters under the present tax credit system. This is so because the accumulated input taxes are fully creditable against the output taxes. However, under the amendment, the creditable input tax is limited to 70% of the output tax. Thus, in the example, the taxpayer would be liable to net output taxes of P30,000 for each of the three quarters and an excess input tax of P90,000 at the end of the third quarter. Under the current rules, all the input taxes would have been utilized at the end of the third quarter.

Even for taxpayers whose average input tax is less than 70% of output tax, this limitation could pose a problem if there are variances in the quarterly purchases of inputs and the level of sales. But the consequences of the limitation would really be serious in case of taxpayers or industries whose mark-up is less than 30%. This would mean that quarter after quarter, they would be accumulating input tax credits which they may never be able to utilize because of the 70% limit. Their funds would be unnecessarily and unfairly tied up to input tax credits which they can only apply for refund if they will eventually close their business or shift from being VAT to non-VAT taxpayers.

This whole view, however, may not even be sanctioned by the very wordings of the law. The message is clear that the input tax to be claimed in a quarter shall not exceed 70% of the output tax in the same quarter. But as worded, the 70% limitation applies to the input tax generated from the current quarter and the input VAT carried over from the previous quarter where the word “quarter” is couched in its singular form. This brings us to the question on whether input taxes carried over from the quarters prior to the immediately preceding quarter may be applied against output taxes in full. Imposing a limitation on input taxes generated from the periods prior to the immediately preceding quarter is unwarranted and unfair.

In addition to clarifying this potential issue, it is hoped that the implementing regulations could also include a rule on the succession of the application of input taxes, possibly on the first-in first-out basis. Lastly, considering the different treatments of the accumulated input taxes, the rules should provide a mechanism for the easy identification of the sources of the accumulated input taxes. May be, the VAT return itself should provide a portion for tracking the inventory of accumulated input taxes.

(The author is a senior tax manager at Punongbayan & Araullo, member firm of Grant Thornton International. For comments and inquiries, please e-mail or call 886-5511.)