Tax

Are indirect tax regressive? NEED TO ADDRESS IN EVALUATION!!!!

1. If we look at the percentage of disposable income collected as tax, then indirect tax is regressive 2. the bottom quintile, the poorest 20% of household, pays the highest percentage of their disposable income to taxes. 3. However, given that indirect tax is a tax on spending, some may argue that to measure indirect tax as a percentage of household spending, which is proportional across all income brackets.

Increase in indirect tax, effects on government revenue and quantity demanded in two different scenarios + use diagram to support

1. When the demand is price inelastic, change in demand is insensitive to change in price. 2. Thus, if indirect tax is imposed, the increase in price cause relatively less decrease in quantity demanded. 3. In this case, increasing the tax PER UNIT will increase the government revenue. 4. However, to correct for market failure, a large sum of tax will have to be imposed to reduce quantity demanded significantly. 5. Thus, government favors products that have inelastic demand to generate more government revenue!!!! GOOD EVALUATION POINT! 6. A trade off happens, whereby on one hand, the government may quite like the revenue generated, but on the other hand, they have to impose a large amount to have a significant impact on quantity consumed. Imposing a large tax sum is REGRESSIVE and effects the low income families more!!! NEED TO ADDRESS! (diagram showing 3 supply curves and 1 inelastic demand curve. S1 show original equilibrium, S2 show new equilibrium with an initial tax to the left of original equilibrium, S3 show new equilibrium with increasing tax, which shifts the supply curve to the left of S2). However, 1. When demand is price elastic, change in demand is sensitive to change in price. 2. Thus, if indirect tax is imposed, the increase in price from tax cause relatively more decrease in quantity demanded. 3. In this case, the tax is more effective at reducing quantity demanded and sold, thus it may be more effective at reducing market failure. 4. However, government revenue raised will be less.

6 key revision points for questions on indirect taxes. + examples for the 6th evaluation point

1. Who pays the tax? Can producers pass on the tax to consumers? 2. Impact of tax on quantity sold 3. Amount of government revenue collected from the tax 4. How will the government revenue be used? 5. Effects on inequality 6. Unintended consequences? (there should be at least one) e.g. tax evasion, SMUGGLING, black markets e.g. consumers substitute their spending to other products e.g. landfill tax, instead of dumping trash in landfill, just dumped it on the streets etc.

Indirect tax justification (4) + examples for each justification

1. government revenue (indirect tax account for second largest source of government revenue in the UK) 2. To manage demand and supply. e.g. sugar tax to reduce the demand and consumption of sugar, carbon tax to reduce the production of goods that causes environmental damage. 3. To correct market failures and decrease the overconsumption of demerit goods and goods with negative externalities. e.g. sugar tax to decrease demerit good sugar from consumed to decrease diabetes, landfill tax to reduce the landfill that causes negative externalities. 4. Tariff & import duties reduce demand for imports, improves the balance of payment and increase X-M value thus increasing AD. 5. It encourage producers to re-design the production process to result in less market failure. e.g. sugar tax, producers will reformulate their drinks to make it healthier.

Rank in order of tax that brings the government the most revenue in the UK

1. personal income tax 2. indirect tax 3. corporate tax 4. property tax 5. capital tax 6. other tax

two main types of indirect tax + definition + example + diagram for each type of tax

Ad valorem: on consumption, paid as the PERCENTAGE of VALUE of the product e.g. VAT Diagram: supply shift non parallel to left Specific: paid in fixed amount per unit of product e,g, ... tax per litre, .... tax per packet of cig. diagram: supply shift parallel to left

Good tax is measured using what criteria? Define this criteria What are the indices for using this criteria?

canons of taxation definition: Adam Smith's criteria of measuring what a good tax comprise of 1. equitable: rich should pay more 2. economic: the revenue from tax is greater than cost of collecting the tax 3. transparent: tax payers know exactly the amount needed to pay 4. convenient: easy to pay 5. Efficiency

Advantages and disadvantages of direct and indirect tax: + why developing countries are more likely to collect increasing revenues from indirect tax?

direct: adv: 1. progressive (income tax), redistribution of wealth good 2. convenient & certain 3. economic stability disad: 1. Discourage SAVING 2. Discourage incentive to work indirect: adv: 1. Discourage demerit goods 2. Discourage trade 3. Less LIABLE to evasion as it is imposed directly on goods and services, cannot fake the actual price of goods and services (sometimes it is possible to hide or provide false income by not reporting income or have inaccurate financial statements to reduce direct tax amounts) 4. easy and QUICK to administer, collect, and adjust 5. Does not interfere with work incentive disad: 1. effectiveness depends on PED (elastic PED works, inelastic PED does not) 2. shifts demand abroad (as domestic goods become more expensive) 3. Inflationary 4. Reduce consumer and producer surplus 5. Regressive (big one), adverse effect on wealth redistribution and does not meet criteria for canon of taxation by Adam Smith. 6. Distort choice Why developing countries more likely: because indirect taxes are easier to levy indirect taxes than direct taxes as a means of secure tax regime, thus they are more likely to favor a regressive tax system in low income individuals' disadvantage.

Types of tax and define each type + give examples + which type of tax is more prominent in government's revenue + where does the burden of tax goes to (consumer/producer) + what does it cause to the supply and demand curve?

direct: a tax that is directly collected from individuals and firms' INCOME to governments, it cannot be avoided. e.g. personal income tax, corporation tax, insurance contributions, capital gains tax, securities transaction tax. burden: consumer curve: demand shift left indirect: tax levied on goods and services, tax collected for the government from producers and local government bodies. Supplier can pass on some or all of the burden of the tax to consumers through increasing prices. They may also keep the price the same thus reducing their profit margin e.g. VAT, excise duties, locally charged council tax and business rates on ownership of houses, apartments, and business premises, general sales tax (this is 16% of gov revenue), property tax, stamp tax, burden: elastic demand: producer, inelastic demand: consumer curve: supply shift left Direct tax

tax incidence definition

extent to which the tax is borne to the producer or consumer or both

marginal rate of taxation and income relationship graph for progressive, regressive and proportional tax

higher percentage of DISPOSABLE income is payed to tax for indirect tax for low income households.

What do governments use their taxes for? + aim of taxes

revenue goes to: provide merit goods, increase public goods, finance administration, welfare , subsidies, redistribution of income, aim of taxes discourage demerit goods, free resources (avoid depletion), redistribution of income, demand/supply management, reduce imports

Average rate of tax marginal rate marginal rate of taxation

the percentage of total income paid to government as tax the PROPORTION of additional amount of income paid to government as tax the additional tax paid out of CHANGE in income