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Economic Aspects of Taxation. Ch 16. Principles of Taxation. the benefits approach and the ability-to-pay approach . The underlying question here is, who should pay, and who should pay the largest amount. benefits approach.
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Principles of Taxation • the benefits approach • and the ability-to-pay approach. • The underlying question here is, who should pay, and who should pay the largest amount.
benefits approach • we would tax people in proportion to the benefit they receive from government programs. This may work well for things like state parks or highways. • those who use the parks might pay a larger share of their upkeep
the ability-to-pay approach • we would tax people in proportion to their income or wealth. • The higher the income or wealth, the higher the taxes. • Some individuals would be paying for programs and services that they would never need to take advantage of. • the notion of fairness involves redistribution of resources within the system.
issues of fairness the notions of horizontal and vertical equity • Horizontal equity implies that people who are viewed as equal should he taxed equally. • Vertical equity relates to the tax treatment of people with different levels of income.
Progressive, proportional and regressive tax • Taxes are progressive if they take larger proportions of higher incomes and regressive if they take smaller portions of higher incomes.
Chapter 16 Figure 16-4 Progressive, Proportional, and Regressive Taxes
Direct vs. indirect tax • direct (levied directly upon individuals or firms) • indirect (levied on goods and services, and hence only indirectly on individuals or firms who consume those goods and • services). • example of a direct tax is the personal income tax; an example of an indirect tax is a gasoline tax.
Federal Taxation • The federal government raises most of its revenue from individual and corporate income taxes. • Other federal taxes include sales and excise taxes, payroll taxes, and corporate profits taxes. • .
Sales and exciseTaxes • Sales and excise taxes are levied as a percentage of sales or per unit of an item purchased; • these are controversial because they appear to be regressive. • Because poorer people tend to spend larger portions of their income on consumption goods, they tend to pay a larger portion of their income as sales taxes.
corporate profits taxes; • Corporations must pay corporate profits taxes; • these are controversial in the sense that they provide disincentives for corporate investment.
Payroll taxes • Payroll taxes are collected to pay for social insurance programs. So its proportional. • Payroll tax generally refers to two kinds of taxes: Taxes which employers are required to withhold from employees' pay, also known as withholding, Pay-As-You-Earn (PAYE) or Pay-As-You-Go (PAYG) tax; • or taxes directly related to employing a worker paid from the employer's own funds (private driver, maid: these may be either fixed charges or proportionally linked to an employee's pay.
Local governments( state, town, city) • Local governments employ property taxes most heavily. • In fact, approximately 30 percent of the total revenues of state and local government are raised through property taxes. • (Henry George would he pleased to hear this!) • States rely on sales taxes and, in some cases, income taxes.
Chapter 16 Figure 16-6 States and Localities Rely on Transfers and Indirect Taxes
an efficient use of resources? • Taxes have incentive effects and hence alter the behavior of market agents. • example, higher income tax rates effectively lower wage rates for workers. • substitution effects, and income effects. • Exemptions in the tax rate exist for home mortgage interest, giving people an incentive to invest in housing markets.
Chapter 16 Figure 16-7 Response of Work to Taxes Depends on Shape of Supply Curve
Chapter 16 Figure 16-5 History of Top Marginal Tax Rate in the United States
which goods and services can be taxed most efficiently • The Ramsey tax rule states that the government should levy the heaviest taxes on those inputs and outputs that are most price-inelastic in supply or demand. • This will result in the smallest change in quantity exchanged across the market and will generate the greatest amount of revenue for the government
Efficiency vs. fairness • However, remember that the types of goods that tend to have the most inelastic demands are necessities; • increasing taxes on food, fuel, water, etc. might be worrisome on the grounds of equity.
The thorny problem of tax incidence • Questions of incidence ask who pays specific taxes in the form of decreased purchasing power. • They are related to questions about the degree to which various taxes create disincentives for people to work harder and/or save more. • The benefit of transfers programs tends to offset regressive treatment of low-income taxpayers.
Chapter 16 Figure 16-8 Who Pays the Taxes and Who Benefits from Transfers?
Chapter 16 Figure 16-9 The Laffer Curve
