There are three different scenarios involving sales taxes, and the accounting treatment varies in each scenario. They are:
- Sales to customers. In this most common scenario, a company sells its products to customers, and charges them a sales tax on behalf of the local government authority. The company is then liable to pay the collected sales taxes to the government. In this case, the initial collection of sales taxes creates a credit to the sales taxes payable account, and a debit to the cash account. When the sales taxes are due for payment, the company pays cash to the government, which eliminates its sales tax liability. In this situation, sales tax is a liability.
- Purchased supplies. In the second most common scenario, a company buys any number of items from its vendors, such as office supplies, and pays a sales tax on these items. It charges the sales tax to expense in the current period, along with the cost of the items purchased.
- Purchased assets. In the least common scenario, a company buys a fixed asset, which includes a sales tax. In this case, it is allowed to include the sales tax in the capitalized cost of the fixed asset, so the sales tax becomes part of the asset. Over time, the company gradually depreciates the asset, so that the sales tax is eventually charged to expense in the form of depreciation.