Create and use tax codes

[Tut]

Tax codes are used by Manager to calculate and record taxes invoiced, collected, paid, and owed. They can be used for sales taxes, goods and services taxes, value added taxes, and other taxes imposed by a country or regional tax authority. They are applied (separately and distinctly, if necessary) to individual line items on:

• Receipts and payments
• Expense claims
• Sales and purchase quotes
• Sales and purchase orders
• Sales and purchase invoices
• Debit and credit notes
• Journal entries

Tax amounts calculated from tax codes are posted to the account selected when defining a specific tax code, regardless of whether they are debits or credits. This account must be added to your chart of accounts before a tax code is used.

Note
A tax code account offsets taxes collected or received under its tax code(s) against taxes paid under the same tax code(s), regardless of transaction type. Whether taxes are collected from customers, paid to suppliers, refunded by or remitted to tax authorities, they all post to the same account and offset one another. This has important ramifications for how tax codes are applied on forms. The determining principles are whether and how the particular transaction affects the amount you owe to a tax authority.

Example 1
Johanna charges and collects VAT from customers on architectural design services. For tax filing, VAT she collects from customers is offset by VAT she pays to her suppliers. So she must use the same VAT tax code on sales and purchase invoices. Johanna’s tax liability balance will be the difference between VAT collected and VAT paid. When she remits that amount to her tax authority, applying the same tax code on the payment, the balance will drop to zero.

Example 2
Roberto collects sales tax from customers at his coffee shop. But local law does not permit him to offset sales tax he pays to suppliers. (In some jurisdictions, Roberto would not be assessed sales tax by his suppliers on items he will resell.) Roberto should apply the sales tax code on receipts and sales invoices. But when he purchases taxable supplies, he should include sales tax paid to his suppliers in the price of the supplies and apply no tax code on purchase invoices or payments. His tax liability balance will reflect only sales tax collected until he remits that amount to his tax authority, dropping his tax liability balance to zero. Sales tax he pays to suppliers will be included as an expense in the cost of supplies, reducing net income. But it will not reduce the amount he must remit to his tax authority.

On some transaction forms, an option is available as to whether amounts are tax-inclusive or tax-exclusive:

When tax-inclusive, Manager calculates effective prices that, when combined with tax at the specified rate, equal the amount entered. In other words, the tax amount is effectively backed out of the total. When tax-exclusive, Manager applies the tax rate to the entered amount and adds the resulting tax to obtain a higher total.

Setting up tax liability accounts

Tax liability accounts can be set up before or after adding tax codes. But it is normally faster to set them up first so tax codes can be added in a single step.

Go to Settings and click Chart of Accounts:

=>

On the balance sheet side, click New Account:

Define the account:

• Give the account a Name. In this example, the name is Tax payable, but assigning a more descriptive name is good practice.
• Enter a Code, if desired, to match an overall scheme for the chart of accounts.
• Assign the account to a Group. Normally, tax accounts are placed in the Liabilities group, because more tax will be payable to the tax authority than is recoverable from the authority. (When a tax is not offsetting, this will always be true.) If, under unusual circumstances, you expect to always be paid a recoverable tax by the authority instead of remitting tax, classify the tax code under Assets. Choose the category of the Cash Flow Statement where you would like tax liability transactions reported. Normally, Operating activities is used.
• Choose a Division (if any are defined) if the liability account will belong to only one division. Otherwise, leave blank.
• Normally, leave Autofill - Line description unchecked. The exception would be when all or most transactions posted to the tax liability account are expected to be for the same thing, requiring the same narrative.
• Leave the Autofill - Tax Code box unchecked or with the default, No tax entry. After all, taxes are not taxed. (This field is available to use when other types of accounts are being defined.)

Click Create. If you will be separating different tax codes into different balance sheet accounts, repeat the process above as many times as necessary.

Note
Prior to Manager version 19.11.85, a built-in account named Tax payable was activated automatically when tax codes were used. All tax codes posted to this account by default. Much greater flexibility is achieved by defining your own tax liability account(s).

For businesses already established when version 19.11.85 was released, the built-in Tax payable account was converted automatically to a standard account, defined as in the example above. No action is required by the user for the conversion.

Caution
In more recent versions of Manager, the Tax payable account still exists as a placeholder to prevent software execution problems. But you cannot post transactions to it. So they will end up in the Suspense account. You must create your own tax liability account.

Adding a tax code

You can add as many tax codes as you need to use. At a basic level, Manager allows two types of tax codes:

• Business localization tax codes, which are predefined for specific countries or regions
• Custom tax codes, which you define yourself

Business localization tax codes

Localization settings and features, including predefined tax codes, are available in the program for some locations. These are always preferable if they meet your needs. Generally, predefined tax codes exist only when localization options include a report transformation that calls data for specific tax codes. Unless the tax code is predefined, the report transformation cannot find necessary data.

In many cases, more than one tax rate or type is available for a country. To activate localization tax codes for your location(s), follow instructions in this Guide.

When the tax codes are first imported, they may be assigned to the Suspense account by default. On the Tax Codes page of the Settings tab, click Edit for all tax codes and assign each one to the desired tax liability account.

Notes
If a localization tax code is for a 0% rate, that is, if it is required by local law only to show that no tax is being levied, no tax liability account assignment will be possible.

Once tax codes are activated, they remain available even if localization options for other countries are imported. This way, tax codes can be added from more than one country.

Example
Sample Manufacturing Company operates in Australia. It follows instructions for installing the GST Calculation Worksheet. That installation includes several tax codes. Clicking Edit for the GST 10% tax code, Sample sees the tax code is set up as a single rate, 10% tax that changes the title of every sales invoice on which it is applied to Tax Invoice. Sample selects the GST payable account it previously established following instructions above and clicks Update:

Custom tax codes

If your country or the specific tax type and rate you need are not available through the localization feature, you will need to create one or more custom tax codes. Manager provides a generic framework for creating simple or complex tax codes to handle almost any tax scenario. To set up a custom tax code, go to the Settings tab, then Tax Codes, and click New Tax Code:

Define the tax code (some fields or options appear or disappear progressively, as others are selected):

• Enter a Name for the custom tax code.
• Add a Label, often a shortened version of the full name. The Label will appear on transaction forms.
• Select one of three options in the Tax rate box. Choose Zero (0%) to create a tax code for tax exempt transactions where it may be necessary to show the tax-exempt status. No tax will be calculated, but forms will show the 0% rate is being applied. Choose Pass-through (100%) to create a tax code for line items that are all tax. A common application is when a tax authority sends a bill for tax due on imported goods; the tax is paid to the tax authority instead of the supplier who sold you the goods. Forms will show the tax amount as a regular line item. The tax amount will be included in the subtotal rather than showing below the subtotal as an amount to be added. The entire tax amount will post to the designated tax liability account. For most custom tax codes, select Custom %.

If a custom rate tax code includes only one component:

• Select Single rate in the Type dropdown box that appears.
• Enter the custom Rate:
• After the Rate is entered, another field appears, where you can select an Account from those tax liability accounts already created.

If a tax code includes multiple components:

• Select Multiple rates in the Type field. New fields for the first component will appear. Some fields for the overall tax code will disappear. Use the Add line button to add additional components.
• Name each individual tax component.
• Specify the Rate for each component. Each component’s rate is applied separately to the total for the line item. If your tax code contains components subject to compounding, enter the compounded rate into applicable Rate field(s).
• Select a tax liability Account for each component. All components can be posted to one account, or each can be posted to a separate account.

Click Create to save the tax code.

Example
Roger’s consulting services are subject to sales tax from several jurisdictions. But all are remitted to a central tax authority. So he creates a single Tax payable liability account and a custom tax code with multiple rates:

Roger applies the custom sales tax on a sales invoice for a day of services. Each tax component is separately listed:

Caution
Taxes from custom tax codes you create are not included in figures computed by localized tax calculation worksheets in the Reports tab. Only predefined tax codes associated with the country for which a worksheet was developed are taken into account. Therefore, if you create any custom tax codes and want to use one of the tax calculation worksheets, you must manually adjust values from the worksheet for all taxes collected or paid under self-created tax codes when filing information with your tax authority.

Applying tax codes to line items

Tax codes are applied to individual line items on transaction forms. Every line item can have a unique tax code according to its taxability under local law. If any tax code has been defined, the Tax Code field appears to the right of the Total field on the form:

Tax amounts are not shown for individual line items on the entry screen when transaction pricing is designated to be tax-inclusive.

On completed forms, tax codes may not be shown for individual line items if all are subject to the same code. (This depends on other selections made for the transaction.) But the tax amount is always shown in the totals section:

However, when more than one tax code are applied on a transaction, the individual codes are displayed in a separate column. Again, total tax amounts are shown for each tax code in the totals section of the form:

An additional feature is available for journal entries to support reporting of taxable events in jurisdictions where that is required. If a tax code is selected for any debit or credit, a field appears to designate how the transaction should be considered:

Flat rate tax schemes

Some jurisdictions use what are known as flat rate schemes, usually to simplify record-keeping and tax filing. Such schemes free a business from the need to record and offset taxes paid against those collected. Under such schemes, a standard tax rate is applied on sales, but a lower rate is remitted to the tax authority. This lower rate is calculated on the total amount for a line item, including standard tax. The difference is kept by the business as additional income. Often, flat tax rates vary by business type and size, based on assumptions of average tax paid to suppliers by businesses with certain characteristics. So they must be set up as custom tax codes in Manager.

To add a flat rate tax code, begin a similar procedure as for any other custom tax code. Name the tax code to fully describe it. Label it as you want customers to see it, normally with the standard tax rate’s name. Enter the standard tax Rate. Select the tax liability Account where assessed taxes will be posted.

Now comes the portion of the flat rate tax code definition that differs from standard tax codes. Add another line to the definition. Do not give it a Name, because you do not want anything about this line to show on transaction forms. For the Rate, enter the differential between what you collect and what you will pay to the tax authority as a negative numer. Select the same tax liability Account as before.

Example
A small business operates under a flat rate tax scheme. Its sales are subject to a 10% Goods and Services Tax, assessed on its customers. Instead of offsetting input and output tax, however, the business remits 3% less to the tax authority than it collects from its customers. So it defines a tax code as below:

Customers will see the standard tax rate on sales invoices, and Accounts receivable will show the full amount as being due. But your tax liability account will show a lesser amount. The difference will be added to the income account where the particular line item on the sales invoice is posted. In effect, by remitting less tax than you collect, your net profit will increase, the same way it would if you were able to claim input tax on your purchases.

Caution
When operating under a flat rate tax scheme, no tax code should be applied on purchases, because tax paid cannot be used to offset tax owed. Instead, unit prices of purchased items should include tax paid. In the case of purchased inventory items, tax paid will be included in average cost, just as if it were a shipping charge or other cost of purchasing the item.

Custom titles

Some jurisdictions require different titles on transaction forms including tax, such as Tax Invoice instead of Invoice. You can enter custom titles for sales invoices and credit notes by checking appropriate boxes when defining a tax code. The default titles show in grey:

Editing tax codes

Once a tax code has been added, it can be edited. In the Settings tab, go to Tax Codes:

=>

Click Edit beside the tax code you want to change. Modify the tax code definition and click Update.

Caution
Editing a tax code will retroactively change every prior transaction that used that code, as well as future transactions. Consider carefully before editing a code.

Inactivating tax codes

When a tax code is no longer valid, such as when a rate increases, you cannot delete it if it has ever been used. Nor should you change it because, as described above, that will change every transaction that has ever used it. Instead, make it inactive by checking the box:

Be sure to click Update. If the tax code comes back into use, simply uncheck the box and click Update.