VAT deductibility is an important opportunity for businesses to reduce tax costs and optimize financial flows. It is a complex mechanism regulated by fiscal legislation, and it is essential for companies to understand both the concept and the correct steps to follow to take advantage of this benefit.
In this article, we will explore in detail what VAT deduction means, the conditions that need to be met in order to deduct VAT, and the types of expenses that are eligible for deduction.
What is Deductible VAT?
Deductible VAT is a mechanism that allows a company to recover the value-added tax (VAT) paid on purchases made for the purpose of carrying out its economic activities. In the Romanian tax system, VAT is an indirect tax levied on transactions with goods and services. Its deduction is strictly regulated by tax legislation, and the right of deduction applies only under certain conditions.
When a company purchases goods or services from a supplier, it pays VAT on the respective value. If the goods or services purchased are used exclusively for the company’s economic activities, the VAT paid can be deducted from the VAT collected on subsequent sales. This deduction allows businesses to reduce the financial impact of the indirect tax and avoid additional costs by recovering the amounts paid through adjustments to their fiscal obligations to the state.
It is important to note that VAT deductions can only be made for purchases intended for direct economic activities. For example, purchases of goods or services used for personal purposes cannot be deducted. Additionally, in order to deduct VAT, businesses must comply with fiscal regulations and hold proper supporting documents, such as correctly completed invoices, that confirm the VAT paid. These measures are essential to avoid legal issues and ensure the correct deduction of VAT.
How to Calculate Deductible VAT?
Calculating deductible VAT is a crucial step for businesses to ensure that they can recover the tax paid on purchases made for their economic activities. The process involves determining the amount of VAT a company has paid on eligible goods and services and then deducting it from the VAT it collects from its customers. Below is an overview of how this calculation works, including the key steps involved.
To calculate deductible VAT, businesses need to keep accurate records of their purchases and sales, ensuring they track the VAT paid on each purchase and the VAT charged to customers on sales. The primary formula for calculating deductible VAT is as follows:
Deductible VAT = VAT paid on purchases – VAT collected on sales
This calculation is essential for businesses to maintain cash flow and avoid unnecessary tax burdens.
Step-by-step process for calculating deductible VAT
- Identify VAT-eligible purchases: The first step in calculating deductible VAT is to identify the purchases that are eligible for VAT deduction. For example, if a company buys goods and services to be used exclusively in its business activities (such as raw materials or office supplies), it can deduct the VAT paid on those purchases. Personal expenses or purchases not directly related to the business are not eligible for VAT deduction.
- Collect and review invoices: For each eligible purchase, the company needs to have an invoice that includes the VAT amount paid. The invoice must be issued by the supplier in accordance with fiscal regulations. Businesses should verify that the invoice contains all required details, such as the correct tax rate, the amount of VAT, and the names and VAT numbers of both parties.
- Calculate VAT paid on each purchase: To calculate the deductible VAT for each purchase, the company needs to identify the VAT amount paid on the invoice. If the invoice lists the total amount (including VAT), the business can calculate the VAT portion using the following formula:
VAT paid = Total purchase price × (VAT rate / (1 + VAT rate)
For example, if the total purchase price is 1,190 RON and the VAT rate is 19%, the VAT paid would be calculated as:
VAT paid = 1,190 RON × (19 / (1 + 19)) = 190 RON
- Calculate VAT collected on sales: The next step is to calculate the VAT collected from customers on the sales made by the business. This is done by applying the VAT rate to the total sales value. For example, if a company sells goods worth 2,000 RON and charges VAT at a rate of 19%, the VAT collected would be:
VAT collected = 2,000 RON × 19% = 380 RON
- Subtract deductible VAT from VAT collected: To determine the VAT payable to the tax authorities, businesses subtract the deductible VAT from the VAT collected on sales. The result is the VAT liability or refund. If the VAT collected exceeds the deductible VAT, the company will need to pay the difference to the tax authorities. If the deductible VAT exceeds the VAT collected, the company may be entitled to a refund.
- Maintain accurate records: Throughout the process, it is vital for businesses to maintain accurate records of both their purchases and sales, as well as the VAT amounts. These records should include all invoices and any other documents supporting the VAT calculations. Keeping proper records is essential in case of an audit by the tax authorities.
By following this step-by-step process, businesses can ensure they calculate and recover the correct amount of deductible VAT, which helps optimize their tax position and improve their financial management.
Which expenses are eligible for deductible VAT?
Here are some examples of expenses eligible for VAT deduction:
- Purchasing goods for production or resale: VAT can be deducted for goods that a company purchases with the intention of reselling or using them in the production process. For example, VAT on raw materials and auxiliary materials used in production can be deducted because these are consumed for economic purposes.
- Services provided for business activity: VAT is also deductible for services such as consultancy, advertising, or transportation, which are used for business purposes. These services are essential for carrying out economic activities, and the VAT on them can be recovered.
- Utility expenses: Bills for water, electricity, gas, and other utilities used in the course of business activity allow for VAT deduction. For instance, VAT on electricity bills for offices or warehouses can be deducted because the consumption is related to business operations.
- Maintenance and repair expenses: If a company purchases maintenance services for equipment used in its economic activity, the VAT on these services can be deducted. For example, if a company pays for the repair of machinery used in production, the VAT on these services can be recovered.
- Purchasing vehicles for business purposes: VAT on the purchase of cars or other vehicles used exclusively for business purposes is deductible. If the vehicle is also used for personal purposes, the deduction will be partial, based on its use for business activities.
However, there are also expenses that are not eligible for VAT deduction. For instance, VAT on purchases of goods or services used for personal purposes, such as food or clothing, cannot be deducted. These expenses are not related to the company’s economic activity, and the VAT on them cannot be recovered.
Therefore, VAT deduction can provide a significant advantage for any business. However, it is important to comply with tax regulations and avoid errors that could lead to penalties.
