Mack and Mark

Taxes can be differentiated by the impact they have on the distribution of income and wealth. A proportional tax is the kind of tax that imposes the same relative onus on all the taxpayers—i.e., in the case where tax liability and income increase in relative scale. A progressive tax is characterized by a more than proportional rise in the tax liability in relation to the increase in income, and a regressive tax is characterizable by a less than proportional rise in the relative liability. Ergo, progressive taxes are regarded as removing inequity in income distribution, whereas regressive taxes may result in increasing these inequalities.

The taxes that are usually regarded as progressive include individual income taxes and estate taxes. Income taxes that are declarably progressive, however, may become less so for the upper-income class—particularly if a taxpayer is permitted to lower his tax base by declaring deductions or by taking some particular income components from his taxable income. Proportional tax rates which are applied to lower-income groups can also be more progressive if such exemptions of a personal nature are declared.

Income measured over the period of a given year does not definitely come up with the most suitable measure of taxpaying requirements. For example, transitory growth in income may be saved, and within temporary declines in income a taxpayer may elect to finance consumption by decreasing savings. Thus, if taxation is regarded along with “permanent income,” it can be less regressive (or more progressive) than when made comparable with annual income.

Sales taxes and excises (with the exception of those on luxuries) are usually regressive, because the spread of personal income consumed or spent for specific goods declines as the level of personal income grows. Poll taxes (also known as head taxes), calculated as a fixed amount per capita, patently are regressive.

It is not simple to dictate corporate income taxes and taxes on business as progressive, regressive, or proportionate, principally due to the uncertainty regarding the ability of businesses to shift their tax expenses (see below Shifting and incidence). This difficulty of determining who bears the tax burden rests fundamentally on whether a national or a subnational (that is, provincial or state) tax is being considered.

In assessing the economic effect of taxation, it is essential to distinguish between several points of tax rates. The statutory rates will include those dictated in the legislation; usually these are marginal rates, but occasionally they are median rates. Marginal income tax rates note the fraction of incremental income that is taken by taxation when income grows by one dollar. Hence, if tax burden increases by 45 cents when income grows by one dollar, the marginal tax rate is 45 percent. Income tax legislation usually contain graduated marginal rates—i.e., rates that increase as income grows. Structured analysis of marginal tax rates should regard provisions apart from the formal statutory rate structure. If, for example, a particular tax credit (reduction in tax) decreases by 20 cents for each one-dollar increase in income, the marginal rate is 20 percentage points higher than specified by the statutory rates. Since marginal rates indicate 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 complicated to know the marginal effective tax rate to apply to income from business and capital, because it may rely on considerations such as the structure of depreciation allowances, the deductibility of interest, and the provisions for inflation adjustment. A basic economic theorem grants 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 important for judging the distributional equity of taxation. Under a progressive income tax the average income tax rate rises with income. Average income tax rates commonly rise with income, both because personal allowances are permitted for the taxpayer and dependents and due to that marginal tax rates are graduated; conversely, preferential treatment of income received for the most part by high-income households could swamp these effects, forcing regressivity, as displayed by average tax rates that decline as income grows.

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