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 tax that imposes the same relative onus on all taxpayers—i.e., where tax liability and income increase in equal levels. A progressive tax is recognisable by a greater than proportional growth in the tax burden in regard to the increase in income, and a regressive tax is recognised by a less than proportional rise in the comparative burden. Ergo, progressive taxes are thought of as reducing inequalities in income distribution, while regressive taxes may result in an increase these inequalities.
The taxes that are normally believed to be progressive include individual income taxes and estate taxes. Income taxes that are categorically progressive, however, might become less so in the upper-income group—in particular if a taxpayer is able to lessen his tax base by claiming deductions or by taking some particular income aspects from his taxable income. Proportional tax rates when applied to lower-income groups can also be more progressive if exemptions of a personal nature are claimed.
Income measured over a given year might not absolutely give the most accurate measure of taxpaying status. For example, transitory rises in income may be saved, and during temporary declines in income a taxpayer may opt to pay for consumption by decreasing savings. Thus, if taxation is held in comparison along with “permanent income,” it can be less regressive (or more progressive) than if made comparable with annual income.
Sales taxes and excises (save luxuries) are generally regressive, because the dissemination of personal income consumed or spent on a specific good lowers as the level of personal income grows. Poll taxes (aka head taxes), calculated as a flat 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 dictating who bears the tax burden lays for the most part on whether a national or a subnational (that is, provincial or state) tax is being decided.
In considering the economic effects of taxation, it is essential to differentiate between differing points of tax rates. The statutory rates are those specified in law; commonly these are marginal rates, but sometimes they are average rates. Marginal income tax rates note the fraction of incremental income demanded by taxation when income grows by one dollar. Ergo, if tax onus increases by 45 cents when income grows by one dollar, the marginal tax rate is 45 percent. Income tax legislation commonly contain graduated marginal rates—i.e., rates that grow as income increases. Careful analysis of marginal tax rates should review provisions in addition to the formal statutory rate structure. If, for example, a particular tax credit (reduction in tax) lowers by 20 cents for each one-dollar rise in income, the marginal rate is 20 percentage points greater than specified in the statutory rates. Since marginal rates display how after-tax income is changed in response to changes in before-tax income, they are the appropriate ones for regarding incentive effects of taxation. It is even more difficult to nominate the marginal effective tax rate applicable to income from business and capital, as it may be dependant on considerations including 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 display the part 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 generally rise with income, both because personal allowances are granted for the taxpayer and dependents and because marginal tax rates are graduated; conversely, preferential treatment of income received mostly by high-income households might swamp these effects, allowing regressivity, as shown by average tax rates that decrease as income increases.
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