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Page 1 NPTEL-Economics-Public Economics 1 Indian Institute Of Technology, Kanpur Module 7 TAXATION Lecture (28 – 30) Topics 7.1 Types of Taxation 7.2 Computing the Tax Base-Definition 7.3 Measuring the Fairness of Tax Systems 7.4 Average and Marginal Tax Rates 7.5 Effective Versus Statutory Rates 7.6 Measuring the Fairness of Tax Systems 7.7 Defining Equity 7.8 Defining the Income Tax Base 7.9 Deviations Due to Ability-to-Pay Considerations 7.10 Deviations Due to the Costs of Earning Income 7.11 Externality/Public Goods Rationales for Deviating From Haig-Simons 7.12 Charitable Giving 7.13 Spending Crowd-Out Versus Tax Subsidy Crowd-In 7.14 The Equity Implications of Taxation: Tax Incidence 7.15 The Share of Taxes Paid by Corporations has Fallen by Roughly Two-Thirds 7.16 The Three Rules of Tax Incidence Page 2 NPTEL-Economics-Public Economics 1 Indian Institute Of Technology, Kanpur Module 7 TAXATION Lecture (28 – 30) Topics 7.1 Types of Taxation 7.2 Computing the Tax Base-Definition 7.3 Measuring the Fairness of Tax Systems 7.4 Average and Marginal Tax Rates 7.5 Effective Versus Statutory Rates 7.6 Measuring the Fairness of Tax Systems 7.7 Defining Equity 7.8 Defining the Income Tax Base 7.9 Deviations Due to Ability-to-Pay Considerations 7.10 Deviations Due to the Costs of Earning Income 7.11 Externality/Public Goods Rationales for Deviating From Haig-Simons 7.12 Charitable Giving 7.13 Spending Crowd-Out Versus Tax Subsidy Crowd-In 7.14 The Equity Implications of Taxation: Tax Incidence 7.15 The Share of Taxes Paid by Corporations has Fallen by Roughly Two-Thirds 7.16 The Three Rules of Tax Incidence NPTEL-Economics-Public Economics 2 Indian Institute Of Technology, Kanpur 7.17 Statutory Vs. Economic Incidence 7.18 Measuring Tax Burden 7.19 Tax Burden Calculation 7.20 Who Bears Statutory Tax does not Affect Tax Burden Page 3 NPTEL-Economics-Public Economics 1 Indian Institute Of Technology, Kanpur Module 7 TAXATION Lecture (28 – 30) Topics 7.1 Types of Taxation 7.2 Computing the Tax Base-Definition 7.3 Measuring the Fairness of Tax Systems 7.4 Average and Marginal Tax Rates 7.5 Effective Versus Statutory Rates 7.6 Measuring the Fairness of Tax Systems 7.7 Defining Equity 7.8 Defining the Income Tax Base 7.9 Deviations Due to Ability-to-Pay Considerations 7.10 Deviations Due to the Costs of Earning Income 7.11 Externality/Public Goods Rationales for Deviating From Haig-Simons 7.12 Charitable Giving 7.13 Spending Crowd-Out Versus Tax Subsidy Crowd-In 7.14 The Equity Implications of Taxation: Tax Incidence 7.15 The Share of Taxes Paid by Corporations has Fallen by Roughly Two-Thirds 7.16 The Three Rules of Tax Incidence NPTEL-Economics-Public Economics 2 Indian Institute Of Technology, Kanpur 7.17 Statutory Vs. Economic Incidence 7.18 Measuring Tax Burden 7.19 Tax Burden Calculation 7.20 Who Bears Statutory Tax does not Affect Tax Burden NPTEL-Economics-Public Economics 3 Indian Institute Of Technology, Kanpur Module 7 Lecture 28 Topics 7.1 TYPES OF TAXATION This lecture discusses the institutional and theoretical stage for understanding tax policy. The five most common types of taxes are those on: – Direct Taxes ? Individual income ? Earnings (like capital gains) ? Corporate income ? Wealth – Indirect tax ? Consumption 7.2 COMPUTING THE TAX BASE - DEFINITIONS Taxable income is the amount of income left after subtracting exemptions and deductions from AGI. The tax base is the net income on which taxes are paid. – It is analogous to taxable income. 7.3 MEASURING THE FAIRNESS OF TAX SYSTEMS Tax fairness is an important concern to citizens worldwide. Yet, notions of what is fair vary across people. There are several common concepts used to measure fairness. Page 4 NPTEL-Economics-Public Economics 1 Indian Institute Of Technology, Kanpur Module 7 TAXATION Lecture (28 – 30) Topics 7.1 Types of Taxation 7.2 Computing the Tax Base-Definition 7.3 Measuring the Fairness of Tax Systems 7.4 Average and Marginal Tax Rates 7.5 Effective Versus Statutory Rates 7.6 Measuring the Fairness of Tax Systems 7.7 Defining Equity 7.8 Defining the Income Tax Base 7.9 Deviations Due to Ability-to-Pay Considerations 7.10 Deviations Due to the Costs of Earning Income 7.11 Externality/Public Goods Rationales for Deviating From Haig-Simons 7.12 Charitable Giving 7.13 Spending Crowd-Out Versus Tax Subsidy Crowd-In 7.14 The Equity Implications of Taxation: Tax Incidence 7.15 The Share of Taxes Paid by Corporations has Fallen by Roughly Two-Thirds 7.16 The Three Rules of Tax Incidence NPTEL-Economics-Public Economics 2 Indian Institute Of Technology, Kanpur 7.17 Statutory Vs. Economic Incidence 7.18 Measuring Tax Burden 7.19 Tax Burden Calculation 7.20 Who Bears Statutory Tax does not Affect Tax Burden NPTEL-Economics-Public Economics 3 Indian Institute Of Technology, Kanpur Module 7 Lecture 28 Topics 7.1 TYPES OF TAXATION This lecture discusses the institutional and theoretical stage for understanding tax policy. The five most common types of taxes are those on: – Direct Taxes ? Individual income ? Earnings (like capital gains) ? Corporate income ? Wealth – Indirect tax ? Consumption 7.2 COMPUTING THE TAX BASE - DEFINITIONS Taxable income is the amount of income left after subtracting exemptions and deductions from AGI. The tax base is the net income on which taxes are paid. – It is analogous to taxable income. 7.3 MEASURING THE FAIRNESS OF TAX SYSTEMS Tax fairness is an important concern to citizens worldwide. Yet, notions of what is fair vary across people. There are several common concepts used to measure fairness. NPTEL-Economics-Public Economics 4 Indian Institute Of Technology, Kanpur 7.4 AVERAGE AND MARGINAL TAX RATES First, there are two key concepts to describe the set of tax rates on income. A marginal tax rate is the percentage that is paid in taxes on the additional rupee earned. An average tax rate is the percentage of total income is that is paid in taxes. 7.5 EFFECTIVE VERSUS STATUTORY RATES Another important distinction is between statutory and effective tax rates. Statutory tax rates are tax rates laid out in the legal tax schedule. Effective tax rates are tax rates an individual actually pays. – The two diverge because of the host of exemptions and deductions from taxable income, which reduces the tax base. 7.6 MEASURING THE FAIRNESS OF TAX SYSTEMS Tax Systems: – A progressive tax system is one in which effective average tax rates rise with income. – A proportional tax system is one in which effective average rates do not change with income, so that everyone pays the same proportion of their income in taxes. – A regressive tax system is one in which effective average tax rates fall with income. Most analysts would agree that to be (vertically) equitable, the tax system should be progressive. 7.7 DEFINING EQUITY Vertical equity is the principle that groups with more resources should pay higher taxes than groups with fewer resources. Horizontal equity is the principle that similar individuals who make different economic choices should be treated similarly by the tax system. Page 5 NPTEL-Economics-Public Economics 1 Indian Institute Of Technology, Kanpur Module 7 TAXATION Lecture (28 – 30) Topics 7.1 Types of Taxation 7.2 Computing the Tax Base-Definition 7.3 Measuring the Fairness of Tax Systems 7.4 Average and Marginal Tax Rates 7.5 Effective Versus Statutory Rates 7.6 Measuring the Fairness of Tax Systems 7.7 Defining Equity 7.8 Defining the Income Tax Base 7.9 Deviations Due to Ability-to-Pay Considerations 7.10 Deviations Due to the Costs of Earning Income 7.11 Externality/Public Goods Rationales for Deviating From Haig-Simons 7.12 Charitable Giving 7.13 Spending Crowd-Out Versus Tax Subsidy Crowd-In 7.14 The Equity Implications of Taxation: Tax Incidence 7.15 The Share of Taxes Paid by Corporations has Fallen by Roughly Two-Thirds 7.16 The Three Rules of Tax Incidence NPTEL-Economics-Public Economics 2 Indian Institute Of Technology, Kanpur 7.17 Statutory Vs. Economic Incidence 7.18 Measuring Tax Burden 7.19 Tax Burden Calculation 7.20 Who Bears Statutory Tax does not Affect Tax Burden NPTEL-Economics-Public Economics 3 Indian Institute Of Technology, Kanpur Module 7 Lecture 28 Topics 7.1 TYPES OF TAXATION This lecture discusses the institutional and theoretical stage for understanding tax policy. The five most common types of taxes are those on: – Direct Taxes ? Individual income ? Earnings (like capital gains) ? Corporate income ? Wealth – Indirect tax ? Consumption 7.2 COMPUTING THE TAX BASE - DEFINITIONS Taxable income is the amount of income left after subtracting exemptions and deductions from AGI. The tax base is the net income on which taxes are paid. – It is analogous to taxable income. 7.3 MEASURING THE FAIRNESS OF TAX SYSTEMS Tax fairness is an important concern to citizens worldwide. Yet, notions of what is fair vary across people. There are several common concepts used to measure fairness. NPTEL-Economics-Public Economics 4 Indian Institute Of Technology, Kanpur 7.4 AVERAGE AND MARGINAL TAX RATES First, there are two key concepts to describe the set of tax rates on income. A marginal tax rate is the percentage that is paid in taxes on the additional rupee earned. An average tax rate is the percentage of total income is that is paid in taxes. 7.5 EFFECTIVE VERSUS STATUTORY RATES Another important distinction is between statutory and effective tax rates. Statutory tax rates are tax rates laid out in the legal tax schedule. Effective tax rates are tax rates an individual actually pays. – The two diverge because of the host of exemptions and deductions from taxable income, which reduces the tax base. 7.6 MEASURING THE FAIRNESS OF TAX SYSTEMS Tax Systems: – A progressive tax system is one in which effective average tax rates rise with income. – A proportional tax system is one in which effective average rates do not change with income, so that everyone pays the same proportion of their income in taxes. – A regressive tax system is one in which effective average tax rates fall with income. Most analysts would agree that to be (vertically) equitable, the tax system should be progressive. 7.7 DEFINING EQUITY Vertical equity is the principle that groups with more resources should pay higher taxes than groups with fewer resources. Horizontal equity is the principle that similar individuals who make different economic choices should be treated similarly by the tax system. NPTEL-Economics-Public Economics 5 Indian Institute Of Technology, Kanpur – In reality, horizontal inequities are hard to define, because the person endogenously made a choice to earn more or less. We would refer to vertical equity, unless specified otherwise 7.8 DEFINING THE INCOME TAX BASE The Haig-Simons comprehensive income definition defines taxable resources as the change in an individual’s ability to consume during the year. It is best viewed as a measure of ability to pay – regardless of the actual choices in terms of consumption and savings. In terms of equity, those who have more resources (even through untaxed channels) have higher income. 7.9 DEVIATIONS DUE TO ABILITY-TO-PAY CONSIDERATIONS First, it is challenging to define an individual’s ability to pay taxes. Various shocks affect ability to pay, and are used to justify deductions in the actual tax system: – Property and casualty losses – Medical expenditures – State and local income taxes Although these affect ability to pay, they may be choices to some extent. – Individuals have some control over medical expenditures, and some of this deduction may represent consumption. – Higher state and local tax payments could reflect greater amenities and local public goods. Thus, full deductions for both are hard to justify with the Haig-Simons definition.Read More
FAQs on Taxation
| 1. How does taxation work? |  |
Ans. Taxation refers to the process by which a government collects money from individuals and businesses to fund public services and programs. It is usually based on the income, profits, or assets of the taxpayers. Taxes can be levied at different levels of government, such as federal, state, and local. The amount of tax paid by an individual or business depends on their taxable income or profits and the tax rates set by the government.
| 2. What are the different types of taxes? | |
Ans. There are several types of taxes imposed by governments. Some common types include:
1. Income tax: This tax is levied on an individual's or business's income, which can be from wages, salaries, investments, or profits.
2. Sales tax: This tax is applied to the sale of goods and services and is usually a percentage of the purchase price.
3. Property tax: Property tax is based on the value of real estate or personal property and is typically paid by property owners.
4. Excise tax: Excise taxes are imposed on specific goods or activities, such as alcohol, tobacco, gasoline, or luxury items.
5. Corporate tax: Corporate tax is levied on the profits of corporations.
| 3. How does tax evasion differ from tax avoidance? | |
Ans. Tax evasion and tax avoidance are two different concepts related to tax compliance.
Tax evasion refers to the illegal act of intentionally avoiding paying taxes by misrepresenting income, inflating deductions, or hiding assets. It involves deliberate actions to deceive tax authorities and is considered a criminal offense.
On the other hand, tax avoidance is the legal practice of minimizing tax liability by taking advantage of deductions, exemptions, or loopholes in tax laws. Tax avoidance involves using legal means to reduce the amount of tax owed. While it may be perceived as morally questionable, it is not illegal as long as it adheres to the tax laws.
| 4. How are tax rates determined? | |
Ans. Tax rates are determined by the government at various levels. The specific factors considered when setting tax rates can vary depending on the jurisdiction and the type of tax.
Generally, tax rates are established through legislative processes, where lawmakers propose and debate tax laws. They consider factors such as the government's revenue needs, economic conditions, social policies, and the ability of taxpayers to pay.
Tax rates can be progressive, meaning they increase as the income or profits increase, or they can be regressive, where the tax burden is higher for lower-income individuals. The specific tax rate structure is determined by the government's fiscal and economic priorities.
| 5. How are taxes used by the government? | |
Ans. Taxes play a crucial role in funding government activities and public services. The government utilizes tax revenues to finance various programs and initiatives, including:
1. Public infrastructure: Taxes are used to build and maintain roads, bridges, schools, hospitals, and other essential public infrastructure.
2. Defense and security: Tax revenues are allocated to national defense, law enforcement, and security agencies to ensure the safety and protection of citizens.
3. Social welfare programs: Taxes are used to fund social welfare programs such as healthcare, education, unemployment benefits, and social security.
4. Public transportation: Tax funds are utilized to develop and maintain public transportation systems like buses, trains, and subways.
5. Public administration: Tax revenues enable the government to operate and maintain the machinery of public administration, including salaries for civil servants, government agencies, and administrative costs.
It's important to note that the specific allocation of tax revenues can vary between countries and governments based on their priorities and policies.
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