Once your trading business crosses ₱3,000,000 and registers for VAT, two new accounts appear in your ledger and quietly change every purchase and every sale you record. Get them wrong and two things break at once: your inventory is overstated, and the figure you copy onto Form 2550Q doesn't tie to your books.
This is the mechanics — which account is debited, which is credited, and why the VAT you remit ends up being a fraction of your sales rather than 12% of them.
- Asset Input VAT — not an expense, not inventory cost
- Liability Output VAT — money you hold for the BIR
- 12/112 The VAT inside a VAT-inclusive price
- 25 days After quarter-end to file Form 2550Q
The short answer
VAT never touches your income statement. On a purchase you debit Input VAT, an asset. On a sale you credit Output VAT, a liability. At quarter-end you offset the two, and the excess of the liability over the asset is the cash you send the BIR. Sales and Merchandise Inventory are always recorded net of VAT.
The two accounts that do all the work
Everything below rests on one idea: a VAT-registered business is a collection agent, not a taxpayer, on the VAT itself. The 12% you add to an invoice was never your revenue, and the 12% you paid a supplier was never your cost. Both are temporary balances waiting to be netted off.
| Account | Type | Normal balance | Arises when |
|---|---|---|---|
| Input VAT | Current asset | Debit | You buy goods or services from a VAT-registered supplier |
| Output VAT | Current liability | Credit | You make a VAT-able sale |
| VAT Payable | Current liability | Credit | At quarter-end, when Output exceeds Input |
The consequence that catches most bookkeepers: Input VAT is not part of inventory cost. A box of stock invoiced at ₱11,200 goes into Merchandise Inventory at ₱10,000, not ₱11,200. The ₱1,200 is a receivable from the government, recoverable against your own output tax, so capitalizing it into inventory would overstate both your assets and, later, your cost of goods sold.
Recording a purchase of merchandise
Dela Cruz Trading buys stock on account. The supplier's VAT invoice reads ₱1,344,000 total. Split it first: ₱1,344,000 ÷ 1.12 = ₱1,200,000 base, leaving ₱144,000 of VAT.
| Account | Debit | Credit |
|---|---|---|
| Merchandise Inventory | 1,200,000.00 | |
| Input VAT | 144,000.00 | |
| Accounts Payable | 1,344,000.00 |
That's the perpetual system. Under a periodic system the first line is Purchases instead of Merchandise Inventory; the VAT treatment is identical either way.
No VAT invoice, no input tax
You can only debit Input VAT when the supplier is VAT-registered and issues a VAT invoice showing your name, your TIN, your address, and the tax as a separate line. Buy from a non-VAT supplier and there is no input tax to claim — the whole ₱1,344,000 would be inventory cost. This is the real reason VAT-registered buyers prefer VAT-registered suppliers.
Recording a sale
The same quarter, Dela Cruz Trading sells on account for ₱2,240,000 VAT-inclusive — ₱2,000,000 of sales plus ₱240,000 of VAT. A merchandising sale under the perpetual system always needs two entries: one for the money, one for the goods.
Entry 1 — the sale and the tax:
| Account | Debit | Credit |
|---|---|---|
| Accounts Receivable | 2,240,000.00 | |
| Sales | 2,000,000.00 | |
| Output VAT | 240,000.00 |
Entry 2 — moving the goods to expense (assume the goods sold cost ₱1,000,000):
| Account | Debit | Credit |
|---|---|---|
| Cost of Goods Sold | 1,000,000.00 | |
| Merchandise Inventory | 1,000,000.00 |
Note that no VAT appears in the second entry. Cost of goods sold is a cost figure, already net of recoverable tax. Putting VAT there would double-count it.
Operating costs work the same way as purchases. Rent billed at ₱112,000 inclusive:
| Account | Debit | Credit |
|---|---|---|
| Rent Expense | 100,000.00 | |
| Input VAT | 12,000.00 | |
| Cash | 112,000.00 |
Returns, allowances, and discounts
A return reverses the VAT along with everything else. The entries below are standalone illustrations, not part of the running example.
Sales return. A customer sends back goods originally invoiced at ₱56,000 inclusive (₱50,000 + ₱6,000 VAT), which had cost ₱25,000:
| Account | Debit | Credit |
|---|---|---|
| Sales Returns and Allowances | 50,000.00 | |
| Output VAT | 6,000.00 | |
| Accounts Receivable | 56,000.00 | |
| Merchandise Inventory | 25,000.00 | |
| Cost of Goods Sold | 25,000.00 |
Purchase return. You send ₱22,400 of stock back to a supplier (₱20,000 + ₱2,400 VAT):
| Account | Debit | Credit |
|---|---|---|
| Accounts Payable | 22,400.00 | |
| Merchandise Inventory | 20,000.00 | |
| Input VAT | 2,400.00 |
Trade discounts reduce VAT. Cash discounts don't.
A discount only reduces the VAT base if it is shown on the invoice at the time of sale and doesn't depend on a future event. A 10% trade discount printed on the invoice reduces both Sales and Output VAT. A "2/10, n/30" cash discount the customer earns later does not — the sale was already invoiced and the tax already accrued, so the discount is booked as Sales Discounts with no VAT adjustment.
The quarter-end closing entry
At the close of each taxable quarter, you offset the two accounts. Say the quarter produced ₱240,000 of Output VAT and ₱156,000 of Input VAT:
| Account | Debit | Credit |
|---|---|---|
| Output VAT | 240,000.00 | |
| Input VAT | 156,000.00 | |
| VAT Payable | 84,000.00 |
Then on remittance:
| Account | Debit | Credit |
|---|---|---|
| VAT Payable | 84,000.00 | |
| Cash | 84,000.00 |
Both Output VAT and Input VAT are now zero and start the next quarter clean. If Input VAT had been the larger of the two, you'd close only as far as the smaller balance and leave the excess sitting as a debit in Input VAT — it carries forward against future output tax indefinitely. Outside zero-rated sales and cancellation of registration, excess input tax is not refunded in cash.
A full worked quarter
Dela Cruz Trading, first quarter. All figures as invoiced, VAT-inclusive:
| Transaction | Invoiced | Net | VAT |
|---|---|---|---|
| Sales | 2,240,000.00 | 2,000,000.00 | 240,000.00 output |
| Purchases of merchandise | 1,344,000.00 | 1,200,000.00 | 144,000.00 input |
| Rent | 112,000.00 | 100,000.00 | 12,000.00 input |
| Salaries | 350,000.00 | 350,000.00 | — not VAT-able |
Output VAT of ₱240,000 less input VAT of ₱156,000 leaves ₱84,000 payable.
Where the ₱240,000 of output VAT goes
₱84,000 is 4.2% of net sales, not 12%. VAT is a tax on the value you add, not on your revenue.
That 4.2% isn't a coincidence. The VAT-able value added was ₱2,000,000 of sales less ₱1,300,000 of VAT-able purchases — ₱700,000 — and 12% of ₱700,000 is exactly ₱84,000. Salaries don't reduce it, because labor carries no input tax. A business with a thin margin remits little VAT; a business with a fat margin remits a lot.
Input tax follows purchases, not cost of goods sold
If ₱200,000 of that stock is still on the shelf at quarter-end, cost of goods sold for income tax is ₱1,000,000, not ₱1,200,000 — but you still claim the full ₱144,000 of input VAT now. VAT credits attach to the purchase, income tax deductions attach to the sale. The two returns will not agree, and they aren't supposed to.
Government sales and senior citizen discounts
Selling to a government agency. The agency withholds 5% of the VAT-exclusive selling price — ₱5,000 on a ₱100,000 sale, not 5% of the ₱112,000 invoice total. Since the Ease of Paying Taxes Act, that withholding is creditable against your VAT payable rather than final; it used to be a final withholding VAT paired with a standard 7% input tax, and that older treatment still appears in out-of-date reviewers. (The agency separately withholds creditable income tax on the same purchase; that's a different entry.) On a ₱112,000 inclusive sale:
| Account | Debit | Credit |
|---|---|---|
| Cash | 107,000.00 | |
| Creditable Withholding VAT | 5,000.00 | |
| Sales | 100,000.00 | |
| Output VAT | 12,000.00 |
Selling to a senior citizen or PWD. The sale is VAT-exempt, so the 20% discount is computed on the VAT-exclusive price and no output VAT is recorded at all. A ₱1,120 tag price is really ₱1,000; the discount is ₱200 and the customer pays ₱800:
| Account | Debit | Credit |
|---|---|---|
| Cash | 800.00 | |
| Senior Citizen / PWD Discount | 200.00 | |
| Sales | 1,000.00 |
The classic retail error is taking 20% off the ₱1,120 tag and stopping there. The senior pays ₱896 instead of ₱800 — overcharged by the ₱96 of VAT they're exempt from — and the ₱96 has nowhere to go in your books, because no output VAT exists on an exempt sale. Strip the VAT first, then discount. The discount itself is claimable as a deduction from gross income, not as a tax credit.
If you make both VAT-able and exempt sales, input tax on purchases you can't trace to one or the other has to be allocated on the basis of sales volume. The portion attributable to exempt sales isn't creditable — it's charged to cost or expense instead.
Where the entries usually go wrong
- Multiplying a tag price by 12%. A VAT-inclusive ₱1,120 contains ₱120 of VAT, not ₱134.40. The tax is 12/112 of the total — about 10.71% — because the base is ₱1,000, not ₱1,120.
- Capitalizing input VAT into inventory. It's a recoverable asset, not a cost. Booking it into Merchandise Inventory overstates assets now and cost of goods sold later.
- Running Output VAT through Sales. Crediting the full ₱2,240,000 to Sales inflates your revenue by 12% and quietly misstates every margin ratio you compute.
- Claiming input tax on a non-VAT purchase. No VAT invoice, no credit. A disallowed input tax on audit comes back with a deficiency assessment, surcharge, and interest.
- Claiming input tax on salaries. Compensation isn't a VAT-able purchase. Neither are payments to non-VAT suppliers, interest on loans, or purchases from exempt sellers.
- Issuing a VAT invoice while not VAT-registered. A non-VAT person who issues one becomes liable for the VAT itself, without the benefit of any input tax credit, plus a 50% surcharge.
- Not keeping the subsidiary journals. VAT-registered taxpayers are required to maintain a subsidiary sales journal and a subsidiary purchases journal on top of the regular books. These are the first thing an examiner asks for.
What changes if you're not VAT-registered
Below the ₱3,000,000 threshold, none of the above applies. There is no Input VAT account, because the VAT your suppliers charged you is unrecoverable — it simply becomes part of the cost of whatever you bought. That same ₱1,344,000 invoice:
| Account | Debit | Credit |
|---|---|---|
| Merchandise Inventory | 1,344,000.00 | |
| Accounts Payable | 1,344,000.00 |
Your sales carry no VAT, and instead of Form 2550Q you pay the 3% percentage tax on gross sales under Sec. 116 — or elect the 8% flat income tax, which replaces the percentage tax entirely. The trade-off is real: a non-VAT merchandiser absorbs supplier VAT as cost but never has to remit anything on its own margin. Which side wins depends almost entirely on whether your customers can claim the VAT back.
Bottom line
- Input VAT is an asset, Output VAT is a liability. Neither one ever touches Sales, Cost of Goods Sold, or Merchandise Inventory.
- Record everything net. Split the invoice before it reaches the ledger — ÷1.12 for a VAT-inclusive figure, ×12% for a VAT-exclusive one.
- A merchandising sale takes two entries under the perpetual system, and the VAT only appears in the first.
- What you remit is 12% of value added, not 12% of sales. A thin-margin trader remits very little.
- Excess input tax carries forward, it isn't refunded — so a heavy inventory or equipment quarter can leave you with a credit rather than a payment.
- Run your own quarter through the VAT Calculator, and read VAT vs Non-VAT Registration if you're still deciding whether to register at all.
Sources
- Bureau of Internal Revenue — Value-Added Tax (rates, forms, and filing deadlines)
- Bureau of Internal Revenue — National Internal Revenue Code (Secs. 105–115 on VAT, Sec. 116 on percentage tax)
- Republic Act No. 10963 — TRAIN Law, full text (Supreme Court E-Library) (₱3,000,000 threshold; quarterly-only VAT filing from January 2023 under Sec. 114(A))
- Republic Act No. 11976 — Ease of Paying Taxes Act, full text (Supreme Court E-Library) (creditable withholding VAT on government sales, VAT invoice as the single sales document)
- Revenue Regulations No. 8-2018 (registration update within the month following the month the threshold is crossed)
- Republic Act No. 9994 — Expanded Senior Citizens Act, full text (Supreme Court E-Library) (20% discount and VAT exemption)