Taxation

Taxation

Taxation is a system of raising money to finance gov­ernment services and activities. Governments at all levels—local, provincial, and national—require people and businesses to pay taxes. Governments use the tax revenues to pay the cost of police and fire protection, health programmes, schools, roads, national defence, and many other public services. Direct taxes are levied (charged) on the incomes or wealth of individuals or companies. Indirect taxes are levied on money spent by individuals or companies.

Taxes are as old as government. The general level of taxes has varied over the years, depending on the role of the government. In modern times, many govern­ments —especially in advanced industrial countries — have rapidly expanded their roles and taken on new re­sponsibilities. As a result, their need for tax revenue has increased.

Over the years, people have frequently protested against tax increases. In these situations, taxpayers have favoured keeping services at current levels or reducing them. Voters have defeated many proposals for tax in­creases by provincial and local governments.

Kinds of taxes

Governments levy many kinds of taxes. The most im­portant kinds include property taxes, income taxes, and taxes on transactions.

Property taxes are levied on the value of such prop­erty as houses, shops, factories, farms, and business equipment. The property tax first became important in arfcient times. Today, it ranks as the chief source of in­come for many local governments. Property taxes are known as rates in some countries. They are called direct taxes because they are levied directly on the people ex­pected to pay them. See Property tax.

Income taxes are levied on income from such sources as wages and salaries, dividends, interest, rent, and earnings of companies. There are two main types of income taxes—individual income taxes and corporate in­come taxes. Individual income taxes, also called per­sonal income taxes, are applied to the income of individ­uals and families. Corporate income taxes are levied on earnings of companies or corporations. Income taxes may also be levied on the earnings of estates and trusts. They generally are considered to be direct taxes. The corporate income tax also may be described as a shifted tax. This is because companies shift the cost of the tax to their customers by raising prices.

Most nations in the world levy income taxes. Many people have income tax deducted automatically from their earnings by employers, who then pay it to the tax office.

Capital gains tax is a tax, separate from income tax, levied on profits received from the sale or exchange of real property, shares, or other assets. If losses are made on some sales, they can be subtracted from overall prof­its to work out the amount liable to capital gains tax. Some countries treat capital gains as ordinary income, and charge income tax on them. See Capital gains tax.

Taxes on transactions are levied on sales of goods and services and on privileges. There are three main types of such taxes—general sales taxes, excise taxes, and tariffs.

General sales taxes apply one rate to the sales of many different items. Australia, Canada, and the United States impose sales taxes. The value-added tax is a gen­eral sales tax levied in France, Great Britain, and other European countries. It is applied to the increase in value of a product at each stage in its manufacture and distri­bution. See Sales tax; Value-added tax.

Excise taxes are levied on the sales of specific prod­ucts and on privileges. They include taxes on the sales of such items as petrol, tobacco, and alcoholic beverages. Other excise taxes are the licence tax, the franchise tax, and the severance tax. The licence tax is levied on the right to participate in an activity, such as selling alcholic beverages, using a motor vehicle, getting married, or going hunting or fishing. Franchise tax is a payment for the right to carry on a certain kind of business, such as operating a bus service or a public utility. Severance tax is levied on the processing of natural resources, such as timber, natural gas, or petroleum. See Excise; Fran­chise.

Tariffs are taxes on imported goods. Countries can use tariffs to protect their own industries from foreign competition. Tariffs provide such protection by raising the price of imported goods, thus making these goods more expensive than domestic products. See Customs; Tariff.

Stamp duties are taxes levied in Australia, New Zea­land, and the United Kingdom on some large transactions. They are mainly used on transfers of property, shares, and bank deposits. See Stamp duty.

General sales taxes and taxes on petrol and other products are called indirect taxes because they tax a service or privilege instead of a person. Manufacturers and business owners pay these taxes, but they add the cost to the prices they charge their customers. These taxes, like corporation taxes, are a form of shifted taxes.

Other taxes include estate taxes, inheritance taxes, and gift taxes. An estate tax is applied to the value of property before it has been given to heirs. An inheri­tance tax is levied on the value of property after it has been given to heirs. A gift tax is applied to the value of property that is given away during a donor's lifetime. The donor pays the tax. Estate and gift duty is levied in New Zealand. Inheritance tax is levied in the United Kingdom and Ireland. Ireland also has a gift tax

The community charge was a local tax levied on adults in the United Kingdom and collected by the local government Some types of people, such as those with a mental handicap, were exempt. People with more than one home paid a charge for each. The community charge, introduced in 1989 in Scotland and 1990 in Eng­land and Wales, was often called a poll tax. It was re­placed in 1993 by the council tax, a local tax based on property values. See Poll tax.

Departure tax is a tax levied in Australia and New Zealand on people departing overseas. It is levied by the federal government in Australia and the national government in New Zealand.

Principles of taxation

A good tax system must satisfy several general princi­ples of taxation. The main principles include productiv­ity, equity, and elasticity.

Productivity. The chief goal of a tax system is to gen­erate the revenue a government needs to pay its ex­penses. When a tax system produces such revenue, it satisfies the principle of productivity. If a tax system fails to produce the needed revenue, the government may have to add to its debt by borrowing money in order to cover expenses. Such action is called deficit financing.

Equity. Most people agree that a tax system should be equitable (fair) to the taxpayers. Economists refer to two kinds of equity—horizontaland vertical. Horizontal equity means that taxpayers who have the same amounts of income should be taxed at the same rate. Vertical equity implies that wealthier people should pay proportionately more taxes than poorer people. This is sometimes called the principle of ability to pay.

A tax that is not equitable is regressive. An example of a regressive tax was the community charge in the United Kingdom, which put a proportionately higher burden on people with low incomes. Governments often try to achieve tax equity by making their taxes progressive. A progressive tax has a rate that depends on the sum to which it is applied. The rate increases as that sum in­creases. In most countries, individual income tax is a progressive tax because it applies a higher rate to larger taxable incomes than it does to smaller ones.

Elasticity. A tax system should be elastic (flexible) so that it can satisfy the changing financial needs of a gov­ernment. Under an elastic system, taxes help stabilize the economy. For example, taxes increase during peri­

ods of economic growth and thus help limit inflation (rapid price increases). Increasing taxes would leave less money for consumers to spend and so send prices up. Similarly, taxes decrease during a decline in economic activity to help prevent a recession. This action would leave consumers more money to spend and so encour­age economic growth.

Other principles of taxation. People agree that taxes should be convenient and easy to pay, and that they should be inexpensive for governments to collect. In addition, taxpayers should know in advance when a tax has to be paid, so that they can save enough money to cover the payment.

Some economists believe a tax system should also satisfy the principle of neutrality. According to this prin­ciple, tax laws should not affect taxpayers' economic de­cisions, such as how to spend, save, or invest their money. But other economists believe a tax system must defy the principle of neutrality to achieve tax equity or to stabilize economic growth. Still other economists be­lieve a tax system should play an active role in redistrib­uting wealth. They support taxing the wealthy at highly progressive rates and using the collected revenue to fi­nance services for the poor.

History

Tariffs were one of the commonest forms of taxes in the ancient world. But temporary taxes on people or property were sometimes imposed in times of war. The Romans imposed a tax on each citizen, known as a tribu- turn and at different times imposed sales taxes, inheri­tance taxes, and property taxes. Private collectors, known as tea farmers, collected taxes for the Romans and received a share of the proceeds.

Tithes were church taxes imposed in early Christian times, based on traditions of the Old Testament. People were required to pay a tithe (tenth of their income) to the church. Often they would give a tenth of their crops or animals and tithe barns were built in villages to house the grain.

During the Middle Ages in Europe, tariffs and market duties continued to be imposed. Many cities began to levy taxes on land and buildings, as well as a head tax on each citizen. Some European cities imposed income tax on the rich, who were required to assess the amount themselves, on oath, before the city council. Since the Middle Ages, luxury goods have often been taxed on the basis that those who could afford to buy them should pay extra to the government for the privilege. Ex­amples of such luxury items include windows, hearths, and hairpowder. Window tax was imposed in Great Brit­ain between 1692 and 1851, on houses with seven or more windows. Hearth tax was levied from 1662 to 1689, although poor people were exempt. Hairpowder tax was imposed in Britain from 1795 to 1869.

Unjust taxation has sometimes led, or contributed to, revolution or civil unrest. Ship tax, originally a charge on sea ports, was extended by King Charles I in 1635, to in­land towns in Great Britain. This change was a contribu­tory factor to the English Civil War (1642-1651). The American colonies objected to paying taxes to Great Britain under the Stamp Act of 1765. Protesters adopted the slogan "no taxation without representation" and man­aged to get the Act repealed in 1766. In France, heavy tax burdens on poor people led to the French Revolu­tion of 1789.

Wars have led to many new taxes or increased taxa­tion. The first general income tax was imposed by Great Britain to finance the Napoleonic Wars in 1799. The United States government imposed income tax during the American Civil War (1861-1865). During World War I (1914-1918), World War II (1939-1945), and the Korean War (1950-1953), the United States levied an excess-profits tax in addition to general income tax in order to finance their war efforts.

Related articles: Capital gains tax, Property tax, Stamp Act, Customs, Road (How roads are paid for), Stamp duty, Excise, Tariff, Franchise, Sales tax, Tithe, Poll tax, Ship money, and Value-added tax