Proportional, Progressive, and Regressive taxes
Taxes can be distinguished by the effect they have on the distribution of income and wealth. A proportional tax is the kind of tax that imposes the same relative burden on every taxpayer—i.e., in the case where tax liability and income grow in the same levels. A progressive tax is characterizable by a more than proportional growth in the tax onus in relation to the increase in income, and a regressive tax is characterized by a less than proportional increase in the comparative onus. Therefore, progressive taxes are seen as removing the lack of equality in income distribution, while regressive taxes are believed to have the effect of an increase in these inequalities.
The taxes that are generally believed to be progressive include individual income taxes and estate taxes. Income taxes that are categorically progressive, however, may become less so in the upper-income categories—particularly if a taxpayer is able to lessen his tax base by declaring deductions or by taking some income parts from his taxable income. Proportional tax rates that are applied to lower-income classes would also be more progressive if exemptions of a personal nature are made.
Income measured over a given year may not absolutely offer the most suitable measure of taxpaying ability. For example, transitory rises in income may be saved, and within temporary declines in income a taxpayer might choose to pay for consumption by reducing savings. Thus, if taxation is regarded along with “permanent income,” it can be less regressive (or more progressive) than when it is compared with annual income.
Sales taxes and excises (with the exception of those on luxuries) tend to be regressive, because the spread of one’s income consumed or spent for a specific good declines as the rate of personal income increases. Poll taxes (also called head taxes), calculated as a standard amount per capita, clearly are regressive.
It is not easy to determine corporate income taxes and taxes on business as progressive, regressive, or proportionate, because of a lack of certainty surrounding the ability of businesses to shift their tax expenses (see below Shifting and incidence). This difficulty of nominating who bears the tax burden rests crucially on whether a national or a subnational (that is, provincial or state) tax is being determined.
In considering the economic effects of taxation, it is necessary to distinguish between differing concepts of tax rates. The statutory rates will be nominated in legislation; often these are marginal rates, but sometimes they are average rates. Marginal income tax rates note the fraction of incremental income taken by taxation when income rises by one dollar. Hence, if tax burden grows by 45 cents when income increases by one dollar, the marginal tax rate is 45 percent. Income tax statutes generally contain graduated marginal rates—i.e., rates that grow as income rises. Heavy analysis of marginal tax rates are required to regard provisions in addition to the formal statutory rate structure. If, for example, a particular tax credit (reduction in tax) declines by 20 cents for each one-dollar rise in income, the marginal rate is 20 percentage points higher than indicated within the statutory rates. Since marginal rates signify how after-tax income moves in response to changes in before-tax income, they are the relevant ones for assessing incentive effects of taxation. It is even more difficult to know the marginal effective tax rate to apply to income from business and capital, since it may rely on factors including the structure of depreciation allowances, the deductibility of interest, and the provisions for inflation adjustment. A basic economic theorem determines that the marginal effective tax rate in income from capital is nothing under a consumption-based tax.
Average income tax rates determine the percentage of total income that is required in taxation. The pattern of average rates is the one that is necessary for judging the distributional equity of taxation. Under a progressive income tax the average income tax rate grows with income. Average income tax rates usually rise with income, both because personal allowances are allowed for the taxpayer and dependents and due to that marginal tax rates are graduated; on the other hand, preferential treatment of income received fundamentally by high-income households could dampen these effects, allowing regressivity, as indicated by average tax rates that decrease as income rises.
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