S14

IGCSE/O Level Economics

5.2 Taxation

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 Aims
Different types of taxes ( direct, indirect,
progressive, regressive, proportional)
- Impact of this taxes

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 Quick Google
Search on the top 10 public expenditure
countries in the world

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 Reasons of taxes
Redistribution of income
Limit output of demerit goods
Protect domestic firms

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 Financing public expenditure
As public expenditure rises a government must raise more
revenue to pay for it. This can be done in these ways:

Borrowing from the private sector

Rents from publicly owned buildings and land
Admission charges, for example from public museums and
monuments

Revenue from the sale of some public services such as postal

services and public transport

Proceeds from the sale (or privatization) of government-owned

industries and other publicly owned assets

Interest charges on government loans to the private sector and

overseas governments

Taxes on incomes, wealth and expenditures

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 Tax burdens vary
Total taxation as a percentage of GDP, selected countries 2010

Tax burden:
total tax revenue as a proportion of
the national income of a country

http://www.investopedia.com/terms/t
/tax-to-gdp-ratio.asp

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 How taxes are used

To raise revenue to fund public expenditure

Increase in income tax
rates raises $3 billion

To manage the macroeconomy (CFP and

Tax cuts to boost
EFP)
employment and growth

To reduce income inequality after tax Americas soft drinks

industry battles proposals
to tax sugary sodas
To discourage spending on imports
India introduces carbon
tax on coal producers
To discourage the consumption and
production of harmful products

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To protect the environment

 Designing a tax system

Progressive, regressive or proportional?

Annual income $ Progressive tax Regressive tax Proportional tax
% of income taken in tax % of income taken in tax % of income taken in tax

$5,000 0 30% 20%

$20,000 10% 25% 20%

$50,000 20% 20% 20%

$100,000 40% 15% 20%

National or local taxes?

Direct or indirect taxes?
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 Types of tax
Direct taxes are taken directly
from individuals or firms and
their incomes or wealth.
The burden of a direct tax falls
directly on the person or firm
responsible for paying it.

Indirect taxes are taxes taken

indirectly from incomes when
they are spent on goods and
services.
Indirect taxes may also be
called expenditure taxes or
Revenue by source and type of tax, South Africa 2010-11 outlay taxes.

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 Direct tax
Paid from income, wealth, profit
Eg; salaries, company profit

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 Indirect tax
Imposed on expenditure on goods and
services
Goods and services tax (GST)
Value added tax (VAT) - based on a
taxpayer's consumption of goods rather than
his income.

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 Progressive tax
Based on income level
Higher incomes pay high tax

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 Regressive Tax
takes a larger percentage of income from
low-income earners than from high-income
earners
A regressive tax affects people with low
incomes more severely than people with high
incomes.
http://www.investopedia.com/terms/r/regressi
vetax.asp
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 Proportional tax
income tax system where the same
percentage of tax is levied from all
taxpayers, regardless of their income
Also known as flat tax
For example, if the rate is set at 20%, a
taxpayer earning $10,000 pays $2,000 and a
taxpayer earning $50,000 pays $10,000.

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 Impact of tax
Price and quantity (sales tax will shift the
supply curve of product to left; $ increase
so quantity reduced)
Economic growth (tax reduces incentives to
work; however it is needed to fund
government spending)
Inflation (fiscal policy)

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 Business location (corporation tax are high
in few countries)
Social behaviour (reduce consumption on
demerit goods)

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 Direct taxes
Personal income tax
Corporation (or profits) tax
Capital gains tax
Wealth (e.g. inheritance and property) tax
Advantages of direct taxes Disadvantages of direct tax

They are a major source of tax revenue Income taxes can reduce work incentives
Many are progressive and help to reduce Taxes on profits can reduce profit available
inequalities in incomes after tax to entrepreneurs to re-invest in their
They take account of peoples ability to businesses
pay High tax rates can cause tax evasion

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 Indirect taxes
Value added tax (VAT)
Excise duties
Import tariffs
User charges
Advantages of indirect taxes Disadvantages of indirect tax

They are cost effective to collect The cost of collecting taxes falls to
A wide tax base. Anyone who buys goods businesses
and services will pay some indirect taxes They are regressive
They can be used to discourage Tax revenues are less certain because
consumption and production of harmful they depend on spending patterns
products They add to price inflation

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 Balancing the budget
In the Budget a government sets out its plans for public spending and raising
tax revenues for the financial year ahead
Budget deficit Budget surplus

Public expenditure Tax revenue Public expenditure Tax revenue

An expansionary fiscal policy will increase a budget deficit or reduce a budget surplus

A contractionary fiscal policy will reduce a budget deficit or increase a budget surplus

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 National debt
A government must borrow if public expenditure exceeds public revenue

The total amount of money borrowed by the public sector of a country over time
that has yet to be repaid is the public sector or national debt

Taxes will have to increase or other public spending cut to pay rising interest
charges if the national debt expands at a faster rate than national income
US national debt
US debt as a proportion of US GDP

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