Taxation- Week 5

Roles of the Government

Direct provision, regulation private activities, redistribution of income, stabilisation of the economy

Direct provision

Of goods and services (often both certain private goods and public goods

Regulating private activities

Eg. price floor, pollution control, administration of justice

Redistribution of income

Eg. income support programmes for the poor

Stabilisation of the economy

Fiscal and monetary. To keep the economy from fluctuating too much

Taxation

Is a form of Fiscal policy

Fiscal policy

Governmental purchases and sales, taxes and transfer payments through expenditures and taxation

Taxes

Compulsory payment imposed by government

Tax base

the item or economic activity on which the tax is levied. There are 3 types; Income earnings made during a particular time period (eg. national insurance contributions for state pensions), Wealth- the value of what has been accumulated (Council tax), and consumption tax (eg. cigarette tax; VAT)

Mixed economy

An economy (or economic system) in which economic activities by the government is significantly large

The benefit principle of taxation

There should be a direct link between the payer and the recipient of the benefit eg. user fees, charges, prices etc

The ability to pay principle of taxation

Should be based on the tax payers’ capacity to pay them eg. income taxes

Advantages of the benefit principle

There is a direct link between MSC and MSB of resource use towards efficient resource allocation.

Advantages of the ability to pay principle

More equitable distribution of taxes. Horizontal equity: those who have the same ability to pay should pay the same amount of tax. Vertical equity: people with different abilities to pay should pay different amounts of tax

Disadvantages of the benefit principle

Lack of income redistribution

Disadvantages of ability to pay principle

Unsure whether we should measure this via people’s income or by assets value such as properties etc.

Evaluation of government finance

Efficiency, equity and simplicity/ administrative ease

Efficiency

Economists strive for efficient resource allocation in taxation; one goal is to raise tax revenue with minimum distortion in the private sector

Equity

Efficiency in resource allocation does NOT imply equitable (fair) resource allocation.

Administrative ease

The easier to administer a tax system, the lower the administration cost, and less costly for the citizens to fulfil the duty, and provide less motivation to evade less taxes

Tax evasion

Non compliance with the tax laws (ie. not paying the tax one is supposed to pay), is illegal

Tax avoidance

Changing your behaviour without breaking the laws (ie. legally) to reduce the amount of tax you owe

Marginal tax rate (MTR)

The tax rate for the last pound of the tax base

Average tax rate (ATR)

£ tax paid/ tax base

Marginal tax rate (MTR)

£ additional tax paid/ additional pound (unit) of the tax base

A tax bracket

A range of tax base level to which a particular MTR is assigned

Proportional/ flat rate tax

A tax whose rate structure is such that ATR is constant

Progressive tax

A tax whose ATR increases as the tax base increases

Allocative