When dealing with financial transactions, especially in business, it’s essential to understand the distinction between various types of invoices. Two terms often confused are proforma invoice and tax invoice. Although both involve billing, their purposes and legal implications differ significantly.
In this article, we will spell out the difference between proforma invoice and tax invoice.
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Key Differences Between Proforma Invoice and Tax Invoice
Proforma invoices are not legally binding documents, which serve as estimates or quotations for potential transactions. On the other hand, tax invoices are legally binding documents used to request payment and include specific tax-related information required by tax authorities.
Feature |
Proforma Invoice |
Tax Invoice |
|
Definition |
An advance invoice that is sent to buyers prior to the actual delivery |
A detailed billing document that captures the specifics of a transaction between a buyer and a seller |
|
Purpose |
To provide an estimate of the costs, fees, and delivery date for an order |
To request payment for goods or services provided |
|
Timing |
Generated prior to the sale confirmation and delivery |
Generated following the completion of delivery |
|
Content |
Provide details on the products/services, shipping, pricing, and expected delivery date |
Provides an item-by-item list of products/services, payment details, costs, and due dates |
|
Legality |
Not legally binding |
Legally binding if signed by the customer |
|
Use Cases |
Used to give settlement terms and estimates and assist with customs in international transactions |
Used for recording sales, issuing payment requests, and maintaining accounting records. |
|
Payment Terms |
It is not a payment request. Terms are negotiable before the completion of the sale. |
It outlines payment terms, such as acceptable payment methods and due dates.
|
What is Proforma Invoice?
A proforma invoice is a preliminary document or estimated quote that sellers send to the buyer before the sale is confirmed.
It offers an estimate of costs with details about the goods or services, such as descriptions, quantities, and prices. It differs from a final invoice in that it does not include taxes or request payment.
How Does a Proforma Invoice Work?
- The process starts with the seller generating a proforma invoice detailing the goods or services to be provided.
- They then send the invoice to the buyer for inspection.
- The buyer reviews the proforma invoice to confirm that all terms are as expected.
- If the buyer agrees, the seller proceeds with the transaction and issues the final commercial invoice following the delivery of the goods or services.
The proforma invoice plays a role in setting out the terms and conditions of a sale. It offers a detailed cost summary, which buyers can use to negotiate better conditions, such as discounts or more flexible payment methods.
What is Tax Invoice?
A tax invoice is a formal document issued after a sale, detailing the goods or services provided, the applicable taxes (such as GST), and the corresponding tax rates. It serves as a record for both the buyer and seller, ensuring compliance with tax regulations and enabling input tax credit claims where applicable.
How Does a Tax Invoice Work?
- A tax invoice is issued after the seller has delivered the goods or services.
- It details the final amount the customer is required to pay and is inclusive of taxes.
- It is a formal payment request and includes the seller’s and buyer’s information, goods or services description, quantity, unit price, GST rates, and the total amount due.
They are crucial for tax compliance as they confirm the taxes collected and paid, ensuring the business follows tax laws. Legally, tax invoices are necessary to authenticate the transaction and provide proof of sale, offering protection for both parties in case of disputes.
Essential Details in a Tax Invoice vs Proforma Invoice
Here’s the list of key elements for a tax invoice versus a proforma invoice.
Items in Tax Invoice |
Items in Proforma Invoice |
|
The words “Tax Invoice” at the top |
The words “Proforma Invoice” at the top |
|
Name, address, and contact number of the seller |
Name, address, and contact number of the seller |
|
Invoice number |
|
|
Date of issue of the invoice |
Date of issue of the invoice |
|
Name and address of the buyer |
Name and address of the buyer |
|
Sales tax registration number |
Description of goods/services provided |
|
Quantity of goods/services |
Price of goods/services provided |
|
Price per unit without tax |
Sales tax and any other taxes or fees that apply |
|
Tax payable per unit |
Shipping costs, if any |
|
Subtotal without tax |
Total amount due |
|
Total amount of tax payable |
Expected delivery date |
|
Combined total, including taxes |
Terms and conditions |
|
Payment details |
– |
When to Use Proforma Invoice vs Tax Invoice?
The Proforma invoice is primarily for quotations and to provide an estimate of the costs involved. On the other hand, a tax invoice is issued after the transaction is finalised.
Here are two examples to help you better understand the difference between proforma invoices and tax invoices.
Example 1: Quotation for Custom-Made Furniture
Example of Proforma Invoice
A furniture manufacturer receives a request from a customer for a custom-made dining table. The manufacturer sends a proforma invoice detailing the estimated cost, materials, and delivery time. This helps the customer understand the potential cost and make a decision.
Example of Tax Invoice
Once the customer agrees to the terms and the table is delivered, the manufacturer issues a tax invoice with the final price, including applicable taxes, and requests payment.
Example 2: Importing Electronics
Example of Proforma Invoice
An electronics retailer in India plans to import a batch of smartphones from a supplier in China. The supplier sends a proforma invoice with the estimated cost, shipping charges, and taxes. This invoice is used to declare the value of goods for customs clearance.
Example of Tax Invoice
After the smartphones are shipped and received, the supplier issues a tax invoice with the final amount due, including all applicable taxes. The retailer uses this invoice for accounting and tax filing purposes.
Advantages of Proforma Invoice vs Tax Invoice
Advantages of Proforma Invoice
1. Flexibility
A proforma invoice allows the buyer and seller to discuss and adjust terms before finalising the deal.
2. Preliminary Document
A proforma invoice acts as an initial document that lists the goods or services, their quantities, and prices, helping to set the right expectations and avoid any confusion.
3. Facilitates Advance Payments
Proforma invoices give buyers a detailed cost estimate, helping them make informed decisions and arrange payments early. This is especially useful in international trade, where advance payments are common.
4. Import Documentation
Proforma invoices give customs the necessary details about the goods, like value and origin, ensuring smooth clearance and avoiding delays.
Advantages of Tax Invoice
1. Legal Validity
A tax invoice is a legally recognised document that validates the transaction between a buyer and a seller. It ensures that the transaction is recorded and can be used as evidence in case of any disputes or audits.
2. Clear Breakdown
A tax invoice details the products or services provided, their unit price, and the applicable tax. This clarity helps customers understand the cost breakdown, fostering trust and transparency.
3. Input Tax Credit (ITC)
A tax invoice is essential for the buyer to claim the ITC. ITC allows businesses to reduce the tax they have paid on purchases from their tax liability. Without a tax invoice, the buyer cannot claim this credit.
4. Enhanced Professionalism
Issuing tax invoices demonstrates organisational professionalism and adherence to standard business practices, which can positively impact your reputation and client trust.
Disadvantages of Proforma Invoice vs Tax Invoice
Disadvantages of Proforma Invoice
1. Lack of Legal Standing
Unlike a commercial invoice, it can’t be used to enforce payment as it’s just an estimate without legal authority.
2. Not for Tax Purposes
Proforma invoices aren’t valid for tax purposes. They can’t be used to prove a sale or to claim tax deductions.
3. Time-Consuming
Creating proforma invoices can take time, especially for businesses handling many transactions. It requires attention to detail, which can add to administrative work.
4. Subject to Change
Since a proforma invoice is just a preliminary document, its details can change. Unexpected costs or delays may affect the final amount, leading to differences between the proforma and final invoice.
Disadvantages of Tax Invoice
1. Higher Regulatory Requirements
Preparing and issuing tax invoices involves adhering to specific regulatory requirements, which can be time-consuming and complex
2. Cost of Compliance
Issuing tax invoices and maintaining accurate records can be costly for businesses. This includes hiring staff, purchasing software, and other administrative expenses.
3. Cash Flow Issues
In some cases, businesses may face cash flow problems due to the timing of tax payments. For example, VAT payments may be due based on the invoice date, regardless of when the customer receives the payment. This can create financial instability for businesses.
4. Risk of Disputes
Poorly drafted or vague tax invoices can lead to buyer and seller disputes. If the transaction details are not clearly itemized, it can result in misunderstandings and delays in payment.
Conclusion
Understanding the difference between a tax invoice and a proforma invoice is vital for managing business transactions effectively. A proforma invoice serves as a preliminary quote, helping buyers assess potential costs before a sale is finalised. On the other hand, a tax invoice is an official document that records the completion of a transaction and includes necessary tax details for compliance and accounting purposes.
Frequently Asked Questions
1. How is a Proforma Invoice Different from a Tax Invoice?
A proforma invoice is a preliminary document used as an estimate or quotation for potential transactions, and it is not legally binding. In contrast, a tax invoice is a legally binding document that requests payment and includes specific tax-related details required by tax authorities. Unlike proforma invoices, which usually don’t contain tax information, tax invoices provide all the necessary tax-related data.
2. Can a proforma invoice be used as a tax invoice?
A proforma invoice cannot be used as a tax invoice. This invoice only provides an estimate of the price and terms of the transaction.
3. Should a Proforma Invoice Contain Tax Details?
Yes, a proforma invoice should include tax information. Doing so ensures that the total cost is fully transparent to both parties. This section should detail the types of taxes, their percentages, and the total amount of tax payable.
4. Is a proforma invoice a legal document?
A proforma invoice is not a legally mandatory document. It acts as an initial estimate, outlining the transaction details before it is finalised. It cannot be used for legal or accounting records.
5. What is a Proforma Invoice for Advance Payment?
A proforma invoice is usually required to secure advance payment from the buyer. This document is not a demand for payment but serves as a quotation or estimate, allowing the buyer to understand the costs involved and proceed with the payment.
6. Is a proforma invoice a valid tax invoice?
No, a proforma invoice is not a valid tax invoice. A tax invoice is issued after the transaction and includes all necessary details required for tax reporting and compliance, such as tax rates and amounts.
