Role of taxation in promoting equity

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    Role of taxation in promoting equity

    Tax is a fee charged (“levied”) by a government on a product, income, or activity.

    Why taxes are imposed?

    There are different reasons for imposing taxes.

    • To finance government expenditure. One of the most important uses of taxes is to finance public goods and services, such as street lighting and street cleaning.
    •  To reduce consumption of goods that creates negative externalities.
    • To control the amount of imported goods i.e. tariffs
    • Used as a part of fiscal policy to control aggregate demand in the economy.
    • To control income inequality.

    Classification of taxes

    Progressive taxes

    A progressive tax is a tax imposed so that the tax rate increases as the amount subject to taxation increases. In simple terms, it imposes a greater burden (relative to resources) on the rich than on the poor. It can be applied to individual taxes or to a tax system as a whole. Progressive taxes attempt to reduce the tax incidence of people with a lower ability-to-pay, as they shift the incidence disproportionately to those with a higher ability-to-pay. The result is people with more disposable income pay a higher percentage of that income in tax than do those with less income.

    Regressive Tax

    The opposite of a progressive tax is a regressive tax, where the tax rate decreases as the amount subject to taxation increases. It imposes a greater burden (relative to resources) on the poor than on the rich. Regressive taxes attempt to reduce the tax incidence of people with higher ability-to-pay, as they shift the incidence disproportionately to those with lower ability-to-pay.

     

    Proportional Tax

    A proportional tax is one that imposes the same relative burden on all taxpayers—i.e., where tax liability and income grow in equal proportion. In simple terms, it imposes an equal burden (relative to resources) on the rich and poor. Proportional taxes maintain equal tax incidence regardless of the ability-to-pay and do not shift the incidence disproportionately to those with a higher or lower economic well-being.

     

    Types of taxes

    Direct Taxes

    It is a tax paid directly to the government by the persons on whom it is imposed.

    Examples
    • Tax imposed on peoples’ income-Income tax
    • Tax on wealth – wealth Tax
    • Tax on firm’s profits.- corporate tax

    Indirect Taxes

    Indirect tax is a tax collected by an intermediary (such as a retail store) from the person who bears the ultimate economic burden of the tax (such as the consumer). The intermediary later files a tax return and forwards the tax proceeds to government with the return.

    Indirect taxes are generally included in the price of goods and services, so are less obvious to those paying the taxes than direct levies.  Thus indirect taxes are also known as expenditure tax or consumption based tax.

    Examples
    • GST (Goods and service tax)
    • VAT (Value added tax)
    • Consumers are charged a percentage of tax while purchasing a good/service and then the seller pays the tax collected to the Government.

    Other measures to promote equity

    The governments also undertake expenditures to promote income equity. These include

    Subsidies

    Provide directly, or to subsidize, a variety of socially desirable goods and services. These include health care services, education, and infrastructure that include sanitation and clean water supplies.

    Transfer payments

    Government provides various kind of assistance to low income groups in the society. The objective is to support them in maintaining a reasonable standard of living and to lower inequality. These payments are given directly to these groups in the form of monetary help. Examples include Social Security, unemployment compensation, welfare, and disability payments.

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