Sales tax calculations are always tricky because every government around the world seems to apply it in different ways. In many cases the cart has to rely on customer input to decide whether tax is applied to an order or not. Most people don't like paying tax and try to aviod it if they can so there is an argument that, if you can, it is better to use tax inclusive pricing.
There are two bases on which the rate of tax can be set:
With the second basis you need to add a field named tax to your Buy Now buttons with the value equal to the percentage tax rate for that product. For example; if the rate is 10% then set tax=10 in its Buy Now button. A rate of tax=0 in your Buy Now button will mean no tax for that item. This is the default value, when no tax field is present.
With both bases, shipping is taxed using the rate you enter in Admin and the value of Discounts will reduce the tax total by that rate as well.
Tax is applied to an order on the basis of one of eight different criteria. You have to choose which is most appropriate for your situation.
Finally there is a special scheme for Canadian merchants which can be used in conjunction with either option 4 or 5 from the list above. In either case the idea is that you can create a three tier tax schema for local, Canadian (5% tax) and international sales (no tax).
Use this option if you want tax to be applied to everyone in Europe except those with a valid VAT number from another EEA country.