Taxation, an overview. Taxation is the process by wich governments secure funds by compulsory payments to pay for government expenditures.

Taxes may be imposed directly on individuals or on impersonal legal entities such as corporations. Direct taxes may be set in fixed amounts or based on income, wealth, or other measures wich are deemed to represent the taxpaying capacities of those subject to the tax. Alternatively, taxes may be imposed indirectly on transactions or on objects, tangible or intangible, regardless of the parties or the ownership of any property involved. Income taxation is the most important form of direct taxation. Sales taxes wich may be general or specific to commodities such as li!uor, tobacco, and gasoline" and stamp taxes to authenticate legal documents are the principal forms of indirect taxes. #ustoms duties are also indirect taxes but are typically classified separately because in major industrial countries the revenue provided, though sometimes substantial, is incidental to their main purpose, wich is protection of national economic activities from foreign competition. Social security contributions are also regarded as a separate category of taxes$ they are a form of direct, but limited, income tax insofar as they are imposed on a employees, and they are a form of indirect tax on a particular expenditure insofar as they are imposed on employers. These contributions are combined in a trust fund to pay social security benefits that are related to the taxes previously paid. Though taxes are the principal source of government funds in most countries, revenues also are received from commercial and !uasi"commercial activities. Substantial net profits are usually secured through sales from government monopolies on such products as tobacco and li!uor. %roceeds from the sale of public lands have at times been major sources, especially in the &nited States during the nineteenth century. 'orth Sea oil is becoming important for some whether in the form of taxes, royalties, or simply sales prices, provide vast flows of funds to some of the small oil"rich countries. In addition to raising revenue through taxes, almost all governments can and do borrow funds. State and local government debt is usually subject to limitations, with funds typically used for capital outlays. 'ational governments have no real constraints on borrowings. (egal debt limits are waived or raised by legislation or decree. The accompanying table shows the principal sources of federal revenue in the &nited States in )*+, and )*+-. The increases in all items are conspicuous. Criteria of a Tax System. A country.s tax system is judged by many standards. /undamentally, it must provide ade!uate revenue. It must also be regarded as e!uitable, but there is no agreed measure of e!uity in taxation. The principle of progressive taxation is widely accepted, though the degree of progression adopted inevitably depends on the interplay of political forces. There are no objective standards for measuring relative abilities to pay taxes.

A tax system should be simple and economical in the sense that it involves minimal waste and inconvenience for both taxpayers and the government. A tax system should also impose minimal restraints on economic growth and efficiency. It should mitigate rather than accentuate economic fluctuations. All these criteria are generally recogni0ed and accepted, though with different interpretations and weighting. 1owever, these objectives fre!uently conflict with each other. 2hat is regarded as e!uitable may have especially adverse effects on economic activitiy. 2hat is simple and understandable for taxpayers may not correspond to theorical concepts of e!uity. And relief provisions to increase fairness or to reduce tax barriers to economic growth or efficiency can be exceedingly complex. During the )*34s, some writers an egalitarian point of view asserted that a principal purpose of taxation should be to redistribute income and wealth. 2ith an increasingly large proportion of total government outlays as direct transfer payments for welfare and with social security and indirect benefits of medical programs, there is a good deal of redistribution downward from the expenditure side of government budgets alone. Taxation specifically designed to redistribute income and wealth is especially li5ely to reduce the supply and effective use of capital and discourage economic innovation. This conflict of objectives is particularly strong. The fraction of national income ta5en by taxation has grown steadily in almost all countries since the late )*64s. In the &nited States, total taxation went from )4.percent of the net national product in )*6* to 78., percent in )*+-. It is generally agreed that the greater the total tax burde, the greater the li5elihood that taxation will unduly discourage and sitort private economic activity, savings, and investments. 9pinions differ as to the relative importance of limiting the scale :and hence the cost; of government or of 5eeping taxes down. 9pinions also differ as to the relative importance, with reference to the adverse effect on the private sector of the economy, of the total tax load or the structure of the tax system, that is, the choice of taxes imposed and the rates and definitions applied. There is probably general agreement that the greater the total tax burden the more important it is to design a tax system to limit its inevitable adverse effects. <reenwald. =ncyclopedia of =conomics. %p *)7"*),