Proportional, Progressive, and Regressive taxes
Taxes can be differentiated by the impact they have on the allocation of income and wealth. A proportional tax is the kind of tax that impinges the same relative onus on each taxpayer—i.e., in the case where tax liability and income increase in the same levels. A progressive tax is recognised by a greater than proportional increase in the tax onus in regard to the increase in income, and a regressive tax is recognised by a less than proportional rise in the comparative liability. Ergo, progressive taxes are seen as taking away inequity in income distribution, but regressive taxes might have the result of increasing these inequalities.
The taxes that are often regarded as progressive include individual income taxes and estate taxes. Income taxes that are categorically progressive, however, may become less so for the upper-income group—especially if a taxpayer is permitted to lessen his tax base by declaring deductions or by removing some certain income aspects from his taxable income. Proportional tax rates that are applied to lower-income groups will also be more progressive if personal exemptions are claimed.
Income measured over the period of a given year may not absolutely offer the best measure of taxpaying ability. For example, transitory growth in income could be saved, and within temporary declines in income a taxpayer might choose to finance consumption by decreasing savings. Therefore, if taxation is compared along with “permanent income,” it would be less regressive (or more progressive) than if it is made comparable with annual income.
Sales taxes and excises (with the exception of those on luxuries) are generally regressive, because the spread of personal income consumed or spent for a specific good declines as the level of personal income increases. Poll taxes (also termed head taxes), calculated as a set amount per capita, clearly are regressive.
It is not simple to determine corporate income taxes and taxes on business as progressive, regressive, or proportionate, principally due to a lack of certainty around the ability of businesses to shift their tax expenses (see below Shifting and incidence). This difficulty of deciding who bears the tax burden depends fundamentally on whether a national or a subnational (that is, provincial or state) tax is being considered.
In analysing the economic purposes of taxation, it is important to differentiate between various concepts of tax rates. The statutory rates will include those dictated in law; generally speaking these are marginal rates, but sometimes they are mean rates. Marginal income tax rates note the fraction of incremental income that is taken by taxation when income grows by one dollar. So, if tax onus grows by 45 cents when income grows by one dollar, the marginal tax rate is 45 percent. Income tax legislature generally contain graduated marginal rates—i.e., rates that grow as income grows. Heavy analysis of marginal tax rates need to take into account provisions other than the formal statutory rate structure. If, for example, a particular tax credit (reduction in tax) lowers by 20 cents for each one-dollar growth in income, the marginal rate is 20 percentage points higher than indicated in the statutory rates. Since marginal rates display how after-tax income increases or decreases in response to changes in before-tax income, they are the appropriate ones for considering incentive effects of taxation. It is even more complicated to know the marginal effective tax rate to apply to income from business and capital, since it may rely on such factors as 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 zero under a consumption-based tax.
Average income tax rates signify the part of total income that is taken in taxation. The pattern of average rates is the one that is necessary for assessing the distributional equity of taxation. Under a progressive income tax the average income tax rate rises with income. Average income tax rates generally rise with income, both because personal allowances are granted for the taxpayer and dependents and due to that marginal tax rates are graduated; on the flip side, preferential treatment of income received mostly by high-income households may dwarf these effects, producing regressivity, as signified by average tax rates that lessen as income grows.
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