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What is Sales Tax?

What is Sales Tax?. Money raised by governments to pay for amenities (roads, fire halls, garbage pickup, military protection, etc) Also referred to as Consumption Tax In Canada, sales taxes are charged by the federal government, and most provincial governments

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What is Sales Tax?

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  1. What is Sales Tax? • Money raised by governments to pay for amenities (roads, fire halls, garbage pickup, military protection, etc) • Also referred to as Consumption Tax • In Canada, sales taxes are charged by the federal government, and most provincial governments • July 1, 2010 – 13% HST (Ontario Harmonized Sales Tax) (Canada GST/HST Info Sheet) • In US, most states & some cities (eg Chicago) charge sales tax

  2. Different names – same principle • When taxes are collected by a business on behalf of the government they are called different names relating to different taxes • GST (Goods & Service Tax • PST (Provincial Sales Tax ) • VAT (Value Added Tax): • HST (Harmonized Sales Tax): • Sales and Use Tax • They all work on the same principle - we will use GST of 5% as the example to demonstrate the concept

  3. The sales price is not the total price Some governments include the tax within the sales price while others bill them separately E.g. Buy clothing for $100. The sales bill or advertisement will read $100 for the clothes plus 5% GST for total of $105 If GST is included then the advertisement will read $105 including both the cost of the clothes and the GST combined

  4. The sales price is not the total price In either event, the store will keep the $100 representing the sale of the clothes but the $5 GST collected does not belong to the store.It needs to be paid to the government and is recorded as a liability on the stores records.

  5. $100 (Cr) $100 (Dr) 1. Record the sale $5 (Dr) 2. Record the GST. This is a liability because it needs to be paid to the government $5 (Cr) Sell clothing for cash $100 + 5% GST There are 2 transactions Summary: The store collected $105 in cash - $100 belongs to the store and $5 belongs to the government

  6. Pay the GST to the government When it’s time to pay the government, cash will decrease (Cr) and the tax liability will decrease (Dr) - $5 (Cr) - $5 (Dr)

  7. Taxes are sometimes referred to as Value Added Tax because each business in the customer service chain keeps adding to the value of the tax Retailer sells to customer – charges GST to customer Wholesaler sells goods to a retailer – charges GST to retailer Manufacturer sells finished goods to wholesaler – charges GST to wholesaler Manufacturer buys raw material from a supplier – supplier charges GST

  8. Simplified Example Individuals (Consumer) may be entitled to a GST/HST credit of up to $250.00 (for 2009 tax year)

  9. The GST system allows those further down the line (manufacturer, wholesaler, retailer) to recover the GST paid • The administration of GST requires both a GST Paid, and a GST Collected account

  10. Bookkeeping example of GST tax transactions Assume the current GST rate is 5% Gifts & More buys a product for resale for cash from a wholesaler for $100 What is the journal entry? Inventory $100 GST Paid $ 5 Cash $105

  11. Gifts & More sells their inventory costing $100 to a customer for $200 cash. What is the entry required? There are 2 transactions 1. Record the sale $200 $210 $210 Cash $200 Revenue $10 GST Collected $ 10

  12. What is the second part of the entry required? 2. Record the Cost of Goods Sold $100 $100 $100 Cost of Goods Sold $100 Inventory

  13. Summary +$200 (Cr) +$210 (Dr) +$100 (Dr) -$100 (Cr) +$10 (Cr) Summary: The store collected $210 in cash - $200 belongs to the store and $10 belongs to the government Notice how you recognized the COGS in the amount of $100 which is matched to the sale value of $200

  14. GST is charged on sales at all levels Later on, (usually the following month for large companies and quarterly for “small businesses”) Gifts & More must send the tax collected to the government

  15. It is now time to pay the government for GST - Gifts & More pays the government the difference between GST collected $10 and GST paid $5 What is the entry? GST Collected $10 GST Paid $5 Cash $5 If it happens that more GST was paid than collected, the federal government would owe Gifts & More the difference

  16. Review : Why is sales tax a liability & not an expense? Sales tax is always recorded as a liability because it is collected on behalf of the government and is therefore owed to the government

  17. Lets Try another Exercise together!

  18. $150 $150 Tools Suppliers Inc. (TSI) buys products totaling $150, on account, for sale (profit) at a later time. Tools Suppliers Inc. What is the journal entry? Inventory $150 Accounts Payable $150 Purchased product for resale

  19. $7.50 $7.50 Record the sales tax of $7.50 (5% of $150) owing by TSI to their supplier (on Account): Tools Suppliers Inc. What is the journal entry? Sales Tax $7.50 Accounts Payable $7.50 Sales tax owing on purchase

  20. TSI sells the products to Sheet Manufacturers Ltd. (SML) for $200 (their cost was $150), plus tax of $10. This amount is owing by SML (accounts receivable). Tools Suppliers Inc. $200 The journal entry is…….. $210 Accounts Receivable $210 $10 Revenue $200 Sales Tax $ 10 Record sale of product Notice how the transaction combines the sales of the product and sales tax owing together as one compound entry unlike the previous slide where it was done separately.

  21. Here is a summary of the activities on the records of TSI: $10.00 $7.50 $ 2.50 • TSI paid $7.50 in sales tax when they purchased the • product • Therefore they collected $2.50 more in sales tax than they • paid which is now owing to the government • They billed $10 in sales tax when they sold the product

  22. The journal entry for the payment of sales tax in the amount of $2.50 to the government would be: Tools Suppliers Inc. ? ? $2.50 Sales Tax $2.50 Cash $2.50 $2.50 Paid sales tax to government

  23. $200 $10 And now the last company in the chain of supply- Sheet Manufacturers Ltd. (SML) SML buys the product from TSI Record the journal entry, which should include sales tax. Sheet Manufacturers Ltd. $210 Inventory $ 200 Sales Tax $10 Accounts Payable $ 210 Purchased product for resale

  24. And the Final step is the sale of the product by SML to the final customer SML sells the product for $300, plus 5% sales tax. What is the entry? Cash $315 Revenue $300 $15 Sales Tax Record sale of product, including tax SML pays the government the sales tax collected (they paid $10, collected $15, and must pay the difference to the government. What is the entry? Sales Tax $5 Cash $5 Paid sales tax to government

  25. And now …. • Back to Paralegal Bookkeeping …

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