Proportional, Progressive, and Regressive taxes
Taxes can be distinguished by the impact they have on the distribution of income and wealth. A proportional tax is one that puts the same relative requirement on each taxpayer—i.e., in the case where tax liability and income grow in equal levels. A progressive tax is characterizable by a higher than proportional increase in the tax burden in regard to the growth in income, and a regressive tax is characterized by a less than proportional increase in the comparative liability. Therefore, progressive taxes are viewed as reducing inequity in income distribution, whereas regressive taxes are believed to have the effect of increasing these inequalities.
The taxes that are generally considered progressive include individual income taxes and estate taxes. Income taxes that are categorically progressive, however, might become less so within the upper-income class—particularly if a taxpayer is able to reduce his tax base by claiming deductions or by removing some particular income parts from his taxable income. Proportional tax rates if applied to lower-income classes could also be more progressive if personal exemptions are declared.
Income measured over a given period does not necessarily come up with the most appropriate measure of taxpaying requirements. For example, transitory growth in income can be saved, and within temporary declines in income a taxpayer could opt to finance consumption by taking from savings. So, if taxation is compared with “permanent income,” it should be less regressive (or more progressive) than if it is compared with annual income.
Sales taxes and excises (with the exception of luxuries) are generally regressive, because the share of personal income consumed or spent for a specific good decreases as the level of personal income rises. Poll taxes (aka head taxes), nominated as a flat amount per capita, patently are regressive.
It is complicated to classify corporate income taxes and taxes on business as progressive, regressive, or proportionate, principally because of uncertainty about the ability of businesses to shift their tax expenses (see below Shifting and incidence). This difficulty of dictating who bears the tax burden depends fundamentally on whether a national or a subnational (that is, provincial or state) tax is being considered.
In considering the economic purpose of taxation, it is relevant to differentiate between various ideas of tax rates. The statutory rates are specified in legislature; generally speaking these are marginal rates, but occasionally they are average rates. Marginal income tax rates note the fraction of incremental income that is taken by taxation when income rises by one dollar. So, if tax onus rises by 45 cents when income rises by one dollar, the marginal tax rate is 45 percent. Income tax legislature often contain graduated marginal rates—i.e., rates that rise as income grows. Structured 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) lessens by 20 cents for each one-dollar rise in income, the marginal rate is 20 percentage points higher than nominated in the statutory rates. Since marginal rates display 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 complicated to understand the marginal effective tax rate to apply to income from business and capital, since it may depend on such considerations 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 zero under a consumption-based tax.
Average income tax rates show the portion of total income that is demanded in taxation. The pattern of average rates is the one that is relevant for appraising the distributional equity of taxation. Under a progressive income tax the average income tax rate grows with income. Average income tax rates generally increase with income, both because personal allowances are allowed for the taxpayer and dependents and also due to that marginal tax rates are graduated; on the other side of things, preferential treatment of income received predominantly by high-income households could dwarf these effects, producing regressivity, as shown by average tax rates that decrease as income grows.
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