Proportional, Progressive, and Regressive taxes
Taxes can be distinguished by the effect they have on the allocation of income and wealth. A proportional tax is a kind that impinges the same relative onus on each taxpayer—i.e., in the case where tax liability and income move in the same proportion. A progressive tax is recognised by a larger than proportional growth in the tax onus in regard to the rise in income, and a regressive tax is recognisable by a less than proportional rise in the comparative liability. So, progressive taxes are seen as removing inequalities in income distribution, while regressive taxes are found to result in an increase these inequalities.
The taxes that are often regarded as progressive include individual income taxes and estate taxes. Income taxes that are initially progressive, however, can become less so within the upper-income categories—in particular if a taxpayer is able to lessen his tax base by declaring deductions or by taking particular income aspects from his taxable income. Proportional tax rates that are applied to lower-income groups will also be more progressive if such personal exemptions are declared.
Income measured over the course of a given period may not definitely give the most appropriate measure of taxpaying requirement. For example, transitory rises in income might be saved, and in temporary declines in income a taxpayer may decide to provide for consumption by reducing savings. So, if taxation is held in comparison along with “permanent income,” it will be less regressive (or more progressive) than if compared with annual income.
Sales taxes and excises (excepting those on luxuries) are mostly regressive, because the spread of one’s income consumed or spent on specific goods lowers as the rate of personal income is raised. Poll taxes (also known as head taxes), nominated as a fixed amount per capita, obviously are regressive.
It is not easy to classify corporate income taxes and taxes on business as progressive, regressive, or proportionate, due to uncertainty around the ability of businesses to shift their tax expenses (see below Shifting and incidence). This difficulty of deciding who bears the tax burden rests essentially on whether a national or a subnational (that is, provincial or state) tax is being determined.
In assessing the economic purposes of taxation, it is important to differentiate between varied ideas of tax rates. The statutory rates are specified in legislature; generally these are marginal rates, but in some cases they are average rates. Marginal income tax rates note the fraction of incremental income taken by taxation when income grows by one dollar. Therefore, if tax liability rises by 45 cents when income increases by one dollar, the marginal tax rate is 45 percent. Income tax legislature often contain graduated marginal rates—i.e., rates that increase as income rises. Careful analysis of marginal tax rates are required to review provisions apart from the formal statutory rate structure. If, for example, a particular tax credit (reduction in tax) lessens by 20 cents for each one-dollar growth in income, the marginal rate is 20 percentage points greater than indicated in the statutory rates. Since marginal rates indicate how after-tax income moves in response to changes in before-tax income, they are the appropriate ones for considering incentive effects of taxation. It is even more difficult to nominate the marginal effective tax rate applied to income from business and capital, because it may depend on considerations including the structure of depreciation allowances, the deductibility of interest, and the provisions for inflation adjustment. A basic economic theorem shows that the marginal effective tax rate in income from capital is nil under a consumption-based tax.
Average income tax rates indicate the percentage of total income that is required in taxation. The pattern of average rates is the one that is relevant for considering the distributional equity of taxation. Under a progressive income tax the average income tax rate increases with income. Average income tax rates commonly rise with income, both because personal allowances are provided for the taxpayer and dependents and because marginal tax rates are graduated; on the other side of things, preferential treatment of income received for the most part by high-income households can swamp these effects, forcing regressivity, as displayed by average tax rates that decrease as income grows.
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