Tax revenue[ edit ] Generating a sufficient amount of revenue to finance government is arguably the most important purpose of the tax system. Optimal taxation, which is the theory of designing and implementing taxes that reduce inefficiency and distortion in the market through Pareto optimal moves under given constraints, is constantly debated. With any tax, there will be an excess burden, or additional cost, to the consumer and the producer. Whenever the consumer purchases the taxed good or service, and the higher elasticity, or responsiveness, of the demanded product, the greater the excess burden is on either the consumer or producer.
Tax revenue[ edit ] Generating a sufficient amount of revenue to finance government is arguably the most important purpose of the tax system.
Optimal taxation, which is the theory of designing and implementing taxes that reduce inefficiency and distortion in the market through Pareto optimal moves under given constraints, is constantly debated.
With any tax, there will be an excess burden, or additional cost, to the consumer and the producer. Whenever the consumer purchases the taxed good or service, and the higher elasticity, or responsiveness, of the demanded product, the greater the excess burden is on either the consumer or producer.
Those individuals or corporations who have the most inelastic demand curve pay the brunt of the excess burden curve. However, the tradeoff of placing larger taxes on inelastic goods is that the higher tax will lead to lower quantity exchanged and thus a smaller deadweight loss of reduced revenue.
The idea of the ability-to-pay principle considers whether or not it is fair to tax someone higher just because that person has the ability and resources to pay. If it is decided that they should be required to pay more, the question of how much more arises.
These questions can be analyzed through horizontal and vertical equity which are subsets of the ability-to-pay principle. Horizontal equity suggests it is fair if people who have equal ability-to-pay actually do pay the same amount in taxes.
Vertical equity is the idea that people who The theory of taxation in literature a higher ability-to-pay should actually pay more than those who have a lower ability-to-pay, as long as the increase in tax level is considered to be reasonable.
However, Randall Holcombe depicts a scenario where one of these people is single while the other married with children, and that charging these people the same amount does not correctly reflect their ability to pay.
Conversely, this situation can also support the opposite argument. In this same example, if one individual chooses to spend his income to support his family, and another to travel, each individual now has less money to pay taxes with.
However, this raises the question on how the government should treat these choices differently if at all for taxation purposes. As Holcombe showed through his examples, it is possible to apply different tax principles to the same situation and reach a different logical solution, but as these are normative issues, it can be difficult to reach a solution.
So it is up to individual societies to determine what tax structure to implement. However, problems immediately arise with vertical equity because not only do policy makers have to define what having a higher ability means, but they also have to determine what an appropriate increase in taxation is for those with a greater ability to pay.
Practically, vertical equity provides no solution to these problems. Furthermore, because of the complexity of current tax policies, those who have greater incomes and greater ability to pay are able to avoid paying taxes in ways that those in the lower brackets cannot.
However, the concept of vertical equity is necessary in considering how best to create and implement a fair tax code. Because it is widely agreed upon that those of higher incomes should pay more in taxes, this helps alleviate the tax burden on those whose ability to pay is lower.
It is then up to policy makers to determine what this looks like and how much more higher-income earners should be required to pay.
In his article "Effects of Taxes on Economic Behavior," Martin Feldstein discusses how economic behavior determined by taxes is important for estimating revenue, calculating efficiency and understanding the negative externalities in the short run.
In his article, like much of his research on this topic, he chooses to focus primarily on how households are affected. Feldstein recognizes that high taxes deter people from actively engaging in the market, causing a lower production rate as well as a deadweight loss. Yet, because it is difficult to see tangible results of deadweight loss, policy makers largely ignore it.
Feldstein expresses his frustration that policy makers have yet to grasp these concepts and therefore do not make policy that correct this wrong.
One problem with this analysis is defining what constitutes consumption and what constitutes investment. A more nuanced empirical analysis is required to evaluate this issue. For lower-income working people, who spend most of their income, taxes on consumption also have a significant disincentive effect; while higher-income people may be motivated more by prestige and professional achievement than by after-tax income.
Any gain in economic efficiency from shifting taxes to consumption may be quite small, while the adverse effects on income distribution may be large. A lump-sum tax is a fixed tax that must be paid by everyone and the amount a person is taxed remains constant regardless of income or owned assets.
It does not create excess burden because these taxes do not alter economic decisions. Lump-sum taxes can be either progressive or regressive, depending on what the lump sum is being applied to.
A tax placed on car tags would be regressive because it would be the same for everyone regardless of the type of car the owner purchased and, at least in the United States, even the poor own cars. People earning lower incomes would then pay more as a percentage of their income than higher-income earners.
A tax on the unimproved aspects of land tends to be a progressive tax, since the wealthier one is the more land one tends to own and the poor typically do not own any land at all. Lump-sum taxes are not politically expedient because they sometimes require a complete overhaul of the tax system.
A one-off, unexpected lump-sum levy which is proportional to wealth or income is also non-distorting.use of theory enhances understanding of the major factors that affect a phenomenon, this deficiency has left the tax literature without a meaningful convergence on the key determinants.
Third, aggregate analysis showed that attitudinal, normative and subjective control variables were on the overall good predictors of tax compliance.
THE PURE THEORY OF TAXATION 47 Either (C) the mobility of capital and labour l is not taken account of, or (c) exists and is taken account of. Either (D) the taxation . The Theory of Tax Evasion: A Retrospective View National Tax Journal Vol. LVIIl, No. 4 December Abstract - The paper gives an overview of some main themes in the theory of tax evasion, starting from Allingham and Sandmo.
This paper attempts to integrate the theory of optimal taxation with the analysis of the use of indirect taxation to counteract negative external effects (Pigovian taxes).
the tax evasion literature for the theory of optimal tax design and the analysis of tax administration. But before going into these more analytical parts of the paper, it will be useful to start with some more The Theory of Tax Evasion: A Retrospective View. The standard theory of optimal taxation posits that a tax system should be chosen to maximize a social welfare function subject to a set of constraints.
The literature on optimal taxation typically treats the social planner as a utilitarian: that is, the social welfare function is based on the utilities of individuals in the society.