Value-added tax (VAT), goods and services tax (GST) and sales tax all add a percentage to the price of what you buy. They look similar at the till, but they work differently behind the scenes, and the arithmetic of adding and removing them trips up many people. This guide explains the differences and gives you the formulas.

The Three Taxes Compared

  • Sales tax is charged once, at the final sale to the consumer. In the United States, it is set by states and local authorities, and rates and exemptions vary widely. Sellers collect it only at the point of retail sale.
  • VAT is charged at every stage of the supply chain, but each business reclaims the VAT it paid on its purchases. The final cost falls on the consumer. Most of Europe and many other countries use VAT.
  • GST is the name given to VAT-style systems in countries such as Australia, Canada, India and New Zealand. It works like VAT, although some countries operate several layers.

The result for a shopper is the same: tax is included in or added to the price. The difference lies in how businesses collect it.

Adding Tax to a Price

Price with tax = net price × (1 + tax rate). For a 60 item with 8.25% sales tax, the tax is 60 × 0.0825 = 4.95 and the total is 64.95. For a 100 item with 20% VAT, the tax is 20 and the total is 120.

Removing Tax From a Price

Many shops display tax-inclusive prices. To find the net price, divide by (1 + rate), do not subtract the rate. If an item costs 84 including 20% VAT, the net price is 84 ÷ 1.20 = 70 and the VAT is 14. Subtracting 20% of 84 (16.80) would give the wrong answer of 67.20, because the 20% applies to the net price, not the gross price. Our article on calculating percentages explains this reverse percentage in more detail.

How VAT Works Across a Supply Chain

Imagine a 20% VAT system with two businesses:

  • A manufacturer sells goods to a retailer for 100, plus 20 VAT. The manufacturer owes the tax authority 20, because it paid no VAT on its own inputs in this simplified case.
  • The retailer sells the goods to a consumer for 150, plus 30 VAT. The retailer collected 30 and paid 20 to the manufacturer, so it owes the tax authority the difference of 10.

In total, the tax authority receives 20 + 10 = 30, which is 20% of the final price of 150. Each business only pays tax on the value it added, and that is where the name comes from.

Zero-Rated, Exempt and Reduced Rates

  • Zero-rated goods, such as basic food or children's clothing in some countries, are taxed at 0%, and the seller can still reclaim input tax.
  • Exempt goods or services, such as some financial or educational services, charge no tax, but the seller usually cannot reclaim input tax.
  • Reduced rates apply to categories such as books, energy or public transport in some countries.

The categories differ widely, so check your local tax authority before you decide how to treat a product.

Practical Tips for Businesses

  • Show prices clearly as tax-inclusive or tax-exclusive, as consumer protection rules in many countries require tax-inclusive display for consumers.
  • Keep valid tax invoices, because reclaiming input tax usually depends on them.
  • Register when your turnover passes the legal threshold, which differs by country, and keep records for the required period.
  • Check rules for selling online across borders, because rates may depend on where the customer lives.

Practical Tips for Consumers

  • Compare prices on the same basis. A price without tax may look cheaper than a competitor's tax-inclusive price.
  • Check whether tax is added at checkout. In the United States, the sticker price normally excludes sales tax, while in most other countries the price you see is the price you pay.
  • Tourist refund schemes exist in some countries, and require paperwork and minimum spend.

Your Next Step

Decide whether your price is gross or net, then multiply by (1 + rate) to add tax or divide by (1 + rate) to remove it. Use our GST / VAT / Tax calculator to check any amount, and see your local tax authority for the exact rates. This is general information, not tax advice.