Taxation

Republic of the Philippines
Commission on Higher Education

Region IV-A CALABARZON
LIPA CITY COLLEGES
Lipa City Batangas
TAXATION
MEANING, NATURE AND IMPORTANCE OF TAXATION

MEANING
Taxation refers to the practice of a government collecting money from its citizens to pay
for public services. Without taxation, there would be no public libraries or parks.
One of the most frequently debated political topics is taxation. Taxation is the practice of
collecting taxes (money) from citizens based on their earnings and property. The money
raised from taxation supports the government and allows it to fund police and courts,
have a military, build and maintain roads, along with many other services. Taxation is the
price of being a citizen, though politicians and citizens often argue about how much
taxation is too little or too much.
What does Tax or Taxation mean?
means all forms of taxation whenever created or imposed and whether of the United
Kingdom or elsewhere, and without prejudice to the generality of the foregoing, includes
income tax, capital gains tax, corporation tax, advance corporation tax, stamp duty, stamp
duty land tax, stamp duty reserve tax, withholding tax, rates, value added tax, sales tax,
customs and excise duties, inheritance tax, national insurance contributions and any other
taxes, levies, contributions, duties or imposts similar to, replaced by or replacing any of
them and all penalties, charges, fines and interest included in or relating to any tax
assessment therefor, regardless of to whom any such taxes, penalties, charges and fines
are, and any interest is, directly or indirectly chargeable or attributable or primarily
chargeable or attributable.
NATURE AND IMPORTANCE

What Is Taxation?
Taxation is a term for when a taxing authority, usually a government, levies or imposes a
financial obligation on its citizens or residents. Paying taxes to governments or officials
has been a mainstay of civilization since ancient times.
The term "taxation" applies to all types of mandatory levies, from income to capital gains
to estate taxes. Though taxation can be a noun or verb, it is usually referred to as an act;
the resulting revenue is usually called "taxes."
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Key Takeaways
 Taxation occurs when a government or other authority requires that a fee be paid
by citizens and corporations, to that authority.
 The fee is involuntary, and as opposed to other payments, not linked to any
specific services that have been or will be provided.
 Tax occurs on physical assets, including property and transactions, such as a sale
of stock, or a home.
 Types of taxes include income, corporate, capital gains, property, inheritance, and
sales.
Investopedia / Julie Bang

Understanding Taxation
Taxation is differentiated from other forms of payment, such as market exchanges, in that
taxation does not require consent and is not directly tied to any services rendered. The
government compels taxation through an implicit or explicit threat of force. Taxation is
legally different than extortion or a protection racket because the imposing institution is a
government, not private actors.
Tax systems have varied considerably across jurisdictions and time. In most modern
systems, taxation occurs on both physical assets, such as property and specific events,
such as a sales transaction. The formulation of tax policies is one of the most critical and
contentious issues in modern politics.
Taxation in the United States
The U.S. government was originally funded on very little direct taxation. Instead, federal
agencies assessed user fees for ports and other government property. In times of need, the
government would decide to sell government assets and bonds or issue an assessment to
the states for services rendered. In fact, Thomas Jefferson abolished direct taxation in
1802 after winning the presidency; only excise taxes remained, which Congress repealed
in 1817. Between 1817 and 1861, the federal government collected no internal revenue.1
An income tax of 3% was levied on high-income earners during the Civil War. It was not
until the Sixteenth Amendment was ratified in 1913 that the federal government assessed
taxes on income as a regular revenue item.2 As of 2024, U.S. taxation applies to a wide
range of items or activities, from income to cigarette and gasoline purchases to
inheritances and when winning at a casino or even Nobel Prize.345
Purposes and Justifications for Taxation
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The most basic function of taxation is to fund government expenditures. Varying
justifications and explanations for taxes have been offered throughout history. Early taxes
were used to support the ruling classes, raise armies, and build defenses. Often, the
authority to tax stemmed from divine or supranational rights.
Later justifications have been offered across utilitarian, economic, or moral
considerations. Proponents of progressive levels of taxation on high-income earners argue
that taxes encourage a more equitable society. Higher taxes on specific products and
services, such as tobacco or gasoline, have been justified as a deterrent to consumption.
Advocates of public goods theory argue taxes may be necessary in cases in which the
private provision of public goods is considered sub-optimal, such as with lighthouses or
national defense.
Different Types of Taxation
As mentioned above, taxation applies to all different types of levies. These can include
(but are not limited to):6
 Income tax: Governments impose income taxes on financial income generated by
all entities within their jurisdiction, including individuals and businesses.
 Corporate tax: This type of tax is imposed on the profit of a business.
 Capital gains: A tax on capital gains is imposed on any capital gains or profits
made by people or businesses from the sale of certain assets including stocks,
bonds, or real estate.
 Property tax: A property tax is asses by a local government and paid for by the
owner of a property. This tax is calculated based on property and land values.
 Inheritance: A type of tax levied on individuals who inherit the estate of a
deceased person.
 Sales tax: A consumption tax imposed by a government on the sale of goods and
services. This can take the form of a value-added tax (VAT), a goods and services
tax (GST), a state or provincial sales tax, or an excise tax.
Why Do We Need to Pay Taxes?
There is an old saying that goes "the only sure things in life are death and taxes."
Taxation has been a feature of society going back to ancient times. The role of taxes is to
help governments fund various undertakings such as public works, infrastructure, and
wars. Today, taxpayer dollars are still used for a variety of similar purposes.
Which Country Has the Highest Income Taxes?
As of 2024, the top 10 countries with the highest marginal income taxes are:7
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1. Belgium- 79.5%
2. Finland - 66.75%
3. Portugal - 64%
4. United Kingdom - 63.25%
5. Switzerland - 59.7%
6. Aruba - 58.95%
7. Estonia - 58.4%
8. Denmark - 57.11%
9. Japan - 55% (tie)
10. Austria - 55% (tie)
Which Countries Have Zero Income Tax?

Only a handful of countries have 0% income tax. These include Saudi Arabia, United
Arab Emirates, Oman, Kuwait, Qatar, Bahrain, the Bahamas, Bermuda, and the Cayman
Islands. Many of these are Arab oil-producing nations that subsidize their budgets with
exports rather than taxes. These nations also feature relatively high sales taxes and/or
corporate tax rates.
taxation, imposition of compulsory levies on individuals or entities by governments.
Taxes are levied in almost every country of the world, primarily to raise revenue for
government expenditures, although they serve other purposes as well.
This article is concerned with taxation in general, its principles, its objectives, and its
effects; specifically, the article discusses the nature and purposes of taxation, whether
taxes should be classified as direct or indirect, the history of taxation, canons and criteria
of taxation, and economic effects of taxation, including shifting and incidence
(identifying who bears the ultimate burden of taxes when that burden is passed from the
person or entity deemed legally responsible for it to another). For further discussion of
taxation’s role in fiscal policy, see government economic policy. In
addition, see international trade for information on tariffs.
In modern economies taxes are the most important source of governmental revenue.
Taxes differ from other sources of revenue in that they are compulsory levies and are
unrequited—i.e., they are generally not paid in exchange for some specific thing, such as
a particular public service, the sale of public property, or the issuance of public debt.
While taxes are presumably collected for the welfare of taxpayers as a whole, the
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individual taxpayer’s liability is independent of any specific benefit received. There are,
however, important exceptions: payroll taxes, for example, are commonly levied
on labour income in order to finance retirement benefits, medical payments, and
other social security programs—all of which are likely to benefit the taxpayer. Because of
the likely link between taxes paid and benefits received, payroll taxes are sometimes
called “contributions” (as in the United States). Nevertheless, the payments are
commonly compulsory, and the link to benefits is sometimes quite weak. Another
example of a tax that is linked to benefits received, if only loosely, is the use of taxes on
motor fuels to finance the construction and maintenance of roads and highways, whose
services can be enjoyed only by consuming taxed motor fuels.
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Purposes of taxation
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During the 19th century the prevalent idea was that taxes should serve mainly to finance
the government. In earlier times, and again today, governments have utilized taxation for
other than merely fiscal purposes. One useful way to view the purpose of taxation,
attributable to American economist Richard A. Musgrave, is to distinguish between
objectives of resource allocation, income redistribution, and economic stability.
(Economic growth or development and international competitiveness are sometimes
listed as separate goals, but they can generally be subsumed under the other three.) In the
absence of a strong reason for interference, such as the need to reduce pollution, the first
objective, resource allocation, is furthered if tax policy does not interfere with market-
determined allocations. The second objective, income redistribution, is meant to
lessen inequalities in the distribution of income and wealth. The objective of stabilization
—implemented through tax policy, government expenditure policy, monetary policy,
and debt management—is that of maintaining high employment and price stability.
There are likely to be conflicts among these three objectives. For example, resource
allocation might require changes in the level or composition (or both) of taxes, but those
changes might bear heavily on low-income families—thus upsetting redistributive goals.
As another example, taxes that are highly redistributive may conflict with the
efficient allocation of resources required to achieve the goal of economic neutrality.
Classes of taxes
Direct and indirect taxes
In the literature of public finance, taxes have been classified in various ways according to
who pays for them, who bears the ultimate burden of them, the extent to which the
burden can be shifted, and various other criteria. Taxes are most commonly classified as
either direct or indirect, an example of the former type being the income tax and of the
latter the sales tax. There is much disagreement among economists as to the criteria for
distinguishing between direct and indirect taxes, and it is unclear into which category
certain taxes, such as corporate income tax or property tax, should fall. It is usually said
that a direct tax is one that cannot be shifted by the taxpayer to someone else, whereas an
indirect tax can be.
Direct taxes
Direct taxes are primarily taxes on natural persons (e.g., individuals), and they are
typically based on the taxpayer’s ability to pay as measured by income, consumption, or
net wealth. What follows is a description of the main types of direct taxes.
Individual income taxes are commonly levied on total personal net income of the
taxpayer (which may be an individual, a couple, or a family) in excess of some stipulated
minimum. They are also commonly adjusted to take into account the circumstances
influencing the ability to pay, such as family status, number and age of children, and
financial burdens resulting from illness. The taxes are often levied at graduated rates,
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meaning that the rates rise as income rises. Personal exemptions for the taxpayer and
family can create a range of income that is subject to a tax rate of zero.
Taxes on net worth are levied on the total net worth of a person—that is, the value of his
assets minus his liabilities. As with the income tax, the personal circumstances of the
taxpayer can be taken into consideration.
Personal or direct taxes on consumption (also known as expenditure taxes or spending
taxes) are essentially levied on all income that is not channeled into savings. In contrast
to indirect taxes on spending, such as the sales tax, a direct consumption tax can be
adjusted to an individual’s ability to pay by allowing for marital status, age, number of
dependents, and so on. Although long attractive to theorists, this form of tax has been
used in only two countries, India and Sri Lanka; both instances were brief and
unsuccessful. Near the end of the 20th century, the “flat tax”—which achieves economic
effects similar to those of the direct consumption tax by exempting most income from
capital—came to be viewed favourably by tax experts. No country has adopted a tax with
the base of the flat tax, although many have income taxes with only one rate.
Taxes at death take two forms: the inheritance tax, where the taxable object is the bequest
received by the person inheriting, and the estate tax, where the object is the total estate
left by the deceased. Inheritance taxes sometimes take into account the personal
circumstances of the taxpayer, such as the taxpayer’s relationship to the donor and his net
worth before receiving the bequest. Estate taxes, however, are generally graduated
according to the size of the estate, and in some countries they provide tax-exempt
transfers to the spouse and make an allowance for the number of heirs involved. In order
to prevent the death duties from being circumvented through an exchange
of property prior to death, tax systems may include a tax on gifts above a certain
threshold made between living persons (see gift tax). Taxes on transfers do not ordinarily
yield much revenue, if only because large tax payments can be easily avoided through
estate planning.
Indirect taxes
Indirect taxes are levied on the production or consumption of goods and services or on
transactions, including imports and exports. Examples include general and selective sales
taxes, value-added taxes (VAT), taxes on any aspect of manufacturing or production,
taxes on legal transactions, and customs or import duties.
General sales taxes are levies that are applied to a substantial portion of consumer
expenditures. The same tax rate can be applied to all taxed items, or different items (such
as food or clothing) can be subject to different rates. Single-stage taxes can be collected
at the retail level, as the U.S. states do, or they can be collected at a pre-retail (i.e.,
manufacturing or wholesale) level, as occurs in some developing countries. Multistage
taxes are applied at each stage in the production-distribution process. The VAT, which
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increased in popularity during the second half of the 20th century, is commonly collected
by allowing the taxpayer to deduct a credit for tax paid on purchases from liability on
sales. The VAT has largely replaced the turnover tax—a tax on each stage of the
production and distribution chain, with no relief for tax paid at previous stages. The
cumulative effect of the turnover tax, commonly known as tax cascading, distorts
economic decisions.
Although they are generally applied to a wide range of products, sales taxes sometimes
exempt necessities to reduce the tax burden of low-income households. By
comparison, excises are levied only on particular commodities or services. While some
countries impose excises and customs duties on almost everything—from necessities
such as bread, meat, and salt, to nonessentials such as cigarettes, wine, liquor, coffee, and
tea, to luxuries such as jewels and furs—taxes on a limited group of products—alcoholic
beverages, tobacco products, and motor fuel—yield the bulk of excise revenues for most
countries. In earlier centuries, taxes on consumer durables were applied to luxury
commodities such as pianos, saddle horses, carriages, and billiard tables. Today a
main luxury tax object is the automobile, largely because registration requirements
facilitate administration of the tax. Some countries tax gambling, and state-run lotteries
have effects similar to excises, with the government’s “take” being, in effect, a tax on
gambling. Some countries impose taxes on raw materials, intermediate
goods (e.g., mineral oil, alcohol), and machinery.
Some excises and customs duties are specific—i.e., they are levied on the basis of
number, weight, length, volume, or other specific characteristics of the good or service
being taxed. Other excises, like sales taxes, are ad valorem—levied on the value of the
goods as measured by the price. Taxes on legal transactions are levied on the issue of
shares, on the sale (or transfer) of houses and land, and on stock exchange transactions.
For administrative reasons, they frequently take the form of stamp duties; that is, the legal
or commercial document is stamped to denote payment of the tax. Many tax analysts
regard stamp taxes as nuisance taxes; they are most often found in less-developed
countries and frequently bog down the transactions to which they are applied.
Proportional, progressive, and regressive taxes
Taxes can be distinguished by the effect they have on the distribution of income and
wealth. A proportional tax is one that imposes the same relative burden on all taxpayers
—i.e., where tax liability and income grow in equal proportion. A progressive tax is
characterized by a more than proportional rise in the tax liability relative to the increase
in income, and a regressive tax is characterized by a less than proportional rise in the
relative burden. Thus, progressive taxes are seen as reducing inequalities in income
distribution, whereas regressive taxes can have the effect of increasing these inequalities.
The taxes that are generally considered progressive include individual income taxes and
estate taxes. Income taxes that are nominally progressive, however, may become less so
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in the upper-income categories—especially if a taxpayer is allowed to reduce his tax base
by declaring deductions or by excluding certain income components from his taxable
income. Proportional tax rates that are applied to lower-income categories will also be
more progressive if personal exemptions are declared.
Income measured over the course of a given year does not necessarily provide the best
measure of taxpaying ability. For example, transitory increases in income may be saved,
and during temporary declines in income a taxpayer may choose
to finance consumption by reducing savings. Thus, if taxation is compared with
“permanent income,” it will be less regressive (or more progressive) than if it is
compared with annual income.
Sales taxes and excises (except those on luxuries) tend to be regressive, because the share
of personal income consumed or spent on a specific good declines as the level of personal
income rises. Poll taxes (also known as head taxes), levied as a fixed amount per capita,
obviously are regressive.
It is difficult to classify corporate income taxes and taxes on business as progressive,
regressive, or proportionate, because of uncertainty about the ability of businesses to shift
their tax expenses (see below Shifting and incidence). This difficulty of determining who
bears the tax burden depends crucially on whether a national or a subnational (that is,
provincial or state) tax is being considered.
In considering the economic effects of taxation, it is important to distinguish between
several concepts of tax rates. The statutory rates are those specified in the law; commonly
these are marginal rates, but sometimes they are average rates. Marginal income tax rates
indicate the fraction of incremental income that is taken by taxation when income rises by
one dollar. Thus, if tax liability rises by 45 cents when income rises by one dollar, the
marginal tax rate is 45 percent. Income tax statutes commonly contain graduated
marginal rates—i.e., rates that rise as income rises. Careful analysis of marginal tax rates
must consider provisions other than the formal statutory rate structure. If, for example, a
particular tax credit (reduction in tax) falls by 20 cents for each one-dollar rise in income,
the marginal rate is 20 percentage points higher than indicated by the statutory rates.
Since marginal rates indicate how after-tax income changes in response to changes in
before-tax income, they are the relevant ones for appraising incentive effects of taxation.
It is even more difficult to know the marginal effective tax rate applied to income from
business and capital, since it may depend on such considerations as the structure
of depreciation allowances, the deductibility of interest, and the provisions
for inflation adjustment. A basic economic theorem holds that the marginal effective tax
rate in income from capital is zero under a consumption-based tax.
Average income tax rates indicate the fraction of total income that is paid in taxation. The
pattern of average rates is the one that is relevant for appraising the distributional equity
of taxation. Under a progressive income tax the average income tax rate rises with
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income. Average income tax rates commonly rise with income, both because personal
allowances are provided for the taxpayer and dependents and because marginal tax rates
are graduated; on the other hand, preferential treatment of income received
predominantly by high-income households may swamp these effects, producing
regressivity, as indicated by average tax rates that fall as income rises.
History of taxation
Administration of taxation
Although views on what is appropriate in tax policy influence the choice and structure of
tax codes, patterns of taxation throughout history can be explained largely by
administrative considerations. For example, because imported products are easier to tax
than domestic output, import duties were among the earliest taxes. Similarly, the simple
turnover tax (levied on gross sales) long held sway before the invention of the
economically superior but administratively more demanding VAT (which
allows credit for tax paid on purchases). It is easier to identify, and thus tax,
real property than other assets; and a head (poll) tax is even easier to implement. It is not
surprising, therefore, that the first direct levies were head and land taxes.
Although taxation has a long history, it played a relatively minor role in the ancient
world. Taxes on consumption were levied in Greece and Rome. Tariffs—taxes on
imported goods—were often of considerably more importance than internal excises so far
as the production of revenue went. As a means of raising additional funds in time of war,
taxes on property would be temporarily imposed. For a long time these taxes were
confined to real property, but later they were extended to other assets. Real estate
transactions also were taxed. In Greece free citizens had different tax obligations from
slaves, and the tax laws of the Roman Empire distinguished between nationals and
residents of conquered territories.
Early Roman forms of taxation included consumption taxes, customs duties, and certain
“direct” taxes. The principal of these was the tributum, paid by citizens and usually levied
as a head tax; later, when additional revenue was required, the base of this tax was
extended to real estate holdings. In the time of Julius Caesar, a 1 percent general sales
tax was introduced (centesima rerum venalium). The provinces relied for their revenues
on head taxes and land taxes; the latter consisted initially of fixed liabilities regardless of
the return from the land, as in Persia and Egypt, but later the land tax was modified to
achieve a certain correspondence with the fertility of the land, or, alternatively, a 10th of
the produce was collected as a tax in kind (the tithe). It is noteworthy that at a relatively
early time Rome had an inheritance tax of 5 percent, later 10 percent; however, close
relatives of the deceased were exempted. For a long time tax collection was left to
middlemen, or “tax farmers,” who contracted to collect the taxes for a share of the
proceeds; under Caesar collection was delegated to civil servants.
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In the Middle Ages many of these ancient taxes, especially the direct levies, gave way to
a variety of obligatory services and a system of “aids” (most of which amounted to gifts).
The main indirect taxes were transit duties (a charge on goods that pass through a
particular country) and market fees. In the cities the concept developed of a tax obligation
encompassing all residents: the burden of taxes on certain foods and beverages was
intended to be borne partly by consumers and partly by producers and tradesmen. During
the later Middle Ages some German and Italian cities introduced several direct taxes:
head taxes for the poor and net-worth taxes or, occasionally, crude income taxes for the
rich. (The income tax was administered through self-assessment and an oath taken before
a civic commission.) Taxes on land and on houses gradually increased.
Taxes have been a major subject of political controversy throughout history, even before
they constituted a sizable share of the national income. A famous instance is the rebellion
of the American colonies against Great Britain, when the colonists refused to pay taxes
imposed by a Parliament in which they had no voice—hence the slogan, “No taxation
without representation.” Another instance is the French Revolution of 1789, in which the
inequitable distribution of the tax burden was a major factor.
Wars have influenced taxes much more than taxes have influenced revolutions. Many
taxes, notably the income tax (first introduced in Great Britain in 1799) and the turnover
or purchase tax (Germany, 1918; Great Britain, 1940), began as “temporary” war
measures. Similarly, the withholding method of income tax collection began as a wartime
innovation in France, the United States, and Britain. World War II converted the income
taxes of many countries from upper-class taxes to mass taxes.
It is hardly necessary to mention the role that tax policies play in peacetime politics,
where the influence of powerful, well-organized pressure groups is great. Arguments for
tax reform, particularly in the area of income taxes, are perennially at issue in the
domestic politics of many countries.
Modern trends
The development of taxation in recent times can be summarized by the following general
statements, although allowance must be made for considerable national differences: The
authority of the sovereign to levy taxes in a more or less arbitrary fashion has been lost,
and the power to tax now generally resides in parliamentary bodies. The level of most
taxes has risen substantially and so has the ratio of tax revenues to the national income.
Taxes today are collected in money, not in goods. Tax farming—the collection of taxes by
outside contractors—has been abolished, and taxes are instead assessed and collected by
civil servants. (On the other hand, as a means of overcoming the inefficiencies of
government agencies, tax collection has recently been contracted to banks in many less-
developed countries. In addition, some countries are outsourcing the administration of
customs duties.)
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There has also been a reduction in reliance on customs duties and excises. Many
countries increasingly rely on sales taxes and other general consumption taxes. An
important late 20th-century development was the replacement of turnover taxes with
value-added taxes. Taxes on the privilege of doing business and on real property lost
ground, although they have persisted as important revenue sources for local communities.
The absolute and relative weight of direct personal taxation has been growing in most of
the developed countries, and increasing attention has been focused on VAT and payroll
taxes. At the end of the 20th century the expansion of e-commerce created serious
challenges for the administration of VAT, income taxes, and sales taxes. The problems of
tax administration were compounded by the anonymity of buyers and sellers, the
possibility of conducting business from offshore tax havens, the fact that tax authorities
cannot monitor the flow of digitized products or intellectual property, and the spate of
untraceable money flows.
Income taxation (of individuals and of corporations), payroll taxes, general sales taxes,
and (in some countries) property taxes bring in the greatest amounts of revenue in
modern tax systems. The income tax has ceased to be a “rich man’s” tax; it is now paid
by the general populace, and in several countries it is joined by a tax on net worth. The
emphasis on the ability-to-pay principle and on the redistribution of wealth—which led to
graduated rates and high top marginal income tax rates—appears to have peaked, having
been replaced by greater concern for the economic distortions and disincentives caused
by high tax rates. A good deal of fiscal centralization occurred through much of the 20th
century, as reflected in the kinds of taxes levied by central governments. They now
control the most important taxes (from a revenue-producing point of view): income and
corporation taxes, payroll taxes, and value-added taxes. Yet, in the last decade of the 20th
century, many countries experienced a greater decentralization of government and a
consequent devolution of taxing powers to subnational governments. Proponents of
decentralization argue that it can contribute to greater fiscal autonomy and responsibility,
because it involves states and municipalities in the broader processes of tax policy;
merely allowing lower-level governments to share in the tax revenues of central
governments does not foster such autonomy.
Although it is difficult to make general distinctions between developed and less-
developed countries, it is possible to detect some patterns in their relative reliance on
various types of taxes. For example, developed countries usually rely more on individual
income taxes and less on corporate income taxes than less-developed countries do. In
developing countries, reliance on income taxes, especially on corporate income taxes,
generally increases as the level of income rises. In addition, a relatively high percentage
of the total tax revenue of industrialized countries comes from domestic consumption
taxes, especially the value-added tax (rather than the simpler turnover tax). Social
security taxes—commonly collected as payroll taxes—are much more important in
developed countries and the more-affluent developing countries than in the poorest
countries, reflecting the near lack of social security systems in the latter. Indeed, in many
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developed countries, payroll taxes rival or surpass the individual income tax as a source
of revenue. Demographic trends and their consequences (in particular, the aging of the
world’s working population and the need to finance public pensions) threaten to raise
payroll taxes to increasingly steep levels. Some countries have responded by privatizing
the provision of pensions—e.g., by substituting mandatory contributions to individual
accounts for payroll taxes.
Taxes in general represent a much higher percentage of national output in developed
countries than in developing countries. Similarly, more national output is channeled to
governmental use through taxation in developing countries with the highest levels of
income than in those with lesser incomes. Indeed, in many respects the tax systems of the
developing countries with the highest levels of income have more in common with those
of developed countries than they have with the tax systems of the poorest developing
countries.
Principles of taxation
The 18th-century economist and philosopher Adam Smith attempted to systematize the
rules that should govern a rational system of taxation. In The Wealth of Nations (Book V,
chapter 2) he set down four general canons:
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Adam Smith, paste medallion by James Tassie, 1787; in the Scottish National Portrait
Gallery, Edinburgh.
Courtesy of the Scottish National Portrait Gallery, Edinburgh
I. The subjects of every state ought to contribute towards the support of the government,
as nearly as possible, in proportion to their respective abilities; that is, in proportion to
the revenue which they respectively enjoy under the protection of the state.…
II. The tax which each individual is bound to pay ought to be certain, and not arbitrary.
The time of payment, the manner of payment, the quantity to be paid, ought all to be
clear and plain to the contributor, and to every other person.…
III. Every tax ought to be levied at the time, or in the manner, in which it is most likely to
be convenient for the contributor to pay it.…
IV. Every tax ought to be so contrived as both to take out and keep out of the pockets of
the people as little as possible over and above what it brings into the public treasury of
the state.…
Although they need to be reinterpreted from time to time, these principles retain
remarkable relevance. From the first can be derived some leading views about what is
fair in the distribution of tax burdens among taxpayers. These are: (1) the belief that taxes
should be based on the individual’s ability to pay, known as the ability-to-pay principle,
and (2) the benefit principle, the idea that there should be some equivalence between
what the individual pays and the benefits he subsequently receives from governmental
activities. The fourth of Smith’s canons can be interpreted to underlie the emphasis many
economists place on a tax system that does not interfere with market decision making, as
well as the more obvious need to avoid complexity and corruption.
Distribution of tax burdens
Various principles, political pressures, and goals can direct a government’s tax policy.
What follows is a discussion of some of the leading principles that can shape decisions
about taxation.
Horizontal equity
The principle of horizontal equity assumes that persons in the same or similar positions
(so far as tax purposes are concerned) will be subject to the same tax liability. In practice
this equality principle is often disregarded, both intentionally and unintentionally.
Intentional violations are usually motivated more by politics than by sound economic
policy (e.g., the tax advantages granted to farmers, home owners, or members of the
middle class in general; the exclusion of interest on government securities). Debate over
tax reform has often centred on whether deviations from “equal treatment of equals” are
justified.
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The ability-to-pay principle
The ability-to-pay principle requires that the total tax burden will be distributed among
individuals according to their capacity to bear it, taking into account all of the relevant
personal characteristics. The most suitable taxes from this standpoint are personal levies
(income, net worth, consumption, and inheritance taxes). Historically there was common
agreement that income is the best indicator of ability to pay. There have, however, been
important dissenters from this view, including the 17th-century English
philosophers John Locke and Thomas Hobbes and a number of present-day tax
specialists. The early dissenters believed that equity should be measured by what is spent
(i.e., consumption) rather than by what is earned (i.e., income); modern advocates of
consumption-based taxation emphasize the neutrality of consumption-based taxes
toward saving (income taxes discriminate against saving), the simplicity of consumption-
based taxes, and the superiority of consumption as a measure of an individual’s ability to
pay over a lifetime. Some theorists believe that wealth provides a good measure of ability
to pay because assets imply some degree of satisfaction (power) and tax capacity, even if
(as in the case of an art collection) they generate no tangible income.
The ability-to-pay principle also is commonly interpreted as requiring that direct personal
taxes have a progressive rate structure, although there is no way of demonstrating that
any particular degree of progressivity is the right one. Because a considerable part of the
population does not pay certain direct taxes—such as income or inheritance taxes—some
tax theorists believe that a satisfactory redistribution can only be achieved when such
taxes are supplemented by direct income transfers or negative income taxes (or
refundable credits). Others argue that income transfers and negative income tax create
negative incentives; instead, they favour public expenditures (for example, on health or
education) targeted toward low-income families as a better means of reaching
distributional objectives.
Indirect taxes such as VAT, excise, sales, or turnover taxes can be adapted to the ability-
to-pay criterion, but only to a limited extent—for example, by exempting necessities such
as food or by differentiating tax rates according to “urgency of need.” Such policies are
generally not very effective; moreover, they distort consumer purchasing patterns, and
their complexity often makes them difficult to institute.
Throughout much of the 20th century, prevailing opinion held that the distribution of the
tax burden among individuals should reduce the income disparities that naturally result
from the market economy; this view was the complete contrary of the 19th-century
liberal view that the distribution of income ought to be left alone. By the end of the 20th
century, however, many governments recognized that attempts to use tax policy to reduce
inequity can create costly distortions, prompting a partial return to the view that taxes
should not be used for redistributive purposes.
The benefit principle
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Under the benefit principle, taxes are seen as serving a function similar to that of prices in
private transactions; that is, they help determine what activities the government will
undertake and who will pay for them. If this principle could be implemented,
the allocation of resources through the public sector would respond directly to consumer
wishes.
In fact, it is difficult to implement the benefit principle for most public services because
citizens generally have no inclination to pay for a publicly provided service—such as a
police department—unless they can be excluded from the benefits of the service. The
benefit principle is utilized most successfully in the financing of roads and highways
through levies on motor fuels and road-user fees (tolls). Payroll taxes used
to finance social security may also reflect a link between benefits and “contributions,” but
this link is commonly weak, because contributions do not go into accounts held for
individual contributors.
Economic efficiency
The requirement that a tax system be efficient arises from the nature of
a market economy. Although there are many examples to the contrary, economists
generally believe that markets do a fairly good job in making economic decisions about
such choices as consumption, production, and financing. Thus, they feel that tax policy
should generally refrain from interfering with the market’s allocation of economic
resources. That is, taxation should entail a minimum of interference with individual
decisions. It should not discriminate in favour of, or against, particular consumption
expenditures, particular means of production, particular forms of organization, or
particular industries. This does not mean, of course, that major social and economic goals
may not take precedence over these considerations. It may be desirable, for example, to
impose taxes on pollution as a means of protecting the environment.
Economists have developed techniques to measure the “excess burden” that results when
taxes distort economic decision making. The basic notion is that if goods worth $2 are
sacrificed because of tax influences in order to produce goods with a value of only $1.80,
there is an excess burden of 20 cents. A more nearly neutral tax system would result in
less distortion. Thus, an important postwar development in the theory of taxation is that
of optimal taxation, the determination of tax policies that will minimize excess burdens.
Because it deals with highly stylized mathematical descriptions of economic systems, this
theory does not offer easily applied prescriptions for policy, beyond the important insight
that distortions do less damage where supply and demand are not highly sensitive to such
distortions. Attempts have also been made to incorporate distributional considerations
into this theory. They face the difficulty that there is no scientifically correct distribution
of income.
Ease of administration and compliance
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In discussing the general principles of taxation, one must not lose sight of the fact that
taxes must be administered by an accountable authority. There are four general
requirements for the efficient administration of tax laws: clarity, stability (or continuity),
cost-effectiveness, and convenience. Administrative considerations are especially
important in developing countries, where illiteracy, lack of commercial markets, absence
of books of account, and inadequate administrative resources may hinder both
compliance and administration. Under such circumstances the achievement of rough
justice may be preferable to infeasible fine-tuning in the name of equity.
Clarity
Tax laws and regulations must be comprehensible to the taxpayer; they must be as simple
as possible (given other goals of tax policy) as well as unambiguous and certain—both to
the taxpayer and to the tax administrator. While the principle of certainty is better adhered
to today than in the time of Adam Smith, and arbitrary administration of taxes has been
reduced, every country has tax laws that are far from being generally understood by the
public. This not only results in a considerable amount of error but also undermines
honesty and respect for the law and tends to discriminate against the ignorant and the
poor, who cannot take advantage of the various legal tax-saving opportunities that are
available to the educated and the affluent. At times, attempts to achieve equity have
created complexity, defeating reform purposes.
Stability
Tax laws should be changed seldom, and, when changes are made, they should be carried
out in the context of a general and systematic tax reform, with adequate provisions for
fair and orderly transition. Frequent changes to tax laws can result in reduced compliance
or in behaviour that attempts to compensate for probable future changes in the tax code—
such as stockpiling liquor in advance of an increased tariff on alcoholic beverages.
Cost-effectiveness
The costs of assessing, collecting, and controlling taxes should be kept to the lowest level
consistent with other goals of taxation. This principle is of secondary importance in
developed countries, but not in developing countries and countries in transition
from socialism, where resources needed for compliance and administration are scarce.
Clearly, equity and economic rationality should not be sacrificed for the sake
of cost considerations. The costs to be minimized include not only government expenses
but also those of the taxpayer and of private fiscal agents such as employers who collect
taxes for the government through the withholding procedure.
Convenience
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Payment of taxes should cause taxpayers as little inconvenience as possible, subject to the
limitations of higher-ranking tax principles. Governments often allow the payment of
large tax liabilities in installments and set generous time limits for completing returns.
Economic goals
The primary goal of a national tax system is to generate revenues to pay for the
expenditures of government at all levels. Because public expenditures tend to grow at
least as fast as the national product, taxes, as the main vehicle of government finance,
should produce revenues that grow correspondingly. Income, sales, and value-added
taxes generally meet this criterion; property taxes and taxes on nonessential articles of
mass consumption such as tobacco products and alcoholic beverages do not.
In addition to producing revenue, tax policy may be used to promote economic stability.
Changes in tax liabilities not matched by changes in expenditures
cushion cyclical fluctuations in prices, employment, and production. Built-in flexibility
occurs because liabilities for some taxes, most notably income taxes, respond strongly to
changes in economic conditions. A more-active approach calls for changes in the tax rates
or other provisions to increase the anticyclical effects of tax receipts.
Some economists propose tax policies to promote economic growth. This approach may
imply a qualitative restructuring of the tax system (for example, the substitution of taxes
on consumption for taxes on income) or special tax advantages to
stimulate saving, labour mobility, research and development, and so on. There is,
however, a limit to what tax incentives can accomplish, especially in promoting
economic development of specific industries or regions. An emphasis on economic
growth implies the need to avoid high marginal tax rates and the tax-induced diversion of
resources into relatively unproductive activities.
Fritz NeumarkCharles E. McLure
Shifting and incidence
The incidence of a tax rests on the person(s) whose real net income is reduced by the tax.
It is fundamental that the real burden of taxation does not necessarily rest upon the person
who is legally responsible for payment of the tax. General sales taxes are paid by
business firms, but most of the cost of the tax is actually passed on to those who buy the
goods that are being taxed. In other words, the tax is shifted from the business to the
consumer. Taxes may be shifted in several directions. Forward shifting takes place if the
burden falls entirely on the user, rather than the supplier, of the commodity or service in
question—e.g., an excise tax on luxuries that increases their price to the purchaser.
Backward shifting occurs when the price of the article taxed remains the same but the
cost of the tax is borne by those engaged in producing it—e.g., through lower wages and
salaries, lower prices for raw materials, or a lower return on borrowed capital. Finally, a
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tax may not be shifted at all—e.g., a tax on business profits may reduce the net income of
the business owner.
Tax capitalization occurs if the burden of the tax is incorporated in the value of long-term
assets—e.g., a decline in the price of land that offsets an increase in property taxes.
Capitalization can result where there is forward shifting, backward shifting, or no
shifting. Thus, an increase in the price of gasoline resulting from higher motor fuel taxes
may reduce the value of high-consumption automobiles, a tax on the production of coal
that cannot be shifted forward would reduce the value of coal deposits, and a tax that
reduces after-tax corporate profits may reduce the value of corporate stock. In all these
cases the present owner of the asset takes a capital loss because the value of the asset will
be lower by the capitalized value of the tax.
It can be difficult to determine the incidence of a tax; indeed, the tax may be partly borne
by the taxpayer and partly shifted. In many cases the problem can be adequately resolved
by using what economists call partial equilibrium analysis, which involves focusing on
the market for the taxed product and ignoring all other markets. For example, if a small
tax were to be imposed on an addictive substance, there is little doubt that it would be
borne by the users of the substance, who would pay the tax rather than forgo use of the
substance. More generally, the incidence of taxation depends on all of the market forces
at work. In a market economy the introduction of any tax triggers a whole series of
adjustments in consumption, production, the supply of productive factors, and the pattern
of foreign trade. These adjustments in turn will have repercussions on the prices of
various commodities, productive factors, and assets that may be far removed from the
area of the initial impact. In other words, a tax levied on a certain object may affect the
prices of nontaxed goods and services that are not even used in the production of the
object. Thus, the initial impact of a tax does not indicate where the ultimate burden will
rest unless one knows what repercussions the tax will have throughout the system of
interrelated economic variables—i.e., unless recourse is made to what is called general
equilibrium theory, a method of analysis that attempts to identify and incorporate the
economy-wide repercussions and implications of taxation. In what follows, an attempt
will be made to isolate some of the factors involved.
The direction and extent of tax shifting is determined basically by one principle: The user
of a tax object can avoid the tax burden to a greater (lesser) extent the easier (the more
difficult) it is to find nontaxed or less-taxed alternatives or substitutes for the tax object;
the supplier of a production factor that is taxed or used in the production of a taxed good
can avoid the tax burden to a greater (lesser) extent the easier (the more difficult) it is to
find equivalent nontaxed or less taxed alternative employment opportunities for this
factor. Because the demand for substitute goods will increase, their prices may rise, thus
benefiting the producers of such goods and placing part of the tax burden on those
individuals who used them before the tax was imposed. Likewise, the productive factors
that seek alternative employments to avoid the tax will tend to receive lower returns in
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those employments, thus placing part of the burden on individuals who supplied the
factors in those sectors before the tax was imposed. For example, if wine is taxed while
beer is not, then—if these two beverages are regarded as perfect substitutes and the price
of beer does not rise with increased demand—the tax burden will fall on the owners of
land used for viticulture and on the workers engaged in it. It will fall mainly on the
landowners if the soil is specific to grapevine growing and if labour has alternative
employment possibilities. If, on the other hand, wine drinkers are determined to drink
only wine, they will bear most of the tax burden. If some substitution of beer for wine
takes place and the price of beer rises somewhat, both wine and beer drinkers will bear
the burden and owners of resources specialized to the production of beer will benefit.
In addition to the substitution effect discussed above, one must take into account the
income effect. When taxation reduces real income, consumption of certain goods and
services (and of leisure) will be reduced, because people have less money to spend.
Furthermore, if a tax causes a significant redistribution of real income and if different
income classes have different propensities to save and different patterns of consumption,
then the income redistribution will influence the demand for various goods, the supply of
labour, and the demand for various resources.
Other considerations affect tax shifting, but they are derived from the basic principle of
substitution. The extent of shifting may vary over time, depending on how long it takes to
adjust consumption patterns, reallocate land and capital, retrain labour, and so on. Those
users and suppliers who have the most difficulty in adjusting will bear the largest burden.
The breadth of the tax base affects tax incidence. The broader (narrower) the tax base—
i.e., the more (less) inclusive the scope of the tax—the more difficult it is to escape the
tax burden, since the range of nontaxed or less-taxed substitutes is narrower (wider).
Thus, an excise tax on only a few alcoholic beverages allows the tax to be escaped
through a change in the consumption pattern, while a tax on all such beverages does not.
In a similar fashion, the returns on capital will be affected less by the taxation of
corporation profits alone than by the taxation of both corporation and noncorporation
profits.
The smaller the jurisdictional unit imposing the tax, the easier it tends to be for a user to
obtain nontaxed or less-taxed substitutes from outside the jurisdiction and for a supplier
to find nontaxed or less-taxed outside employment opportunities for his goods and
services. Thus, a tax levied by a subnational government on the production of a particular
good is likely to be borne by suppliers of commodities and productive factors that are
immobile. This is particularly relevant to the determination of the incidence of state
income taxes and local property taxes, taxes that are often thought to be “exported” to
out-of-state consumers. In small communities the only really immobile factors are likely
to be real estate, certain local services, and perhaps poor families.
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The rigidities of imperfect markets are likely to increase the uncertainty of the shifting
response. Thus, a monopolist may absorb part of a tax in lower profits rather than shift all
of the burden to the user of the product. In industries where there are few firms
(oligopoly), the price behaviour of a firm is mainly determined by what it expects its
competitors to do. It may be especially easy for regulated public utilities to shift taxes
forward. Rigid product prices are likely to increase the incidence of taxes on
employment, unless monetary policy allows the tax-induced changes in relative prices to
take place in the setting of a generally rising price level.
All of these considerations are analytical and theoretical. Efforts have been made to
measure the impact of taxation by studying the actual effects of a particular tax on
income and employment. These studies reflect the obvious and inherent difficulty that the
tax impact cannot be easily isolated from the economic consequences of other events. For
example, studies of corporate income tax shifting vary in their results, from the
conclusion that the tax is not shifted at all to the conclusion that it is shifted by more than
100 percent, depending mainly on the methods used to isolate the tax impact.
Taxation
When a governmental authority imposes levies on citizens and business organizations.
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What is Taxation?
Taxation refers to the fees and financial obligations imposed by a government on its
residents. Income taxes are paid in almost all countries around the world. However,
taxation applies to all payments of mandatory levies, including on income, corporate,
property, capital gains, sales, and inheritance.
Taxation is involuntary; hence it does not require consent from the residents. Therefore,
the government may resort to the use of force and threats to implement successful
taxation.
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Levies generated through taxation are not bound to any specific service delivery, and they
are legally recognized because the compelling establishment is a government authority
and not a private institution. Taxation procedures vary across governing structures and
periods.
In modern times, taxation is also applied to physical assets and specific contracts, such as
business transactions. However, modern tax policies are greatly influenced by political
forces.
Summary
 Taxation occurs when a governmental authority imposes levies on citizens and
business organizations.
 Fees paid through taxation are compulsory and may not be linked to any service
delivery.
 Revenues collected are used to finance government expenditures.
Understanding Taxation
Taxation is a form of financing of government activities in almost every country.
The International Centre for Tax and Development (ICTD) estimates that 80% of overall
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government funding in half of the countries around the world is accounted for by tax
revenues. Governing authorities are able to increase taxation levels by changing taxation
rules and expanding tax bases.
Primarily, the revenue collected is utilized for the welfare of taxpayers; this means that
the specific benefit received is independent of the individual payment. However, there are
some exceptions, such as payroll taxes, where the taxpayer will directly benefit from
medical coverage and retirement benefits.
Taxation patterns differ greatly among developing and developed countries. Higher tax
revenues are collected in developed countries than in developing countries due to
efficient taxation compliance mechanisms and effective tax collection methods.
However, both of these factors are directly affected by the competency of the political
system. Generally, developed countries rely more on income taxation to realize most of
their national output, more so than developing countries who rely heavily on
consumption and trade taxes.
Types of Taxation
The following are the different types of levies imposed on residents by the government:
1. Income Taxes
Income taxes are levies imposed on the total financial income of an individual, such as
wages, investments, and salaries. Most income taxes increase with the rise in the
taxpayer’s earnings. This means that higher-income earners pay more taxes than low-
earners. This is also referred to as progressive taxation.
2. Corporate Taxes
Corporate income tax is levied on business income. The burden of corporate tax is shared
between the business, its consumers, and the employees through setting higher prices and
paying low wages. To encourage business growth, most governments levy businesses a
corporate tax rate of below 30%.
3. Payroll Taxes
Payroll taxes are levies imposed on employees’ income to finance social security funds.
Normally, the payroll tax amount is automatically deducted from the income and paid by
the employer on behalf of the employee.
For example, in the United States, the highest payroll taxes are 12.4% tax to finance
Social Security and 2.9% tax to pay Medicare, accounting for a 15.3% total tax rate. In
this case, the employer remits 7.65% of the tax rate, which amounts to half of the payroll
taxes. The other half is automatically deducted from the employee’s income.
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4. Capital Gain Taxes
Capital gains taxes are levied on capital assets, which include personal properties and
investments like stocks, homes, bonds, cars, or jewelry. When an asset increases in value,
such as rising stock prices, it is referred to as capital gain.
Therefore, when an individual benefits from a capital gain, tax is paid on the profit
earned.
5. Property Taxes
Property taxes are generally imposed on physical property, such as land and buildings.
They are the primary revenue source for local state governments. Property levies account
for over 70% of local tax revenues. Property taxes finance key public services, such as
fire departments, schools, roads, security, and rapid medical services.
Classes of Taxes
Taxes are classified into different criteria ranging from the mode of payment, the subject
bearing the tax burden, and the extent of shifting the burden.
1. Direct Taxes
Direct taxes are levies subjected to individuals based on the taxpayer’s net wealth,
expenditure, or personal net income. Levies on net worth are based on the taxpayer’s
assets value minus total liabilities, while expenditure taxes are paid on income that is not
directed to savings.
2. Indirect Taxes
Indirect taxes are taxes imposed on transactions such as imports and exports and the
production and consumption of goods and services. Examples include value-added taxes,
legal transaction taxes, manufacturing taxes, and custom taxes on import duties.
A tax is a mandatory financial charge or levy imposed on a taxpayer (an individual
or legal entity) by a governmental organization to support government
spending and public expenditures collectively or to regulate and reduce
negative externalities.[1] Tax compliance refers to policy actions and individual behavior
aimed at ensuring that taxpayers are paying the right amount of tax at the right time and
securing the correct tax allowances and tax relief. [2] The first known taxation occurred in
Ancient Egypt around 3000–2800 BC.[3] Taxes consist of direct or indirect taxes and may
be paid in money or as labor equivalent.
All countries have a tax system in place to pay for public, common societal, or agreed
national needs and for the functions of government. [citation needed] Some countries levy a flat
percentage rate of taxation on personal annual income, but most scale taxes are
progressive based on brackets of yearly income amounts. Most countries charge a tax on
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an individual's income and corporate income. Countries or sub-units often also
impose wealth taxes, inheritance taxes, gift taxes, property taxes, sales taxes, use
taxes, environmental taxes, payroll taxes, duties, or tariffs. It is also possible to levy a tax
on tax, as with a gross receipts tax.
In economic terms (circular flow of income), taxation transfers wealth from households
or businesses to the government. This affects economic growth and welfare, which can be
increased (known as fiscal multiplier) or decreased (known as excess burden of taxation).
Consequently, taxation is a highly debated topic by some, as although taxation is deemed
necessary by consensus for society to function and grow in an orderly and equitable
manner through the government provision of public goods and public services,[4][5][6]
[7]
others such as libertarians and anarcho-capitalists are anti-taxation and denounce
taxation broadly or in its entirety, classifying taxation
as theft or extortion through coercion along with the use of force. Within market
economies, taxation is considered the most viable option to operate the government
(instead of widespread state ownership of the means of production), as taxation enables
the government to generate revenue without heavily interfering with the market and
private businesses; taxation preserves the efficiency and productivity of the private
sector by allowing individuals and companies to make their own economic decisions,
engage in flexible production, competition, and innovation as a result of market forces.
Certain countries (usually small in size or population, which results in a smaller
infrastructure and social expenditure) function as tax havens by imposing minimal taxes
on the personal income of individuals and corporate income. These tax havens attract
capital from abroad (particularly from larger economies) while resulting in loss of tax
revenues within other non-haven countries (through base erosion and profit shifting).
Overview
[edit]
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Total revenue from

direct and indirect taxes given as share of GDP in 2017[8]
Legal and economic definitions of taxes differ, such that many transfers to governments
are not considered taxes by economists. For example, some transfers to the public sector
are comparable to prices. Examples include tuition at public universities and fees for
utilities provided by local governments. Governments also obtain resources by "creating"
money and coins (for example, by printing bills and by minting coins), through voluntary
gifts (for example, contributions to public universities and museums), by imposing
penalties (such as traffic fines), by borrowing and confiscating criminal proceeds. From
the view of economists, a tax is a non-penal, yet compulsory transfer of resources from
the private to the public sector, levied on a basis of predetermined criteria and without
reference to specific benefits received.
In modern taxation systems, governments levy taxes in money; but in-
kind and corvée taxation are characteristic of traditional or pre-capitalist states and their
functional equivalents. The method of taxation and the government expenditure of taxes
raised is often highly debated in politics and economics. Tax collection is performed by a
government agency such as the Internal Revenue Service (IRS) in the United States, His
Majesty's Revenue and Customs (HMRC) in the United Kingdom, the Canada Revenue
Agency or the Australian Taxation Office. When taxes are not fully paid, the state may
impose civil penalties (such as fines or forfeiture) or criminal penalties (such
as incarceration) on the non-paying entity or individual.[9]
Purposes and effects
[edit]
The levying of taxes aims to raise revenue to fund governing, to alter prices in order to
affect demand, or to regulate some form of cost or benefit. States and their functional
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equivalents throughout history have used the money provided by taxation to carry out
many functions. Some of these include expenditures on
economic infrastructure (roads, public transportation, sanitation, legal systems, public
security, public education, public health systems), military, scientific research &
development, culture and the arts, public works, distribution, data
collection and dissemination, public insurance, and the operation of government itself. A
government's ability to raise taxes is called its fiscal capacity.
When expenditures exceed tax revenue, a government accumulates government debt. A
portion of taxes may be used to service past debts. Governments also use taxes to
fund welfare and public services. These services can include education
systems, pensions for the elderly, unemployment benefits, transfer
payments, subsidies and public transportation. Energy, water and waste
management systems are also common public utilities.
According to the proponents of the chartalist theory of money creation, taxes are not
needed for government revenue, as long as the government in question is able to issue fiat
money. According to this view, the purpose of taxation is to maintain the stability of the
currency, express public policy regarding the distribution of wealth, subsidizing certain
industries or population groups or isolating the costs of certain benefits, such as highways
or social security.[10]
Types
[edit]
The Organisation for Economic Co-operation and Development (OECD) publishes an
analysis of the tax systems of member countries. As part of such analysis, OECD has
developed a definition and system of classification of internal taxes, [11] generally followed
below. In addition, many countries impose taxes (tariffs) on the import of goods.
Income Taxation
[edit]
Income tax
[edit]
Main article: Income tax
Many jurisdictions tax the income of individuals and of business entities,
including corporations. Generally, the authorities impose a tax on net profits from
a business, on net gains, and on other income. Computation of income subject to tax may
be determined under accounting principles used in the jurisdiction, which tax-
law principles in the jurisdiction may modify or replace. The incidence of taxation varies
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by system, and some systems may be viewed as progressive or regressive. Rates of tax
may vary or be constant (flat) by income level. Many systems allow individuals certain
personal allowances and other non-business reductions to taxable income, although
business deductions tend to be favored over personal deductions.
Tax-collection agencies often collect personal income tax on a pay-as-you-earn basis,
with corrections made after the end of the tax year. These corrections take one of two
forms:
 payments to the government, from taxpayers who have not paid enough during
the tax year
 tax refunds from the government to those who have overpaid
Income-tax systems often make deductions available that reduce the total tax liability by
reducing total taxable income. They may allow losses from one type of income to count
against another – for example, a loss on the stock market may be deducted against taxes
paid on wages. Other tax systems may isolate the loss, such that business losses can only
be deducted against business income tax by carrying forward the loss to later tax years.
Negative income tax
[edit]
Main article: Negative income tax
In economics, a negative income tax (abbreviated NIT) is a progressive income
tax system where people earning below a certain amount receive supplemental payment
from the government instead of paying taxes to the government.
Capital gains
[edit]
Main article: Capital gains tax
Most jurisdictions imposing an income tax treat capital gains as part of income subject to
tax. Capital gain is generally a gain on sale of capital assets—that is, those assets not held
for sale in the ordinary course of business. Capital assets include personal assets in many
jurisdictions. Some jurisdictions provide preferential rates of tax or only partial taxation
for capital gains. Some jurisdictions impose different rates or levels of capital-gains
taxation based on the length of time the asset was held. Because tax rates are often much
lower for capital gains than for ordinary income, there is widespread controversy and
dispute about the proper definition of capital.
Corporate
[edit]
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Main article: Corporate tax
Corporate tax refers to income tax, capital tax, net-worth tax, or other taxes imposed on
corporations. Rates of tax and the taxable base for corporations may differ from those for
individuals or for other taxable persons.
Social-security contributions
[edit]
General government revenue, in % of GDP, from

social contributions. For this data, 20% of the variance of GDP per capita – adjusted for
purchasing power parity (PPP) – is explained by revenue from social security and the
like.
Many countries provide publicly funded retirement or healthcare systems. [12] In
connection with these systems, the country typically requires employers or employees to
make compulsory payments.[13] These payments are often computed by reference to
wages or earnings from self-employment. Tax rates are generally fixed, but a different
rate may be imposed on employers than on employees. [14] Some systems provide an upper
limit on earnings subject to the tax. A few systems provide that the tax is payable only on
wages above a particular amount. Such upper or lower limits may apply for retirement
but not for health-care components of the tax. Some have argued that such taxes on
wages are a form of "forced savings" and not really a tax, while others point to
redistribution through such systems between generations (from newer cohorts to older
cohorts) and across income levels (from higher income levels to lower income-levels)
which suggests that such programs are really taxed and spending programs.
Payroll or workforce
[edit]
Main article: Payroll tax
Unemployment and similar taxes are often imposed on employers based on the total
payroll. These taxes may be imposed in both the country and sub-country levels.[15]
Wealth
[edit]
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A wealth tax is levied on the total value of personal assets, including: bank deposits, real
estate, assets in insurance and pension plans, ownership of unincorporated
businesses, financial securities, and personal trusts.[16] Liabilities (primarily mortgages
and other loans) are typically deducted, hence it is sometimes called a net wealth tax.
Property
[edit]
Recurrent property taxes may be imposed on immovable property (real property) and on
some classes of movable property. In addition, recurrent taxes may be imposed on the net
wealth of individuals or corporations.[17] Many jurisdictions impose inheritance tax on
property at time of inheritance or gift tax at the time of gift transfer. Some jurisdictions
impose taxes on financial or capital transactions.
Property taxes
[edit]
Main articles: Property tax and Land value tax
A property tax (or millage tax) is an ad valorem tax levy on the value of a property that
the owner of the property is required to pay to a government in which the property is
situated. Multiple jurisdictions may tax the same property. There are three general
varieties of property: land, improvements to land (immovable human-made things, e.g.
buildings), and personal property (movable things). Real estate or realty is the
combination of land and improvements to the land.
Property taxes are usually charged on a recurrent basis (e.g., yearly). A common type of
property tax is an annual charge on the ownership of real estate, where the tax base is the
estimated value of the property. For a period of over 150 years from 1695, the
government of England levied a window tax, with the result that one can still see listed
buildings with windows bricked up in order to save their owner's money. A similar tax on
hearths existed in France and elsewhere, with similar results. The two most common
types of event-driven property taxes are stamp duty, charged upon change of ownership,
and inheritance tax, which many countries impose on the estates of the deceased.
In contrast with a tax on real estate (land and buildings), a land-value tax (or LVT) is
levied only on the unimproved value of the land ("land" in this instance may mean either
the economic term, i.e., all-natural resources, or the natural resources associated with
specific areas of the Earth's surface: "lots" or "land parcels"). Proponents of the land-
value tax argue that it is economically justified, as it will not deter production, distort
market mechanisms or otherwise create deadweight losses the way other taxes do.[18]
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When real estate is held by a higher government unit or some other entity not subject to
taxation by the local government, the taxing authority may receive a payment in lieu of
taxes to compensate it for some or all of the foregone tax revenues.
In many jurisdictions (including many American states), there is a general tax levied
periodically on residents who own personal property (personalty) within the jurisdiction.
Vehicle and boat registration fees are subsets of this kind of tax. The tax is often designed
with blanket coverage and large exceptions for things like food and clothing. Household
goods are often exempt when kept or used within the household. [19] Any otherwise non-
exempt object can lose its exemption if regularly kept outside the household. [19] Thus, tax
collectors often monitor newspaper articles for stories about wealthy people who have
lent art to museums for public display, because the artworks have then become subject to
personal property tax.[19] If an artwork had to be sent to another state for some touch-ups,
it may have become subject to personal property tax in that state as well.[19]
Inheritance
[edit]
Main article: Inheritance tax
Inheritance tax, also called estate tax, are taxes that arise for inheritance or inherited
income.[20] In United States tax law, there is a distinction between an estate tax and an
inheritance tax: the former taxes the personal representatives of the deceased, while the
latter taxes the beneficiaries of the estate. However, this distinction does not apply in
other jurisdictions; for example, if using this terminology UK inheritance tax would be an
estate tax.
Expatriation
[edit]
Main article: Expatriation tax
An expatriation tax is a tax on individuals who renounce their citizenship or residence.
The tax is often imposed based on a deemed disposition of all the individual's property.
One example is the United States under the American Jobs Creation Act, where any
individual who has a net worth of $2 million or an average income-tax liability of
$127,000 who renounces his or her citizenship and leaves the country is automatically
assumed to have done so for tax avoidance reasons and is subject to a higher tax rate.[21]
Transfer
[edit]
Main article: Transfer tax
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Historically, in many countries, a contract needs to have a stamp affixed to make it valid.
The charge for the stamp is either a fixed amount or a percentage of the value of the
transaction. In most countries, the stamp has been abolished but stamp duty remains.
Stamp duty is levied in the UK on the purchase of shares and securities, the issue of
bearer instruments, and certain partnership transactions. Its modern derivatives, stamp
duty reserve tax and stamp duty land tax, are respectively charged on transactions
involving securities and land. Stamp duty has the effect of discouraging speculative
purchases of assets by decreasing liquidity. In the United States, transfer tax is often
charged by the state or local government and (in the case of real property transfers) can
be tied to the recording of the deed or other transfer documents.
Wealth (net worth)
[edit]
Main article: Wealth tax
Some countries' governments will require a declaration of the taxpayers' balance
sheet (assets and liabilities), and from that exact a tax on net worth (assets minus
liabilities), as a percentage of the net worth, or a percentage of the net worth exceeding a
certain level. The tax may be levied on "natural" or "legal persons."
Goods and services
[edit]
Value added
[edit]
Main article: Value added tax
A value-added tax (VAT), also known as Goods and Services Tax (GST), Single Business
Tax, or Turnover Tax in some countries, applies the equivalent of a sales tax to every
operation that creates value. To give an example, sheet steel is imported by a machine
manufacturer. That manufacturer will pay the VAT on the purchase price, remitting that
amount to the government. The manufacturer will then transform the steel into a machine,
selling the machine for a higher price to a wholesale distributor. The manufacturer will
collect the VAT on the higher price but will remit to the government only the excess
related to the "value-added" (the price over the cost of the sheet steel). The wholesale
distributor will then continue the process, charging the retail distributor the VAT on the
entire price to the retailer, but remitting only the amount related to the distribution mark-
up to the government. The last VAT amount is paid by the eventual retail customer who
cannot recover any of the previously paid VAT. For a VAT and sales tax of identical rates,
the total tax paid is the same, but it is paid at differing points in the process.
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VAT is usually administrated by requiring the company to complete a VAT return, giving
details of VAT it has been charged (referred to as input tax) and VAT it has charged to
others (referred to as output tax). The difference between output tax and input tax is
payable to the Local Tax Authority.
Many tax authorities have introduced automated VAT which has
increased accountability and auditability, by utilizing computer systems, thereby also
enabling anti-cybercrime offices as well. [citation needed]
Sales
[edit]
Main article: Sales tax
Sales taxes are levied when a commodity is sold to its final consumer. Retail
organizations contend that such taxes discourage retail sales. The question of whether
they are generally progressive or regressive is a subject of much current debate. People
with higher incomes spend a lower proportion of them, so a flat-rate sales tax will tend to
be regressive. It is therefore common to exempt food, utilities, and other necessities from
sales taxes, since poor people spend a higher proportion of their incomes on these
commodities, so such exemptions make the tax more progressive. This is the classic "You
pay for what you spend" tax, as only those who spend money on non-exempt (i.e. luxury)
items pay the tax.
A small number of U.S. states rely entirely on sales taxes for state revenue, as those states
do not levy a state income tax. Such states tend to have a moderate to a large amount of
tourism or inter-state travel that occurs within their borders, allowing the state to benefit
from taxes from people the state would otherwise not tax. In this way, the state is able to
reduce the tax burden on its citizens. The U.S. states that do not levy a state income tax
are Alaska, Tennessee, Florida, Nevada, South Dakota, Texas, [22] Washington state, and
Wyoming. Additionally, New Hampshire and Tennessee levy state income taxes only
on dividends and interest income. Of the above states, only Alaska and New Hampshire
do not levy a state sales tax. Additional information can be obtained at the Federation of
Tax Administrators website.
In the United States, there is a growing movement[23] for the replacement of all federal
payroll and income taxes (both corporate and personal) with a national retail sales tax and
monthly tax rebate to households of citizens and legal resident aliens. The tax proposal is
named FairTax. In Canada, the federal sales tax is called the Goods and Services Tax
(GST) and now stands at 5%. The provinces of British Columbia, Saskatchewan,
Manitoba, and Prince Edward Island also have a provincial sales tax [PST]. The
provinces of Nova Scotia, New Brunswick, Newfoundland & Labrador, and Ontario have
harmonized their provincial sales taxes with the GST—Harmonized Sales Tax [HST],
and thus is a full VAT. The province of Quebec collects the Quebec Sales Tax [QST]
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which is based on the GST with certain differences. Most businesses can claim back the
GST, HST, and QST they pay, and so effectively it is the final consumer who pays the
tax.
Excises
[edit]
Main article: Excise
An excise duty is an indirect tax imposed upon goods during the process of their
manufacture, production or distribution, and is usually proportionate to their quantity or
value. Excise duties were first introduced into England in the year 1643, as part of a
scheme of revenue and taxation devised by parliamentarian John Pym and approved by
the Long Parliament. These duties consisted of charges on beer, ale, cider, cherry wine,
and tobacco, to which list were afterward added paper, soap, candles, malt, hops, and
sweets. The basic principle of excise duties was that they were taxes on the production,
manufacture, or distribution of articles which could not be taxed through the customs
house, and revenue derived from that source is called excise revenue proper. The
fundamental conception of the term is that of a tax on articles produced or manufactured
in a country. In the taxation of such articles of luxury as spirits, beer, tobacco, and cigars,
it has been the practice to place a certain duty on the importation of these articles
(a customs duty).[24]
Excises (or exemptions from them) are also used to modify consumption patterns of a
certain area (social engineering). For example, a high excise is used to
discourage alcohol consumption, relative to other goods. This may be combined
with hypothecation if the proceeds are then used to pay for the costs of treating illness
caused by alcohol use disorder. Similar taxes may exist
on tobacco, pornography, marijuana etc., and they may be collectively referred to as "sin
taxes". A carbon tax is a tax on the consumption of carbon-based non-renewable fuels,
such as petrol, diesel-fuel, jet fuels, and natural gas. The object is to reduce the release of
carbon into the atmosphere. In the United Kingdom, vehicle excise duty is an annual tax
on vehicle ownership.
Tariff
[edit]
Main article: Tariff
An import or export tariff (also called customs duty or impost) is a charge for the
movement of goods through a political border. Tariffs discourage trade, and they may be
used by governments to protect domestic industries. A proportion of tariff revenues is
often hypothecated to pay the government to maintain a navy or border police. The
classic ways of cheating a tariff are smuggling or declaring a false value of goods. Tax,
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tariff and trade rules in modern times are usually set together because of their common
impact on industrial policy, investment policy, and agricultural policy. A trade bloc is a
group of allied countries agreeing to minimize or eliminate tariffs against trade with each
other, and possibly to impose protective tariffs on imports from outside the bloc.
A customs union has a common external tariff, and the participating countries share the
revenues from tariffs on goods entering the customs union.
In some societies, tariffs also could be imposed by local authorities on the movement of
goods between regions (or via specific internal gateways). A notable example is the likin,
which became an important revenue source for local governments in the late Qing China.
Other
[edit]
License fees
[edit]
Occupational taxes or license fees may be imposed on businesses or individuals engaged
in certain businesses. Many jurisdictions impose a tax on vehicles.
Poll
[edit]
Main article: Poll tax
A poll tax, also called a per capita tax, or capitation tax, is a tax that levies a set amount
per individual. It is an example of the concept of fixed tax. One of the earliest taxes
mentioned in the Bible of a half-shekel per annum from each adult Jew (Ex. 30:11–16)
was a form of the poll tax. Poll taxes are administratively cheap because they are easy to
compute and collect and difficult to cheat. Economists have considered poll taxes
economically efficient because people are presumed to be in fixed supply and poll taxes,
therefore, do not lead to economic distortions. However, poll taxes are very unpopular
because poorer people pay a higher proportion of their income than richer people. In
addition, the supply of people is in fact not fixed over time: on average, couples will
choose to have fewer children if a poll tax is imposed. [25][failed verification] The introduction of a
poll tax in medieval England was the primary cause of the 1381 Peasants' Revolt.
Scotland was the first to be used to test the new poll tax in 1989 with England and Wales
in 1990. The change from progressive local taxation based on property values to a single-
rate form of taxation regardless of ability to pay (the Community Charge, but more
popularly referred to as the Poll Tax), led to widespread refusal to pay and to incidents of
civil unrest, known colloquially as the 'Poll Tax Riots'.
Other
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[edit]
Some types of taxes have been proposed but not actually adopted in any major
jurisdiction. These include:
 Bank tax
 Financial transaction taxes including currency transaction taxes
Descriptive labels
[edit]
Ad valorem and per unit
[edit]
Main articles: Ad valorem tax and Per unit tax
An ad valorem tax is one where the tax base is the value of a good, service, or property.
Sales taxes, tariffs, property taxes, inheritance taxes, and value-added taxes are different
types of ad valorem tax. An ad valorem tax is typically imposed at the time of a
transaction (sales tax or value-added tax (VAT)) but it may be imposed on an annual basis
(property tax) or in connection with another significant event (inheritance tax or tariffs).
In contrast to ad valorem taxation is a per unit tax, where the tax base is the quantity of
something, regardless of its price. An excise tax is an example.
Consumption
[edit]
Main article: Consumption tax
Consumption tax refers to any tax on non-investment spending and can be implemented
by means of a sales tax, consumer value-added tax, or by modifying an income tax to
allow for unlimited deductions for investment or savings.
Environmental
[edit]
See also: Ecotax, Gas Guzzler Tax, Polluter pays principle, and Pigovian tax
This includes natural resources consumption tax, greenhouse gas tax (i.e. carbon tax),
"sulfuric tax", and others. The stated purpose is to reduce the environmental impact
by repricing. Economists describe environmental impacts as negative externalities. As
early as 1920, Arthur Pigou suggested a tax to deal with externalities (see also the section
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on Increased economic welfare below). The proper implementation of environmental
taxes has been the subject of a long-lasting debate.
Proportional, progressive, regressive, and lump sum
[edit]
An important feature of tax systems is the percentage of the tax burden as it relates to
income or consumption. The terms progressive, regressive, and proportional are used to
describe the way the rate progresses from low to high, from high to low, or
proportionally. The terms describe a distribution effect, which can be applied to any type
of tax system (income or consumption) that meets the definition.
 A progressive tax is a tax imposed so that the effective tax rate increases as the
amount to which the rate is applied increases.
 The opposite of a progressive tax is a regressive tax, where the effective tax rate
decreases as the amount to which the rate is applied increases. This effect is
commonly produced where means testing is used to withdraw tax allowances or
state benefits.
 In between is a proportional tax, where the effective tax rate is fixed, while the
amount to which the rate is applied increases.
 A lump-sum tax is a tax that is a fixed amount, no matter the change in
circumstance of the taxed entity. This in actuality is a regressive tax as those with
lower income must use a higher percentage of their income than those with higher
income and therefore the effect of the tax reduces as a function of income.
The terms can also be used to apply meaning to the taxation of select consumption, such
as a tax on luxury goods and the exemption of basic necessities may be described as
having progressive effects as it increases a tax burden on high end consumption and
decreases a tax burden on low end consumption.[26][27][28]
Direct and indirect
[edit]
Main articles: Direct tax and Indirect tax
Taxes are sometimes referred to as "direct taxes" or "indirect taxes". The meaning of
these terms can vary in different contexts, which can sometimes lead to confusion. An
economic definition, by Atkinson, states that "...direct taxes may be adjusted to the
individual characteristics of the taxpayer, whereas indirect taxes are levied on
transactions irrespective of the circumstances of buyer or seller." [29] According to this
definition, for example, income tax is "direct", and sales tax is "indirect".
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In law, the terms may have different meanings. In U.S. constitutional law, for instance,
direct taxes refer to poll taxes and property taxes, which are based on simple existence or
ownership. Indirect taxes are imposed on events, rights, privileges, and activities. [30] Thus,
a tax on the sale of the property would be considered an indirect tax, whereas the tax on
simply owning the property itself would be a direct tax.
Fees and effective
[edit]
Governments may charge user fees, tolls, or other types of assessments in exchange of
particular goods, services, or use of property. These are generally not considered taxes, as
long as they are levied as payment for a direct benefit to the individual paying. [31] Such
fees include:
 Tolls: a fee charged to travel via a road, bridge, tunnel, canal, waterway or other
transportation facilities. Historically tolls have been used to pay for public bridge,
road, and tunnel projects. They have also been used in privately constructed
transport links. The toll is likely to be a fixed charge, possibly graduated for
vehicle type, or for distance on long routes.
 User fees, such as those charged for use of parks or other government-owned
facilities.
 Ruling fees charged by governmental agencies to make determinations in
particular situations.
Some scholars refer to certain economic effects as taxes, though they are not levies
imposed by governments. These include:
 Inflation tax: the economic disadvantage suffered by holders of cash and cash
equivalents in one denomination of currency due to the effects of expansionary
monetary policy[32]
 Financial repression: Government policies such as interest-rate caps on
government debt, financial regulations such as reserve requirements and capital
controls, and barriers to entry in markets where the government owns or controls
businesses.[33]
History
[edit]
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Egyptian peasants seized for non-payment of taxes.

(Pyramid Age)
The first known system of taxation was in Ancient Egypt around 3000–2800 BC, in
the First Dynasty of the Old Kingdom of Egypt.[3] The earliest and most widespread
forms of taxation were the corvée and the tithe. The corvée was forced labor provided to
the state by peasants too poor to pay other forms of taxation (labor in ancient Egyptian is
a synonym for taxes).[34] Records from the time document that the Pharaoh would conduct
a biennial tour of the kingdom, collecting tithes from the people. Other records are
granary receipts on limestone flakes and papyrus.[35] Early taxation is also described in
the Bible. In Genesis (chapter 47, verse 24 – the New International Version), it states "But
when the crop comes in, give a fifth of it to Pharaoh. The other four-fifths you may keep
as seed for the fields and as food for yourselves and your households and your children".
Samgharitr is the name mentioned for the Tax collector in the Vedic texts. [36] In Hattusa,
the capital of the Hittite Empire, grains were collected as a tax from the surrounding
lands, and stored in silos as a display of the king's wealth.[37]
In the Persian Empire, a regulated and sustainable tax system was introduced by Darius I
the Great in 500 BC;[38] the Persian system of taxation was tailored to each Satrapy (the
area ruled by a Satrap or provincial governor). At differing times, there were between 20
and 30 Satrapies in the Empire and each was assessed according to its supposed
productivity. It was the responsibility of the Satrap to collect the due amount and to send
it to the treasury, after deducting his expenses (the expenses and the power of deciding
precisely how and from whom to raise the money in the province, offer maximum
opportunity for rich pickings). The quantities demanded from the various provinces gave
a vivid picture of their economic potential. For instance, Babylon was assessed for the
highest amount and for a startling mixture of commodities; 1,000 silver talents and four
months supply of food for the army. India, a province fabled for its gold, was to supply
gold dust equal in value to the very large amount of 4,680 silver talents. Egypt was
known for the wealth of its crops; it was to be the granary of the Persian Empire (and,
later, of the Roman Empire) and was required to provide 120,000 measures of grain in
addition to 700 talents of silver. [39] This tax was exclusively levied on Satrapies based on
their lands, productive capacity and tribute levels.[40]
The Rosetta Stone, a tax concession issued by Ptolemy V in 196 BC and written in three
languages "led to the most famous decipherment in history—the cracking of
hieroglyphics".[41]
In the Roman Republic, taxes were collected from individuals at the rate of between 1%
and 3% of the assessed value of their total property. However, since it was extremely
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difficult to facilitate the collection of the tax, the government auctioned it every year. The
winning tax farmers (called publicani) paid the tax revenue to the government in advance
and then kept the taxes collected from individuals. The publicani paid the tax revenue in
coins, but collected the taxes using other exchange media, thus relieving the government
of the work to carry out the currency conversion themselves. The revenue payment
essentially worked as a loan to the government, which paid interest on it. Although this
scheme was a profitable enterprise for the government as well as the publicani, it was
later replaced by a direct tax system by the emperor Augustus; after which, each province
was obliged to pay 1% tax on wealth and a flat rate on each adult. This brought about
regular census and shifted the tax system more towards taxing an individual's income
rather than wealth.[42]
Islamic rulers imposed Zakat (a tax on Muslims) and Jizya (a poll tax on conquered non-
Muslims). In India this practice began in the 11th century.
Trends
[edit]
Numerous records of government tax collection in Europe since at least the 17th century
are still available today. But taxation levels are hard to compare to the size and flow of
the economy since production numbers are not as readily available. Government
expenditures and revenue in France during the 17th century went from about 24.30
million livres in 1600–10 to about 126.86 million livres in 1650–59 to about 117.99
million livres in 1700–10 when government debt had reached 1.6 billion livres. In 1780–
89, it reached 421.50 million livres.[43] Taxation as a percentage of production of final
goods may have reached 15–20% during the 17th century in places such as France,
the Netherlands, and Scandinavia. During the war-filled years of the eighteenth and early
nineteenth century, tax rates in Europe increased dramatically as war became more
expensive and governments became more centralized and adept at gathering taxes. This
increase was greatest in England, Peter Mathias and Patrick O'Brien found that the tax
burden increased by 85% over this period. Another study confirmed this number, finding
that per capita tax revenues had grown almost sixfold over the eighteenth century, but
that steady economic growth had made the real burden on each individual only double
over this period before the industrial revolution. Effective tax rates were higher in Britain
than France in the years before the French Revolution, twice in per capita income
comparison, but they were mostly placed on international trade. In France, taxes were
lower but the burden was mainly on landowners, individuals, and internal trade and thus
created far more resentment.[44]
Taxation as a percentage of GDP 2016 was 45.9% in Denmark, 45.3% in France, 33.2%
in the United Kingdom, 26% in the United States, and among all OECD members an
average of 34.3%.[45][46]
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Forms
[edit]
In monetary economies prior to fiat banking, a critical form of taxation was seigniorage,
the tax on the creation of money.
Other obsolete forms of taxation include:
 Scutage, which is paid in lieu of military service; strictly speaking, it is a
commutation of a non-tax obligation rather than a tax as such but functioning as a
tax in practice.
 Tallage, a tax on feudal dependents.
 Tithe, a tax-like payment (one-tenth of one's earnings or agricultural produce),
paid to the Church (and thus too specific to be a tax in strict technical terms). This
should not be confused with the modern practice of the same name which is
normally voluntary.
 (Feudal) aids, a type of tax or due that was paid by a vassal to his lord during
feudal times.
 Danegeld, a medieval land tax originally raised to pay off raiding Danes and later
used to fund military expenditures.
 Carucage, a tax which replaced the Danegeld in England.
 Tax farming, the principle of assigning the responsibility for tax revenue
collection to private citizens or groups.
 Socage, a feudal tax system based on land rent.
 Burgage, a feudal tax system based on land rent.
Some principalities taxed windows, doors, or cabinets to reduce consumption of imported
glass and hardware. Armoires, hutches, and wardrobes were employed to evade taxes on
doors and cabinets. In some circumstances, taxes are also used to enforce public policy
like congestion charge (to cut road traffic and encourage public transport) in London. In
Tsarist Russia, taxes were clamped on beards. Today, one of the most-complicated
taxation systems worldwide is in Germany. Three-quarters of the world's taxation
literature refers to the German system. [citation needed] Under the German system, there are 118
laws, 185 forms, and 96,000 regulations, spending €3.7 billion to collect the income tax.
[citation needed]
In the United States, the IRS has about 1,177 forms and instructions,
[47]
28.4111 megabytes of Internal Revenue Code[48] which contained 3.8 million words as
of 1 February 2010,[49] numerous tax regulations in the Code of Federal Regulations,
[50]
and supplementary material in the Internal Revenue Bulletin.[51] Today, governments in
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more advanced economies (i.e. Europe and North America) tend to rely more on direct
taxes, while developing economies (i.e. several African countries) rely more on indirect
taxes.
Economic effects
[edit]
Public finance revenue from taxes in % of GDP. For

this data, 32% of the variance of GDP per capita – adjusted for purchasing power parity
(PPP) – is explained by revenue from social security and the like.
In economic terms, taxation transfers wealth from households or businesses to the
government of a nation. Adam Smith writes in The Wealth of Nations that
"…the economic incomes of private people are of three main types: rent, profit, and
wages. Ordinary taxpayers will ultimately pay their taxes from at least one of these
revenue sources. The government may intend that a particular tax should fall exclusively
on rent, profit, or wages – and that another tax should fall on all three private income
sources jointly. However, many taxes will inevitably fall on resources and persons very
different from those intended … Good taxes meet four major criteria. They are (1)
proportionate to incomes or abilities to pay (2) certain rather than arbitrary (3) payable at
times and in ways convenient to the taxpayers and (4) cheap to administer and collect."[52]
The side-effects of taxation (such as economic distortions) and theories about how best to
tax are an important subject in microeconomics. Taxation is almost never a simple
transfer of wealth. Economic theories of taxation approach the question of how to
maximize economic welfare through taxation.
A 2019 study looking at the impact of tax cuts for different income groups, it was tax cuts
for low-income groups that had the greatest positive impact on employment growth.
[53]
Tax cuts for the wealthiest top 10% had a small impact.[53]
Incidence
[edit]
Main article: Tax incidence
See also: Effect of taxes and subsidies on price
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Law establishes from whom a tax is collected. In many countries, taxes are imposed on
businesses (such as corporate taxes or portions of payroll taxes). However, who
ultimately pays the tax (the tax "burden") is determined by the marketplace as taxes
become embedded into production costs. Economic theory suggests that the economic
effect of tax does not necessarily fall at the point where it is legally levied. For instance, a
tax on employment paid by employers will impact the employee, at least in the long run.
The greatest share of the tax burden tends to fall on the most inelastic factor involved—
the part of the transaction which is affected least by a change in price. So, for instance, a
tax on wages in a town will (at least in the long run) affect property-owners in that area.
Depending on how quantities supplied and demanded to vary with price (the "elasticities"
of supply and demand), a tax can be absorbed by the seller (in the form of lower pre-tax
prices), or by the buyer (in the form of higher post-tax prices). If the elasticity of supply
is low, more of the tax will be paid by the supplier. If the elasticity of demand is low,
more will be paid by the customer; and, contrariwise for the cases where those elasticities
are high. If the seller is a competitive firm, the tax burden is distributed over the factors
of production depending on the elasticities thereof; this includes workers (in the form of
lower wages), capital investors (in the form of loss to shareholders), landowners (in the
form of lower rents), entrepreneurs (in the form of lower wages of superintendence) and
customers (in the form of higher prices).
To show this relationship, suppose that the market price of a product is $1.00 and that a
$0.50 tax is imposed on the product that, by law, is to be collected from the seller. If the
product has an elastic demand, a greater portion of the tax will be absorbed by the seller.
This is because goods with elastic demand cause a large decline in quantity demanded a
small increase in price. Therefore, in order to stabilize sales, the seller absorbs more of
the additional tax burden. For example, the seller might drop the price of the product to
$0.70 so that, after adding in the tax, the buyer pays a total of $1.20, or $0.20 more than
he did before the $0.50 tax was imposed. In this example, the buyer has paid $0.20 of the
$0.50 tax (in the form of a post-tax price) and the seller has paid the remaining $0.30 (in
the form of a lower pre-tax price).[54]
Increased economic welfare
[edit]
Government spending
[edit]
The purpose of taxation is to provide for government spending without inflation. The
provision of public goods such as roads and other infrastructure, schools, a social safety
net, public health systems, national defense, law enforcement, and a courts
system increases the economic welfare of society if the benefit outweighs the costs
involved.
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Pigovian
[edit]
The existence of a tax can increase economic efficiency in some cases. If there is
a negative externality associated with a good (meaning that it has negative effects not felt
by the consumer) then a free market will trade too much of that good. By taxing the good,
the government can raise revenue to address specific problems while increasing overall
welfare.
The goal is to tax people when they are creating societal costs in addition to their
personal costs. By taxing goods with negative externalities, the government attempts to
increase economic efficiency while raising revenues.
This type of tax is called a Pigovian tax, after economist Arthur Pigou who wrote about it
in his 1920 book "The Economics of Welfare".[55]
Pigovian taxes might target the undesirable production of greenhouse gases which
cause climate change (namely a carbon tax), polluting fuels (such as petrol), water or air
pollution (namely an ecotax), goods which incur public healthcare costs (such
as alcohol or tobacco), and excess demand of certain public goods (such as traffic
congestion pricing). The idea is to aim taxes at people that cause an above-average
amount of societal harm so the free market incorporates all costs as opposed to only
personal costs, with the benefit of lowering the overall tax burden for people who cause
less societal harm.
Reduced inequality
[edit]
Progressive taxation generally reduces economic inequality, even when the tax revenue is
not redistributed from higher-income individuals to lower-income individuals.[56]
[57]
However, in a highly specific condition, progressive taxation increases economic
inequality when lower-income individuals consume goods and services produced by
higher-income individuals, who in turn consume only from other higher-income
individuals (trickle-up effect).[58]
Reduced economic welfare
[edit]
Most taxes (see below) have side effects that reduce economic welfare, either by
mandating unproductive labor (compliance costs) or by creating distortions to economic
incentives (deadweight loss and perverse incentives).[citation needed]
Cost of compliance
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[edit]
Although governments must spend money on tax collection activities, some of the costs,
particularly for keeping records and filling out forms, are borne by businesses and by
private individuals. These are collectively called costs of compliance. More complex tax
systems tend to have higher compliance costs. This fact can be used as the basis for
practical or moral arguments in favor of tax simplification (such as the FairTax or
OneTax, and some flat tax proposals).
Deadweight costs
[edit]
Diagram illustrating deadweight costs of

taxes
In the absence of negative externalities, the introduction of taxes into a market
reduces economic efficiency by causing deadweight loss. In a competitive market,
the price of a particular economic good adjusts to ensure that all trades which benefit
both the buyer and the seller of a good occur. The introduction of a tax causes the price
received by the seller to be less than the cost to the buyer by the amount of the tax. This
causes fewer transactions to occur, which reduces economic welfare; the individuals or
businesses involved are less well off than before the tax. The tax burden and the amount
of deadweight cost is dependent on the elasticity of supply and demand for the good
taxed.
Most taxes—including income tax and sales tax—can have significant deadweight costs.
The only way to avoid deadweight costs in an economy that is generally competitive is to
refrain from taxes that change economic incentives. Such taxes include the land value
tax,[59] where the tax is on a good in completely inelastic supply. By taxing the value of
unimproved land as opposed to what's built on it, a land value tax does not increase taxes
on landowners for improving their land. This is opposed to traditional property taxes
which reward land abandonment and disincentivize construction, maintenance, and
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repair. Another example of a tax with few deadweight costs is a lump sum tax such as
a poll tax (head tax) which is paid by all adults regardless of their choices. Arguably
a windfall profits tax which is entirely unanticipated can also fall into this category.
Deadweight loss does not account for the effect taxes have in leveling the business
playing field. Businesses that have more money are better suited to fend off competition.
It is common that an industry with a small amount of very large corporations has a very
high barrier of entry for new entrants coming into the marketplace. This is due to the fact
that the larger the corporation, the better its position to negotiate with suppliers. Also,
larger companies may be able to operate at low or even negative profits for extended
periods of time, thus pushing out competition. More progressive taxation of profits,
however, would reduce such barriers for new entrants, thereby increasing competition
and ultimately benefiting consumers.[60]
Perverse incentives
[edit]
Complexity of the tax code in developed economies offers perverse tax incentives. The
more details of tax policy there are, the more opportunities for legal tax avoidance and
illegal tax evasion. These not only result in lost revenue but involve additional costs: for
instance, payments made for tax advice are essentially deadweight costs because they add
no wealth to the economy. Perverse incentives also occur because of non-taxable 'hidden'
transactions; for instance, a sale from one company to another might be liable for sales
tax, but if the same goods were shipped from one branch of a corporation to another, no
tax would be payable.
To address these issues, economists often suggest simple and transparent tax structures
that avoid providing loopholes. Sales tax, for instance, can be replaced with a value
added tax which disregards intermediate transactions.
In developing countries
[edit]
Following Nicolas Kaldor's research, public finance in developing countries is strongly
tied to state capacity and financial development. As state capacity develops, states not
only increase the level of taxation but also the pattern of taxation. With larger tax bases
and the diminishing importance of trading tax, income tax gains more importance.
[61]
According to Tilly's argument, state capacity evolves as a response to the emergence
of war. War is an incentive for states to raise taxes and strengthen states' capacity.
Historically, many taxation breakthroughs took place during wartime. The introduction of
income tax in Britain was due to the Napoleonic War in 1798. The US first introduced
income tax during the Civil War. [62] Taxation is constrained by the fiscal and legal
capacities of a country.[62] Fiscal and legal capacities also complement each other. A well-
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designed tax system can minimize efficiency loss and boost economic growth. With
better compliance and better support to financial institutions and individual property, the
government will be able to collect more tax. Although wealthier countries have higher tax
revenue, economic growth does not always translate to higher tax revenue. For example,
in India, increases in exemptions lead to the stagnation of income tax revenue at around
0.5% of GDP since 1986.[63]
Researchers for EPS PEAKS[64] stated that the core purpose of taxation is revenue
mobilization, providing resources for National Budgets, and forming an important part of
macroeconomic management. They said economic theory has focused on the need to
"optimize" the system through balancing efficiency and equity, understanding the impacts
on production, and consumption as well as distribution, redistribution, and welfare.
They state that taxes and tax relief have also been used as a tool for behavioral change, to
influence investment decisions, labor supply, consumption patterns, and positive and
negative economic spillovers (externalities), and ultimately, the promotion of economic
growth and development. The tax system and its administration also play an important
role in state-building and governance, as a principal form of "social contract" between the
state and citizens who can, as taxpayers, exert accountability on the state as a
consequence.
The researchers wrote that domestic revenue forms an important part of a developing
country's public financing as it is more stable and predictable than Overseas
Development Assistance and necessary for a country to be self-sufficient. They found that
domestic revenue flows are, on average, already much larger than ODA, with aid worth
less than 10% of collected taxes in Africa as a whole.
However, in a quarter of African countries Overseas Development Assistance does
exceed tax collection,[65] with these more likely to be non-resource-rich countries. This
suggests countries making the most progress replacing aid with tax revenue tend to be
those benefiting disproportionately from rising prices of energy and commodities.
The author[64] found tax revenue as a percentage of GDP varying greatly around a global
average of 19%.[66] This data also indicates countries with higher GDP tend to have
higher tax to GDP ratios, demonstrating that higher income is associated with more than
proportionately higher tax revenue. On average, high-income countries have tax revenue
as a percentage of GDP of around 22%, compared to 18% in middle-income countries
and 14% in low-income countries.
In high-income countries, the highest tax-to-GDP ratio is in Denmark at 47% and the
lowest is in Kuwait at 0.8%, reflecting low taxes from strong oil revenues. The long-term
average performance of tax revenue as a share of GDP in low-income countries has been
largely stagnant, although most have shown some improvement in more recent years. On
average, resource-rich countries have made the most progress, rising from 10% in the
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mid-1990s to around 17% in 2008. Non-resource-rich countries made some progress,
with average tax revenues increasing from 10% to 15% over the same period.[67]
Many low-income countries have a tax-to-GDP ratio of less than 15% which could be
due to low tax potentials, such as a limited taxable economic activity, or low tax effort
due to policy choice, non-compliance, or administrative constraints.
Some low-income countries have relatively high tax-to-GDP ratios due to resource tax
revenues (e.g. Angola) or relatively efficient tax administration (e.g. Kenya, Brazil)
whereas some middle-income countries have lower tax-to-GDP ratios (e.g. Malaysia)
which reflect a more tax-friendly policy choice.
While overall tax revenues have remained broadly constant, the global trend shows trade
taxes have been declining as a proportion of total revenues (IMF, 2011), with the share of
revenue shifting away from border trade taxes towards domestically levied sales taxes on
goods and services. Low-income countries tend to have a higher dependence on trade
taxes, and a smaller proportion of income and consumption taxes when compared to
high-income countries.[68]
One indicator of the taxpaying experience was captured in the "Doing Business" survey,
[69]
which compares the total tax rate, time spent complying with tax procedures, and the
number of payments required through the year, across 176 countries. The "easiest"
countries in which to pay taxes are located in the Middle East with the UAE ranking first,
followed by Qatar and Saudi Arabia, most likely reflecting low tax regimes in those
countries. Countries in Sub-Saharan Africa are among the "hardest" to pay with
the Central African Republic, Republic of Congo, Guinea and Chad in the bottom 5,
reflecting higher total tax rates and a greater administrative burden to comply.
Key facts
[edit]
The below facts were compiled by EPS PEAKS researchers:[64]
 Trade liberalization has led to a decline in trade taxes as a share of total revenues
and GDP.[64][70]
 Resource-rich countries tend to collect more revenue as a share of GDP, but this is
more volatile. Sub-Saharan African countries that are resource-rich have
performed better tax collecting than non-resource-rich countries, but revenues are
more volatile from year to year.[70] By strengthening revenue management, there
are huge opportunities for investment for development and growth.[64][71]
 Developing countries have an informal sector representing an average of around
40%, perhaps up to 60% in some. [72] Informal sectors feature many small informal
traders who may not be efficient in bringing into the tax net since the cost of
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collection is high and revenue potential limited (although there are broader
governance benefits). There is also an issue of non-compliant companies who are
"hard to tax", evading taxes and should be brought into the tax net.[64][73]
 In many low-income countries, the majority of revenue is collected from a narrow
tax base, sometimes because of a limited range of taxable economic activities.
There is therefore dependence on few taxpayers, often multinationals, that can
exacerbate the revenue challenge by minimizing their tax liability, in some cases
abusing a lack of capacity in revenue authorities, sometimes through transfer
pricing abuse.[further explanation needed][64][73]
 Developing and developed countries face huge challenges in taxing multinationals
and international citizens. Estimates of tax revenue losses from evasion and
avoidance in developing countries are limited by a lack of data and
methodological shortcomings, but some estimates are significant.[64][74]
 Countries use incentives to attract investment but doing this may be unnecessarily
giving up revenue as evidence suggests that investors are influenced more by
economic fundamentals like market size, infrastructure, and skills, and only
marginally by tax incentives (IFC investor surveys). [64] For example, even though
the Government of Armenia supports the IT sector and seeks to improve the
investment climate, the small size of the domestic market, low wages, low
demand for productivity enhancement tools, financial constraints, high software
piracy rates, and other factors make growth in this sector a slow process. Meaning
that tax incentives do not contribute to the development of the sector as much as it
is thought to contribute.[75] Support towards the IT industry and tax incentives
were established in the 2000s in Armenia, and this example showcases that such
policies are not the guarantee of rapid economic growth.[76]
 In low-income countries, compliance costs are high, they are lengthy processes,
frequent tax payments, bribes and corruption.[64][73][77]
 Administrations are often under-resourced, resources are not effectively targeted
on areas of greatest impact, and mid-level management is weak. Coordination
between domestic and customs is weak, which is especially important for VAT.
Weak administration, governance, and corruption tend to be associated with low
revenue collections (IMF, 2011).[64]
 Evidence on the effect of aid on tax revenues is inconclusive. Tax revenue is more
stable and sustainable than aid. While a disincentive effect of aid on revenue may
be expected and was supported by some early studies, recent evidence does not
support that conclusion, and in some cases, points towards higher tax revenue
following support for revenue mobilization.[64]
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 Of all regions, Africa has the highest total tax rates borne by the business at
57.4% of the profit on average but has reduced the most since 2004, from 70%,
partly due to introducing VAT and this is likely to have a beneficial effect on
attracting investment.[64][78]
 Fragile states are less able to expand tax revenue as a percentage of GDP and any
gains are more difficult to sustain.[79] Tax administration tends to collapse if
conflict reduces state-controlled territory or reduces productivity. [80] As economies
are rebuilt after conflicts, there can be good progress in developing effective tax
systems. Liberia expanded from 10.6% of GDP in 2003 to 21.3% in
2011. Mozambique increased from 10.5% of GDP in 1994 to around 17.7% in
2011.[64][81]
Summary
[edit]
Aid interventions in revenue can support revenue mobilization for growth, improve tax
system design and administrative effectiveness, and strengthen governance and
compliance.[64] The author of the Economics Topic Guide found that the best aid
modalities for revenue depend on country circumstances, but should aim to align with
government interests and facilitate effective planning and implementation of activities
under evidence-based tax reform. Lastly, she found that identifying areas for further
reform requires country-specific diagnostic assessment: broad areas for developing
countries identified internationally (e.g. IMF) include, for example, property taxation for
local revenues, strengthening expenditure management, and effective taxation of
extractive industries and multinationals.[64]
Views
[edit]
Support
[edit]
Main article: Social contract
Every tax, however, is, to the person who pays it, a badge, not of slavery, but of liberty.
– Adam Smith (1776), Wealth of Nations[82]
According to most political philosophies, taxes are justified as they fund activities that
are necessary and beneficial to society. Additionally, progressive taxation can be used to
reduce economic inequality in a society. According to this view, taxation in modern
nation-states benefit the majority of the population and social development.[83] A common
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presentation of this view, paraphrasing various statements by Oliver Wendell Holmes
Jr. is "Taxes are the price of civilization".[84]
It can also be argued that in a democracy, because the government is the party performing
the act of imposing taxes, society as a whole decides how the tax system should be
organized.[85] The American Revolution's "No taxation without representation" slogan
implied this view. For traditional conservatives, the payment of taxation is justified as
part of the general obligations of citizens to obey the law and support established
institutions. The conservative position is encapsulated in perhaps the most
famous adage of public finance, "An old tax is a good tax".[86] Conservatives advocate the
"fundamental conservative premise that no one should be excused from paying for
government, lest they come to believe that government is costless to them with the
certain consequence that they will demand more government 'services'." [87] Social
democrats generally favor higher levels of taxation to fund public provision of a wide
range of services such as universal health care and education, as well as the provision of a
range of welfare benefits.[88] As argued by Anthony Crosland and others, the capacity to
tax income from capital is a central element of the social democratic case for a mixed
economy as against Marxist arguments for comprehensive public ownership of capital.
[89]
American libertarians recommend a minimal level of taxation in order to maximize the
protection of liberty.[citation needed]
Compulsory taxation of individuals, such as income tax, is often justified on grounds
including territorial sovereignty, and the social contract. Defenders of business taxation
argue that it is an efficient method of taxing income that ultimately flows to individuals,
or that separate taxation of business is justified on the grounds that commercial activity
necessarily involves the use of publicly established and maintained economic
infrastructure, and that businesses are in effect charged for this use.
[90]
Georgist economists argue that all of the economic rent collected from natural
resources (land, mineral extraction, fishing quotas, etc.) is unearned income, and belongs
to the community rather than any individual. They advocate a high tax (the "Single Tax")
on land and other natural resources to return this unearned income to the state, but no
other taxes.
Against
[edit]
Main articles: Tax noncompliance, Taxation as slavery, and Taxation as theft
Because payment of tax is compulsory and enforced by the legal system, rather than
voluntary like crowdfunding, some political philosophies view taxation as theft,
extortion, slavery, as a violation of property rights, or tyranny, accusing the government
of levying taxes via force and coercive means.[91] Objectivists, anarcho-capitalists,
and right-wing libertarians see taxation as government aggression through the lens of
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the non-aggression principle. The view that democracy legitimizes taxation is rejected by
those who argue that all forms of government, including laws chosen by democratic
means, are fundamentally oppressive. According to Ludwig von Mises, "society as a
whole" should not make such decisions, due to methodological individualism.
[92]
Libertarian opponents of taxation claim that governmental protection, such as police
and defense forces might be replaced by market alternatives such as private defense
agencies, arbitration agencies or voluntary contributions.[93]
Murray Rothbard argued in The Ethics of Liberty in 1982 that taxation is theft and
that tax resistance is therefore legitimate: "Just as no one is morally required to answer a
robber truthfully when he asks if there are any valuables in one's house, so no one can be
morally required to answer truthfully similar questions asked by the state, e.g., when
filling out income tax returns."[94][95]
Many view government spending as an inefficient use of capital, and that the same
projects that the government seeks to develop can be developed by private companies at
much lower costs. This line of argument holds that government workers are not as
personally invested in the efficiency of the projects, so the overspending happens at every
step of the way. In the same regard, many public officials are not elected for their project
management skills, so the projects can be mishandled. In the United States,
President George W. Bush proposed in his 2009 budget "to terminate or reduce 151
discretionary programs" which were inefficient or ineffective.[96]
Additionally, critics of taxation note that the process of taxation, not only unjustly takes
money of citizens, it also unjustly takes considerable time away from citizens. For
example, it is estimated by the American Action Forum that Americans spend 6.5 billion
hours annually preparing their taxes.[97][98] This is equivalent of roughly 741,501 years of
life lost every year to complete tax forms and other related paperwork.
Socialism
[edit]
Karl Marx assumed that taxation would be unnecessary after the advent of communism
and looked forward to the "withering away of the state". In socialist economies such as
that of China, taxation played a minor role, since most government income was derived
from the ownership of enterprises, and it was argued by some that monetary taxation was
not necessary.[99] While the morality of taxation is sometimes questioned, most arguments
about taxation revolve around the degree and method of taxation and
associated government spending, not taxation itself.
Choice
[edit]
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This section may lend undue weight to certain ideas,
incidents, or controversies. Please help improve it by
rewriting it in a balanced fashion that contextualizes
different points of view. (November 2012) (Learn how and
when to remove this message)
Main article: Tax choice

Tax choice is the theory that taxpayers should have more control with how their
individual taxes are allocated. If taxpayers could choose which government organizations
received their taxes, opportunity cost decisions would integrate their partial knowledge.
[100]
For example, a taxpayer who allocated more of his taxes on public education would
have less to allocate on public healthcare. Supporters argue that allowing taxpayers
to demonstrate their preferences would help ensure that the government succeeds at
efficiently producing the public goods that taxpayers truly value.[101] This would end real
estate speculation, business cycles, unemployment and distribute wealth much more
evenly. Joseph Stiglitz's Henry George Theorem predicts its sufficiency because—as
George also noted—public spending raises land value.
Geoism
[edit]
Main articles: Georgism, Geolibertarianism, and Land value tax
Geoists (Georgists and geolibertarians) state that taxation should primarily
collect economic rent, in particular the value of land, for both reasons of economic
efficiency as well as morality. The efficiency of using economic rent for taxation is (as
economists agree[102][103][104]) due to the fact that such taxation cannot be passed on and
does not create any dead-weight loss, and that it removes the incentive to speculate on
land.[105] Its morality is based on the Geoist premise that private property is justified for
products of labor but not for land and natural resources.[106]
Economist and social reformer Henry George opposed sales taxes and protective
tariffs for their negative impact on trade.[107] He also believed in the right of each person
to the fruits of their own labor and productive investment. Therefore, income from paid
labor and proper capital should remain untaxed. For this reason many Geoists—in
particular those that call themselves geolibertarian—share the view with libertarians that
these types of taxation (but not all) are immoral and even theft. George stated there
should be one single tax: the Land Value Tax, which is considered both efficient and
moral.[106] Demand for specific land is dependent on nature, but even more so on the
presence of communities, trade, and government infrastructure, particularly
in urban environments. Therefore, the economic rent of land is not the product of one
particular individual and it may be claimed for public expenses. According to George,
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this would end real estate bubbles, business cycles, unemployment and distribute wealth
much more evenly.[106] Joseph Stiglitz's Henry George Theorem predicts its sufficiency
for financing public goods because those raise land value.[108]
John Locke stated that whenever labor is mixed with natural resources, such as is the case
with improved land, private property is justified under the proviso that there must be
enough other natural resources of the same quality available to others. [109] Geoists state
that the Lockean proviso is violated wherever land value is greater than zero. Therefore,
under the assumed principle of equal rights of all people to natural resources, the
occupier of any such land must compensate the rest of society to the amount of that
value. For this reason, geoists generally believe that such payment cannot be regarded as
a true 'tax', but rather a compensation or fee.[110] This means that while Geoists also
regard taxation as an instrument of social justice, contrary to social democrats and social
liberals they do not regard it as an instrument of redistribution but rather a
'predistribution' or simply a correct distribution of the commons.[111]
Modern geoists note that land in the classical economic meaning of the word referred to
all natural resources, and thus also includes resources such as mineral deposits, water
bodies and the electromagnetic spectrum, to which privileged access also
generates economic rent that must be compensated. Under the same reasoning most of
them also consider pigouvian taxes as compensation for environmental damage or
privilege as acceptable and even necessary.[112][113]
Theories
[edit]
Main article: Theory of taxation
Laffer curve
[edit]
Main article: Laffer curve
In economics, the Laffer curve is a theoretical representation of the relationship between
government revenue raised by taxation and all possible rates of taxation. It is used to
illustrate the concept of taxable income elasticity (that taxable income will change in
response to changes in the rate of taxation). The curve is constructed by thought
experiment. First, the amount of tax revenue raised at the extreme tax rates of 0% and
100% is considered. It is clear that a 0% tax rate raises no revenue, but the Laffer curve
hypothesis is that a 100% tax rate will also generate no revenue because at such a rate
there is no longer any incentive for a rational taxpayer to earn any income, thus the
revenue raised will be 100% of nothing. If both a 0% rate and 100% rate of taxation
generate no revenue, it follows from the extreme value theorem that there must exist at
least one rate in between where tax revenue would be a maximum. The Laffer curve is
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typically represented as a graph that starts at 0% tax, zero revenue, rises to a maximum
rate of revenue raised at an intermediate rate of taxation, and then falls again to zero
revenue at a 100% tax rate.
One potential result of the Laffer curve is that increasing tax rates beyond a certain point
will become counterproductive for raising further tax revenue. A hypothetical Laffer
curve for any given economy can only be estimated and such estimates are sometimes
controversial. The New Palgrave Dictionary of Economics reports that estimates of
revenue-maximizing tax rates have varied widely, with a mid-range of around 70%.[114]
Optimal
Most governments take revenue that exceeds that which can be provided by non-
distortionary taxes or through taxes that give a double dividend. Optimal taxation theory
is the branch of economics that considers how taxes can be structured to give the least
deadweight costs, or to give the best outcomes in terms of social welfare. The Ramsey
problem deals with minimizing deadweight costs. Because deadweight costs are related
to the elasticity of supply and demand for a good, it follows that putting the highest tax
rates on the goods for which there are most inelastic supply and demand will result in the
least overall deadweight costs. Some economists sought to integrate optimal tax theory
with the social welfare function, which is the economic expression of the idea that
equality is valuable to a greater or lesser extent. If individuals experience diminishing
returns from income, then the optimum distribution of income for society involves a
progressive income tax. Mirrlees optimal income tax is a detailed theoretical model of the
optimum progressive income tax along these lines. Over the last years the validity of the
theory of optimal taxation was discussed by many political economists.[115]
Taxes are most often levied as a percentage, called the tax rate. An important distinction
when talking about tax rates is to distinguish between the marginal rate and the effective
tax rate. The effective rate is the total tax paid divided by the total amount the tax is paid
on, while the marginal rate is the rate paid on the next dollar of income earned. For
example, if income is taxed on a formula of 5% from $0 up to $50,000, 10% from
$50,000 to $100,000, and 15% over $100,000, a taxpayer with income of $175,000
would pay a total of $18,750 in taxes.
Tax calculation
(0.05*50,000) + (0.10*50,000) + (0.15*75,000) = 18,750
The "effective rate" would be 10.7%:
18,750/175,000 = 0.107
The "marginal rate" would be 15%.
Taxation
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Introduction
Taxation is the means by which a government or the taxing authority imposes or levies a
tax on its citizens and business entities. From income tax to goods and services tax
(GST), taxation applies to all levels.
What is Taxation?
The Central and State government plays a significant role in determining the taxes in
India. To streamline the process of taxation and ensure transparency in the country, the
state and central governments have undertaken various policy reforms over the last few
years. One such change was the Goods and Services Tax (GST) which eased the tax
regime on the sale and deliverance of goods and services in the country.
A detailed breakdown of the procedure for filing the tax
The tax structure in India can be classified into two main categories:
 Direct Tax
 Indirect Tax
Direct Tax: It is defined as the tax imposed directly on a taxpayer and is required to be
paid to the government. Also, an individual cannot pass or assign another person to pay
the taxes on his behalf.
Some of the direct taxes imposed on an Indian taxpayer are:
1. Income tax- it is the tax applicable on the income earned by an individual or
taxpayer.
2. Corporate tax- this is the tax applicable on the profits earned by companies from
their businesses.
Indirect Tax:It is defined as the tax levied not on the income, profit or revenue but the
goods and services rendered by the taxpayer. Unlike direct taxes, indirect taxes can be
shifted from one individual to another. Earlier, the list of indirect taxes imposed on
taxpayers included service tax, sales tax, value added tax (VAT), central excise duty and
customs duty.
However, with the implementation of goods and services tax (GST) regime from 01 July
2017, it has replaced all forms of indirect tax imposed on goods and services by the state
and central governments.
GST has not only been reduced the physical interface but also lower the cost of
compliance with the unification of the indirect taxes.
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What is taxation?
Taxation is a system where individuals and businesses pay money to the government to
fund its operations and services. The financial fuel keeps public infrastructure running,
from schools and hospitals to roads and defense systems.
Taxation Definition
Taxation is the compulsory financial charge or some other type of levy imposed upon a
taxpayer (an individual or legal entity) by a governmental organization in order to fund
various public expenditures.
Consider the progressive income tax system in the United States. In this system, an
individual's income is divided into brackets, each with its own tax rate. For example, in
2021, a single filer's income up to $9,950 was taxed at 10%, the income between $9,951
and $40,525 was taxed at 12%, and so forth up to a top rate of 37% for incomes over
$518,401. This ensures that those with higher incomes pay more tax relative to their
income, funding crucial services like defense, healthcare, and education that benefit all
citizens, rich or poor. This illustration embodies the mechanism and purpose of taxation.
Despite the progressive nature of the U.S. tax system, the current tax rates are relatively
low when viewed in the context of U.S. history. The top tax rate reached its peak at 94%
during World War II and remained above 70% until the 1980s. Today's top rate of 37% is
comparatively modest. Over the years, this shift in tax policy has sparked debates about
wealth inequality and capital accumulation, as lower tax rates, particularly for the
wealthiest, can contribute to a greater concentration of wealth in the hands of a few,
further exacerbating economic disparities.
Classification of Taxes
Taxes can be classified or categorized based on various factors such as the method of
collection, the impact on income distribution, or the type of goods or income they apply
to. Here are some of the most common ways to classify taxes:
Direct and Indirect Taxes
Direct taxes are levied on individuals or organizations and must be paid directly to the
government. They include income tax, wealth tax, corporate tax, etc. Indirect taxes are
levied on goods and services and are collected by an intermediary from the person who
bears the ultimate economic burden of the tax. Examples include sales tax, VAT, and
excise tax.
Progressive, Regressive, and Proportional Taxes
A progressive tax increases as the taxable amount increases, meaning those with higher
incomes pay a higher percentage of their income in tax. In contrast, a regressive tax takes
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a larger percentage of income from low-income earners than from high-income earners. A
proportional tax, also known as a flat tax, levies the same percentage rate of taxation on
everyone, regardless of income.
Ad Valorem and Specific Taxes
Ad valorem taxes are levied based on the value of the goods or property. Examples
include property taxes or sales taxes. Specific taxes are levied based on quantity, such as
excise taxes on fuel or cigarettes.
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Consumption and Income Taxes
Consumption taxes are levied on the consumption of goods and services and include sales
taxes and VAT. Income taxes are levied on the income of individuals and businesses.
Corporate and Personal Taxes
Corporate taxes are levied on the profits of businesses, while personal taxes are levied on
individuals' income.
Taxation examples from different countries
Navigating the world of taxation can be complex, as each country employs its own
unique system to collect revenue and fund public services. From progressive to regressive
taxes, and from consumption to income taxes, the landscape of tax systems varies widely.
In this section, we'll journey across the globe, exploring the taxation systems of three
diverse countries: the United Kingdom, Sweden, and the United Arab Emirates. Each
example shows how different nations balance the need for revenue generation
with economic growth and societal welfare.
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United Kingdom Taxation System
In the United Kingdom, a progressive income tax system is employed, where individuals
pay a progressively higher rate of tax as their income increases. For the tax year 2021-
2022, the rates range from 0% (for income up to £12,570 known as the personal
allowance) to 45% (for income over £150,000). The UK also imposes a standard 20%
Value-Added Tax (VAT) on most goods and services, with reduced rates for certain items
and exemptions for others. In addition to these, the UK levies corporate taxes, council
taxes, and inheritance taxes among others.1
France Taxation System
France also operates a progressive tax system similar to the UK. Income tax rates range
from 0% to 45%, depending on income levels. France also imposes a corporate tax rate,
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currently ranging from 15% to 31%, depending on the company's revenue. In addition, a
Value Added Tax (VAT) is imposed on most goods and services, the standard rate being
20%. France's tax system is overseen by the Public Finances General Directorate
(DGFiP).3
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United Arab Emirates Taxation System
In contrast to the previous examples, the United Arab Emirates has a minimal direct
taxation system. There is no federal income tax on individuals, and corporate taxes are
largely limited to foreign banks and oil companies. The UAE introduced a value-added
tax (VAT) of 5% in 2018, a relatively low rate on a global scale. This tax is levied on
most goods and services, with some exceptions.2
The nature of taxation in the UK
Figure 1 shows that a large percentage of people's income is paid in taxes. Income tax is
one of the main sources of government revenue in the UK, making up almost half of the
public sector receipts in the year 2021/2022. This is a form of direct taxation.
Taxes on spending such as the VAT and fuel duty also make up a large percentage
(18.3%) of government revenue, but it is significantly smaller than the tax revenue earned
on income. These are both examples of indirect taxes.
Calculation of tax rates
To identify whether a tax is progressive, regressive, or proportional, we can take a look at
the relationship between the average and marginal tax rates.
Average tax rate
The formula for calculating the average tax rate is the following:
Average Tax Rate=Tax PaidIncome
If a person earns £50,000 and pays £10,000 in taxes, the average tax rate would be 20%.
10,00050,000=0.2=20%
Marginal tax rate
The marginal tax rate is the rate of tax you pay on an additional unit or an additional £1
of income. The formula for calculating the marginal tax rate is:
Marginal Tax Rate=Change in Tax PaidChange in Income or ΔTΔY
If the same person now earns £57,000 and pays £ 11,000 in taxes, the marginal tax rate is
28.6%.
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11,00−10,00057,00−50,000=2,0007,000=0.286=28.6%
In progressive systems, the average tax rate is lower than the marginal rate. In regressive
tax systems, the average tax rate is higher than the marginal rate. This is because the
proportion of income paid in taxes (average rate) decreases as income increases. In the
case of a proportional tax system, both the average and marginal rates are equal.
The relationship between tax systems and tax rates
By calculating the average tax rate we can see the overall burden of the tax on the
taxpayer, whereas the marginal rate can be used as an indicator for decision making.
The marginal tax rate is a significant factor when it comes to making decisions about
work and leisure, which influences the supply of labour. Suppose the marginal tax rate
increases significantly, leading to a highly progressive tax system. In that case, people
(especially high-income earners) will choose to work less as being taxed more heavily
disincentivizes them from working more. This decreases the supply of labour in the
economy.
Additionally, high marginal tax rates also reduce saving, which has a negative impact on
investment in the economy. A lower supply of labour and investment can result in
reduced growth rates in the economy.
Principles of taxation
Adam Smith's principles of taxation, also known as canons of taxation, argue that taxes
should be:
1. Equitable: the tax system should be fair based on everyone’s ability to pay.
2. Economical: the tax should be cheap to collect.
3. Convenient: the tax should be convenient for taxpayers to pay.
4. Certain: the taxpayer should be certain of the amount of tax they are due to pay.
Furthermore, we could add the principles of efficiency and flexibility. The idea
of efficiency suggests that the tax should achieve its desired objectives
and flexibility implies that the tax should be relatively easy to change in case new
circumstances arise.
According to Adam Smith's principles of taxation, a relatively well-designed tax should
meet many of the principles outlined above, whereas a relatively badly designed tax
meets only a few of the principles.
Taxation - Key takeaways
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 Taxation is the compulsory financial charge or some other type of levy imposed
upon a taxpayer (an individual or legal entity) by a governmental organization in
order to fund various public expenditures.
 Taxes can be classified or categorized based on various factors. Some of the most
common ways to classify taxes include:
o Direct and inderect taxation
o Progressive, regressive and propotional taxation
o Ad valorem and specific taxation
o Consumption and income taxation
o Personal and corporate taxation
 The average tax rate is calculated by dividing the amount of tax paid by income.
 The marginal tax rate is calculated by dividing the change in tax paid by the
change in income.
 The marginal tax rate is a significant factor when it comes to making decisions
about work and leisure, influencing the supply of labour in the economy.
Tax structure
The country imposes a territorial tax system, meaning only Philippine-sourced
income is subject to Philippine taxes.
Corporate income tax
The corporate income tax rate is 25 percent.
Domestic micro, small, and medium-sized companies will directly benefit from a
preferential rate of 20 percent (businesses with taxable income of up to PHP 5 million
(US$85,611) and not exceeding PHP 100 million (US$1.7 million).
The CIT of 25 percent is levied on net income on all sources. Non-resident companies
are taxed only on their Philippine-sourced income. Domestic companies are taxed on
their worldwide income.
Ease of Paying Taxes (EOPT) Act
The Ease of Paying Taxes Act, also known as Republic Act No. 11976, became
effective on January 22, 2024. This law aims to modernize tax administration and
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streamline processes to encourage easier compliance for taxpayers. Notable changes
include the new classification of taxpayers.
Taxpayers are now categorized based on gross sales:
 Micro: Less than PHP 3 million (US$51,379);
 Small: PHP 3 million to less than PHP 20 million (US$342,529);
 Medium: PHP 20 million to less than PHP 1 billion (US$17.1 million); and
 Large: PHP 1 billion and above.
Minimum corporate income tax
A minimum corporate income tax (MCIT) of two percent is imposed on the gross
income of both domestic and resident foreign corporations, on an annual basis. It is
imposed from the beginning of the fourth taxable year immediately following the
commencement of the business operations of the corporation. The MCIT is imposed
when the standard 20 percent CIT is lower than the two percent MCIT on the
company’s gross income. Any excess of the MCIT over the normal tax may be carried
forward and credited against the normal tax for the three immediately succeeding
taxable years.
Withholding tax
Dividends
Dividends distributed by a resident company are subject to withholding tax at 25
percent; those distributed to non-residents are taxed at 15 percent, provided the
country of the non-resident recipient allows a tax credit of 15 percent. The
withholding tax may be reduced under an applicable tax treaty.
Interest
Interest paid to a non-resident is subject to a 20 percent withholding tax unless
otherwise stipulated under a tax treaty.
Royalty
Royalty payments made to a domestic or resident company are subject to a final
withholding tax of 20 percent. A 25 percent withholding tax is levied on royalty
payments to non-residents.
Fringe benefits tax
Fringe benefits granted to supervisory and managerial employees are subject to a 35
percent tax on the grossed-up monetary value of the fringe benefit. Under new
income tax regulations, fringe benefits mean any good, service, or other benefit
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granted in cash or kind, other than the basic compensation, by an employer to an
individual employee.
The benefits include, but are not limited to: housing, expense accounts, vehicles,
household personnel, interest on loans at below market rate, club membership fees,
expenses for foreign travel, holiday and vacation expenses, education assistance, and
life or health insurance and other non-life insurance premiums.
Fringe benefits tax, however, is not imposed when the fringe benefits are deemed
necessary to the nature of your business.
Branch profit remittance tax
Branches of foreign companies in the Philippines, except those registered with the
Philippine Economic Zone Authority, are subject to income tax at 30 percent of their
income derived within the Philippines. A 15 percent branch profit remittance tax
(BPRT) is levied on the after-tax profits remitted by a branch to its head office. After-
tax profits remitted by a branch do not include income items that are not effectively
connected with the conduct of its trade or business in the Philippines. Such income
items include interests, dividends, rents, royalties, including remuneration for
technical services, salaries, wages, premiums, annuities, emoluments or other fixed or
determinable annual, periodic, or casual gains, profits, income, and capital gains
received during each taxable year from all sources within the Philippines.
Improperly accumulated earnings tax
Income accumulated by closely held corporations with the purpose of avoiding tax
attracts an improperly accumulated earnings tax (IAET) of 10 percent. The closely
held corporation may refer to companies wherein at least 50 percent of the capital
stock or voting power is owned directly or indirectly by not more than 20 individuals.
The tax base of the 10 percent IAET is the taxable income of the current year plus
income exempt from tax, income excluded from gross income, income subject to final
tax, and the amount of net operating loss carry-over deducted. Corporations excluded
from the ambit of the IAET include banks and other nonbank financial intermediaries;
insurance companies; publicly held corporations; taxable partnerships; general
professional partnerships; non-taxable joint ventures; and duly registered enterprises
located within the special economic zones declared by law, which enjoy payment of
special tax rate on their registered operations or activities in place of other taxes,
national or local.
The criteria to determine the liability for the IAET is the purpose of the accumulation
of the income and not the consequences of the accumulation. That is, if a company
allows its earnings or profits to accumulate within its reasonable needs, then it would
not be subject to the tax unless proven to the contrary.
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Personal income tax
The Philippines implements a progressive personal income tax rate of up to 35
percent. The TRAIN Act, which was passed at the end of 2017, stipulated provisions
to reduce personal income tax on all taxpayers except those in the highest income
bracket. Taxpayers in all income brackets below PHP 8 million (US$142,900) will
therefore see between a two and five percent reduction in personal income tax rate
from January 1, 2023, onwards.
Personal Income Tax Rates in the Philippines
Income 2023 tax rate (%) 2024 tax rate (%)
0 – PHP 250,000
0 0
(US$4,279)
PHP 250,001
(US$4,279) – PHP 15 15
400,000 (US$6,848)
PHP 400,001
(US$6,848) – PHP 20 20
800,000 (US$13,697)
PHP 800,001
(US$13,697) – PHP
25 25
2,000,000
(US$34,242)
PHP 2,000,001 30 30
(US$34,242) – PHP
8,000,000
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Personal Income Tax Rates in the Philippines
(US$136,972)
Above 8,000,000
35 35
(US$136,972)
Value-added tax
The 12 percent value-added tax (VAT) rate is imposed on most goods and services
that have achieved actual gross sales of over PHP 3 million (US$51,379).
VAT exemption for exporters of local purchases
The Philippines issued a value-added tax (VAT) exemption for registered exporters on
their local purchases of goods and services through Revenue Regulations (RR) No.
21-2021.
The VAT privilege covers the sale of equipment, supplies, packaging materials, and
goods, among others, for a maximum period of up to 17 years.
What services are subject to VAT exemption?
The services performed by a VAT-registered person that is subject to VAT exemption
are as follows:
 Sale of raw materials, packaging materials, supplies, inventories, and goods, to a
registered enterprise and used in its registered activity;
 Sale of services, including the provision of basic infrastructure, maintenance,
utilities, and repair of equipment, to a registered enterprise;
 Services rendered to persons engaged in air transport operations or international
shipping, including leases of property, provided that these services are exclusively
used for air transport operations or international shipping;
 The transport of passengers and cargo by domestic air or sea vessels from the
Philippines to a foreign country;
 Sales to persons or entities who are exempted from direct and indirect taxes under
special international agreements to which the Philippines is a signatory;
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 The manufacturing, processing, or repacking of goods for persons or entity that
are doing business outside of the Philippines, and the said goods are subsequently
exported and paid for by foreign currency; and
 The sale of power is generated through renewable resources such as geothermal
and steam, hydropower, biomass, solar, and wind, among others.
Newly registered export enterprises under CREATE can enjoy the VAT exemption for
a maximum of 17 years starting from the date of registration. Meanwhile, for existing
registered export companies located inside freeport zones and ecozones, the VAT
exemption shall be until the expiration of the transitory period.
A registered export enterprise is a corporation, partnership, or other entity established
under Philippine laws and registered with an Investment Promotion Agency (IPA).
They must also engage in manufacturing, assembling, or processing activities that
result in the direct exportation of manufactured or processed products.
BASIC PRINCIPLES AND CLASSIFICATION OF TAXES
Basic Principles of Taxation

1. Equity: Taxes should be fair and based on an individual’s ability to pay.
Progressive taxes, where tax rates increase with income, reflect this principle by
ensuring that wealthier individuals contribute more.
What Is a Progressive Tax?
A progressive tax involves a tax rate that increases or progresses as taxable
income increases. It imposes a lower tax rate on low-income earners and a higher
rate on those with higher incomes. This is usually achieved by creating tax
brackets that group taxpayers by income range.
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The income tax system in the U.S. is considered a progressive system. There are
seven tax brackets in 2024 with rates of 10%, 12%, 22%, 24%, 32%, 35%, and
37%. There were 16 tax brackets in 1985.1
Key Takeaways
 A progressive tax imposes a higher tax rate on higher taxable incomes.
 A regressive tax is applied uniformly across all ranges of income so it can affect
low-income earners more severely.
 A flat tax is also a single income tax rate that applies to all taxable income no
matter how much it is or how little.
 The U.S. Social Security payroll tax is considered to be a flat tax but it does have
an income cap.
Understanding the Progressive Tax
The rationale for a progressive tax is that a flat percentage on all income would
place a disproportionate burden on people with low incomes. The dollar amount
owed might be smaller but the effect on their real spending power would be
greater.
How progressive a tax structure is depends upon how much of the tax burden is
transferred to higher incomes. A tax code with tax rates ranging from 10% to 80%
would be more progressive than one with rates ranging from 10% to 30%.
Advantages of a Progressive Tax
A progressive tax system reduces the tax burden on those who can least afford to
pay. They only have to pay 12% of their top dollars of income if they're single and
earn less than $47,150 a year as of 2024. A single filer who earns more than
$609,350 annually must pay 37% on their top dollars of income.2
This leaves more money in the pockets of low-wage earners who are likely to
spend more of it on essential goods and services and stimulate the economy in the
process.
A progressive tax system tends to collect more taxes than flat taxes or regressive
taxes because the highest percentage is collected from those with the highest
amounts of money. Those with greater resources fund a larger portion of the
services that all citizens and businesses rely on such as road maintenance and
public safety.
Disadvantages of a Progressive Tax
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Critics of a progressive tax system argue that it's a disincentive to success. They
also oppose the system as a means of income redistribution which they believe
punishes the wealthy and even the middle class unfairly.
Opponents of the progressive tax are generally supporters of low taxes and
correspondingly minimal government services.
Progressive Tax vs. Regressive Tax
A regressive tax is the opposite of a progressive tax. A rate is applied uniformly
across all levels of income so the tax burden decreases as income rises.
A sales tax is an example of a regressive tax. Both individuals would pay the same
amount of sales tax on an identical bag of groceries even if one earns $300,000 a
year and the other earns $30,000. But the less wealthy individual has shelled out a
greater percentage of their income to purchase that food.3
Progressive Tax vs. Flat Tax
Like a regressive tax, a flat income tax system imposes the same percentage tax
rate on everyone regardless of income. The Federal Insurance Contributions Act
(FICA) tax that funds Social Security and Medicare is often considered to be a flat
tax because all wage earners pay the same percentage. But the Social Security tax
does have an earnings cap. It applies only to income up to $168,600 in 2024. You
wouldn't have to pay this tax on $1,000 of your income if you earned $169,600.4
The Medicare tax applies to all wages. There's no earnings cap on this as there is
for the Social Security tax.5
Do I Pay the Same Percentage of Tax on All My Income?
No. You only pay your highest percentage tax rate on the portion of your income
that exceeds the minimum threshold for that tax bracket.
A single person who earns $100,000 would fall into the 22% tax bracket but only
on the portion of their income that exceeds $47,150. Their income from $11,600
up to $47,150 would be taxed at a rate of 12%. Income below $11,600 is taxed at
a 10% rate. These income ranges apply to the 2024 tax year.2
How Often Do the Tax Brackets Change?
Tax brackets are set by Congress and enforced by the Internal Revenue Service
(IRS). Changes are typically made based on legislation like the Tax Cuts and Jobs
Act (TCJA) of 2017. The TCJA kept seven tax brackets but it increased the
income ranges for many of them so some individuals could earn more before
moving into a higher bracket. The income ranges are also adjusted annually to
keep pace with inflation.6
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What Is the Purpose of a Progressive Tax?
Progressive taxes exist so the burden of paying for government services,
oversight, and infrastructure doesn't fall disproportionately on those earning lesser
incomes. Those who earn less are taxed at a lesser rate. Those who earn more are
taxed at a higher rate. This concept is known as ability-to-pay taxation. The top
earners are taxed more and on larger sums of money so a progressive tax
increases the amount of tax revenue coming in.
The Bottom Line
A progressive tax progresses to higher tax rates as taxable income increases.
Individuals with lower incomes are taxed at lower rates than those with higher
incomes.
2. Certainty: Txpayers should know when, how, and how much they owe. This
clarity reduces confusion, enhances compliance, and helps individuals and
businesses plan effectively.
The principle of certainty of taxation is the dimension of a general requirement of
certainty in the legal system. The purpose of this article is to argue the thesis that
uncertainty in tax law is not always an absolute evil, sometimes it acts as a means of
the most optimal (and in some cases the only possible) settlement of relations in the
field of taxes. On the contrary, uncertainty and fragmentation in tax law are colossal
problems subject to overcome by the efforts of scientists, legislators, judges, and
practicing lawyers. Uncertainty in tax law is manifested in two ways: on the one
hand, negatively—as a defect (omission) of the legislator and, on the other hand,
positively—as a set of specific legal means and technologies that are purposefully
used in lawmaking and law enforcement. In this context, relatively determined legal
tools are an effective channel for transition from uncertainty to certainty in the field
of taxation. A tendency towards increased use of relatively determined legal tools in
lawmaking processes (for example, principles, evaluative concepts, judicial doctrines,
standards of good faith and reasonableness, discretion, open-ended lists,
recommendations, framework laws, silence of the law, presumptive taxation, analogy,
etc.), and involving various actors (courts, law enforcement agencies and officials,
international organizations, citizens, organizations and their associations) allow
making tax laws more dynamic flexible, and adequate to changing realities of
everyday life.
1. Introduction
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Certainty in law is the cornerstone of the state governed by the rule of law.1 The
requirement of certainty must be respected both at the level of the legal system at
large, and at the level of its individual area. The lack of certainty in law deprives it of
its ability to perform its functions effectively, to form a stable legal order, and to
direct (guide) people’s behavior, in particular.
Tax relations require more precise regulations and control by the state. Therefore,
certain requirements are imposed on certainty of taxation, and the principle of
certainty of taxation is the ideological basis of all modern tax systems.2 According to
the correct observation of the reviewers of this work, certainty has several benefits. It
lessens transaction costs to the taxpayer and the taxing authority, it facilitates
predictability and lets everybody plan his/her financial transactions, and it promotes
faith in the system. The latter also makes tax collection palatable if not pleasant.
Issues of legal certainty are central to tax and legal science. This is due to a number of
reasons. Firstly, tax law significantly restricts the rights of private actors and,
primarily, property rights. Tax law includes a large number of coercive components,
which requires preciseness in establishing the rights and duties of all relevant actors,
as well as clearly established tax procedures. Secondly, tax law is excessively
complex; it has significant economic content.3
Thirdly, tax reforms are carried out permanently, novels are regularly introduced into
tax laws; therefore, tax norm setting is characterized by high dynamics, while
instability is typical to tax law.4
Fourthly, the relationship between tax authorities and taxpayers is characterized by an

acute conflict, caused by the mismatch (at times, antagonism) of the initial positions.
The latter determines the difference in the identical tax rules interpretation by actors
with opposite interests and needs.5
Unfortunately, the state of uncertainty, instability, inconsistency, and fragmentation of

tax law becomes chronic. Measures taken by lawmakers cannot be called effective,
since they are based on controversial methodological approaches. Continuous
novelization of tax legislation, as a rule, does not reduce uncertainty, but only
devalues the legislative process and produces tax disputes. In these conditions,
paradigmatically new approaches are required, including deformation and
decentralization of tax lawmaking processes with the involvement of a wide range of
actors (courts, law enforcement agencies, international organizations, private actors,
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their unions, and associations) and the rejection of a one-sidedly negative attitude to
the role of relatively determined legal tools in tax law.
Thus, the relevance of the research of paired categories “certainty” and “uncertainty”
in tax law is obvious.
Tax law needs a thorough and forward-looking modernization to give it a new look,
one that is adequate to the problems and challenges of the 21st century. It is required
to create a single conceptual and methodological basis allowing to prospectively
model, quickly identify, and effectively eliminate “zones of uncertainty” in tax law.
The first part of this study regards certainty as a general principle of law. It concludes
that the requirement of certainty extends to all levels of legal impact—from the
development of tax laws to their practical implementation of tax norms by addressees.
Part I also analyzes why it is in the field of taxation that legal certainty is so important
and necessary. Further, it discloses the content of the principle of certainty of taxation
in its various aspects. Summing up, the first part draws conclusions about the role and
significance of legal certainty for a successful impact of tax laws on social and
economic interactions.
The second part analyzes the problems of uncertainty in tax law. In particular, it
emphasizes that legal uncertainty should be considered in two aspects, namely:
negatively—as a defect in tax legislation, and positively—as the use of relatively
determined legal tools by the legislator in tax law. The latter includes legal tools with
an open textured meaning (for example, legal principles, general standards of good
faith and reasonableness, vague terms, open-ended lists, general anti-avoidance rules,
silence of the law, discretion of fiscal authorities, presumptive taxation, legal analogy,
etc.). The second part also considers the rules v. standards discussion in the context of
“legal certainty v. legal uncertainty” dichotomy. It quotes “the principle of the
taxpayer’s rightness”, applied in the tax law of Russia as an important guarantee for
taxpayers.
2. Principle of Certainty of Taxation Is the Fundamental Principle of Tax Law

2.1. Certainty Is a General Requirement to Legal Norms
Certainty is the most important trait (and the principle) of law as a universal regulator
of social interactions.6 The requirement of certainty follows from the very nature of
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the legal norm as a universal and equal scale (a measure) for all members of the
society.
The European Court of Human Rights (ECHR) has formed stable assertions that legal
certainty is one of the fundamental aspects of the rule of law.7 According to the
ECHR, every law must meet the legal certainty requirement ensuring that the rights of
specific persons will be protected and, in any dispute resolution, the law enforcer’s
actions will be expectable and predictable and will not change from case to
case.8 Thus, interested persons with a reasonable degree of probability regarding the
given circumstances can foresee the consequences of the current norms application
and, in accordance with this, assess the consequences of the chosen behavior
pattern.9 The principle of certainty is aimed at maintaining reasonable regularity,
stability, reliability, and predictability of the legal order, private confidence in the law,
and the court.
In an academic discourse, the concept of “legal certainty” from the point of view of
its content has a polysemantic and multilevel character, but is generally tied to the
universal maxim of the rule of law.10 In a narrow sense, the concept of legal certainty
is limited to the norms of positive law, their specific legal and technical traits, i.e., the
legal norms certainty is at issue.11 More broadly, the requirement of certainty covers
all levels of legal impact, including certainty, sustainability, and validity of judicial
acts, as well as stability of the legal relationships that develop on their basis, so that
interested persons with reasonable probability could foresee the consequences of legal
norms application, and foresee the consequences of the choice of their behavior
pattern.12 In general, the level of certainty of the legal system can be judged by the
degree of predictability of the results obtained while resolving legal disputes.13
Therefore, the concept of “legal certainty”, apart from the requirements to the legal
norms exposition, also includes the need for their uniform interpretation and
application in practice. It is to the level of application of law that such a component of
legal certainty, as legitimate expectations refers: every person acting lawfully and in
good faith is entitled to believe that other persons (including the state and its
representatives) will behave lawfully and in good faith.
Legal certainty has two aspects—external and internal. The external aspect is
connected with formal enshrining legal norms in sources of law and their entry into
legal force.14 Legal norms are not just ideas, thoughts, intentions, and forms of
public consciousness. They should be developed and adopted on the basis of the
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lawmaking procedure, properly promulgated, and enshrined in the official sources of
law. The internal aspect concerns the content of normative texts: legal norms must be
prescriptive statements that have a logical and semantic completeness. Moreover,
special attention is paid to the legal language, which should be featured by accuracy,
clarity, unambiguousness, emotional neutrality.15 Thus, the language of law should
be deprived of any expressiveness and literary pretentiousness.
From the position of legal certainty, legal rules must accurately fix the requirements
that are imposed on people’s behavior, on the one hand—must be laconic meeting the
requirement of normative economy, and on the other hand—fully describe the scope
of possible, proper, and forbidden conduct, as well as the consequences of offenses. It
dates back to Roman lawyers who formulated the maxims: legem brevem esse oportet
—the law should be concise; leges intellegi ab omnibus debent—laws should be clear
to everyone; ubi jus incertum, ibi nullum—when the law is uncertain, it does not
exist.
Despite its abstract nature, every the law should clearly outline life situations and give
clear behavioral algorithms allowing of ensuring organization and predictability of
social relations. The ECHR has repeatedly drawn attention to the fact that the law
should make it possible to foresee the consequences of its application, responding to a
standard requiring that every law be formulated with sufficient clarity that would
allow a person by means of advice, if necessary, to foresee to a degree reasonable in
the given circumstances, consequences, which may entail one or another of its actions
(inaction).16
Preciseness, unambiguity, completeness, and consistency in exposing legal rules

provide for a uniform treatment, i.e., extensive uniformity in understanding,
interpreting and applying laws by their addressees. Ultimately, certainty of law is
intended to guarantee a stable legal order being uniform for one and
all.17 Conversely, uncertainty of legal norms allows the possibility of unlimited and
unjustified discretion in their interpretation and application, which inevitably
provokes disagreements, disputes, legal conflicts. The lack of certainty turns law into
its opposite, namely, into chaos and arbitrariness.18
2.2. Why Is the Principle of Certainty So Important in Tax Law
All areas of law need certainty. However, this principle is especially relevant for tax
law.19
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The virtues of certainty for taxation include the following:
(1) Certainty of tax law increases the predictability and stability of taxation, allowing
each taxpayer to rationally plan their financial transactions;
(2) Certainty reduces the transaction costs for the taxpayer and the tax authority in
interpreting tax rules and finding criteria to assess their behavior as compliant;
thereby, it contributes in every way to tax compliance;
(3) Certainty supports completeness and consistency in the regulation of tax relations,
as well as the absence of contradictions in tax law;
(4) Certainty promotes faith in the tax system, making the tax collection palatable if
not pleasant;
(5) Certainty of a tax rule guarantees its correct understanding, interpretation, and
application.
The fact is that tax law is characterized by such a nature of regulation that implies
limiting the constitutional right of ownership of private actors and distributing the
burden of public expenditure among them taking into account the principles of
universality and equality of taxation principles. This kind of regulation requires a
clear definition of the limits of intervention in the field of fundamental rights and
freedoms, including, first and foremost, ownership.20 A high level of uncertainty in
tax law is intolerable not only from the standpoint of requirements for legal
technique, predictability of law enforcement, sustainability of economic activity, etc.,
but also from the point of view of the very essence of taxation that can be exercised
only when it is sufficiently defined, regulated, stable, reliable, predictable, and non-
contradictory. Being uncertain, tax law is unable to perform the function of allocating
the burden of public expenditure on the basis of the principles of justice, equality and
universality. Consequently, losing the quality of certainty, tax law turns into its direct
opposite—to the mechanism of quasi-legal seizure of private property without due
legal grounds and with vague goals.21
The style, logic, and the language of tax rules exposition play a major role in the
formation of an effective tax system. The principle of the state governed by the rule
of law requires the legislator to provide every taxpayer ex ante with credible data on
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the regulatory construction of the tax to properly fulfill the tax obligation. It is hardly
possible to name another area of law, where an erroneously constructed phrase, a gap
between a thought and its textual expression, an incorrectly or inappropriately used
word can lead to such grave consequences as in the sphere of taxation.
The vagueness of the tax norm may lead to its arbitrary and discriminatory use by
state bodies and officials in their relations with taxpayers, which is inconsistent with
the principle of the rule of law, and thereby violates the principle of legal equality and
the requirement of tax equality arising from it. Therefore, a tax provided for in
defective norms cannot be considered legally established.
Despite the general legal requirement of certainty, the degree of the norms detail in
different areas of law is not the same.22 The more complex, conflicting, and publicly
more significant the sphere (subject) of the law, the greater the share of mandatory
rules, obligations, and prohibitions, procedural forms and coercive components, the
more significant and deeper the involvement of the state in sectoral relations, the
higher the requirements of certainty imposed on the norms of this branch of law. In
this context, tax relations require the most precise regulation and control by the state.
Effective functioning of the tax system is impossible when the will of the state aimed
at regulating tax relations is not strictly defined and equally understood by all
addressees of tax norms.
Increased requirements for certainty in tax law are determined by a number of factors.
This is, first of all, the public nature of tax law.23 Taxes are the most important
attribute of the state; their main purpose is to provide financial support for the
implementation of state policies that is, for the normal functioning of society and the
state. “Taxes are the life-blood of government”.24 Russian legislation expressly states
that taxes are collected for the purpose of financing the activities of the State and (or)
municipalities (Art. 8, para. 1 of the Tax Code of the Russian Federation). The public
nature of tax law stipulates a special regime and methodology for regulating relations
in the field of taxation. The latter is characterized by a significant specificity: (1) the
priority of the common good while respecting a reasonable balance of public and
private interests; (2) the authoritative and hierarchical nature of relations between tax
authorities and taxpayers; (3) the prevalence of prohibitions and duties over rights and
permissions; (4) the rule “taxes are not negotiable” applies; (5) active use of fiscal
bodies’ official interpretation, etc.
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In addition, tax law is characterized by increased complexity25 and high dynamics of
changes introduced. This is due to the fact that tax norms are regulated mainly by
economic relations, which are objectively inclined to self-development, diversity, and
permanent transformations.26 In modern conditions, the amplitude of such
transformations is increasing, creating a threat of inconsistency between normative
models, on the one hand, and actual situations on the other.27
The legislator’s desire to ensure compliance of tax norms with the rapidly changing
environment leads to continuous tax reforms.28 Some of them are revolutionary,
significantly affecting the social and economic life of the country.29 This produces
significant risks in terms of implementing the requirements of legal certainty,
coherence, stability, and predictability of tax law.30
Increased attention to tax norms certainty is also stipulated by taxation being prone to
high politicization and conflict. Why? The answer is simple. The sense of ownership
is the oldest human instinct, and the instinct is innate, and not acquired in the process
of social adaptation.31 The desire to form, accumulate, and protect their property is
rooted in every person at the subconscious level.32 Some internal defense
mechanisms force a person to resist encroachment on his property from any person,
including the state. Therefore, every owner instinctively resists taxation, which in its
essence is an individually non-refundable alienation of property.
Such a conflict of interests between a taxpayer and the state generates a

multidirectional assessment and interpretation of tax norms and relevant facts. Such
assessments are, as a rule, diametrically opposed. In these conditions, any “zone of
uncertainty” in tax law—regardless of whether it was purposefully programmed by
the legislator or formed as a defect of the law—is interpreted by a person concerned
in his favor.33 Because of this, it is so important to ensure uniformity in the
understanding and application of tax rules. The higher the level of certainty of tax
laws is, the fewer the opportunities for their arbitrary interpretation and, therefore, for
legal disputes and conflicts, resulting in an unproductive waste of time, efforts and
energy are.34
Another aspect is often overlooked. Taxation always involves extrajudicial

deprivation of property belonging to individuals.35 The state here cannot rely solely
on a sense of duty, tax morality, conformism, patriotism, every person’s rational
awareness of need for payment of taxes and other “internal” sources of incentive
motivation.36 Any legal obligation, including the payment of taxes, is provided by
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control and sanctions. Therefore, tax law is characterized by significant restrictions on
human rights—especially private property, which requires certainty in establishing
the rights, duties, and responsibilities of all participants in tax relations.
Tax law is largely a procedural area of the legal system. Tax law is the law of
“legitimate violence” in the form of audits and the imposition of penalties, fines, and
arrears. The possibility of applying state coercion measures is an indispensable
guarantee for the lawful and conscientious implementation of tax norms.37 At the
same time, the more detailed the procedures for the application of state coercion in
tax laws are, the more respected human rights are. That is why the ideas of formalism
and literal interpretation are so popular with scholars and judges in terms of tax norms
interpretation and application.
The immanently inherent in tax relations conflict connected with the unilateral
movement of income from the taxpayer–owner to the state dictates increased
requirements for detailed formalization of all stages of taxation, for their written
fixation, strict adherence to practice. Without a carefully prescribed procedure, it is
impossible, on the one hand, for taxpayers to faithfully fulfill the rights and duties
provided for in tax laws, and on the other hand, to lawfully implement audits, tax
control measures and apply tax sanctions.
Uncertainty in tax law produces significant transaction costs—material and temporal

ones for all taxation participants. Taxpayers are forced to make extra efforts to find
relevant responses and pay for expensive services of tax advisers.38 In turn, tax
authorities are forced to divert their limited tax administrator resources to prepare
official interpretations and commentaries on tax laws. Of course, the greatest costs for
all participants in tax relations are connected with the tax disputes resolution
provoked by unspecified tax norms.
Therefore, in tax law, the requirement of certainty is expressed more categorically and
persistently than in other areas of the legal system.
2.3. The Content of the Principle of Certainty of Taxation
The Tax Code of the Russian Federation treats certainty of taxation as an independent
principle: “When taxes are established all elements of taxation must be defined. Acts
of legislation concerning taxes and levies must be formulated in such a way that every
person knows precisely which taxes (levies) he must pay and when and according to
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what procedure he must pay them” (Art. 3, para. 6 of the Tax Code of the Russian
Federation).
The content of the principle of certainty of taxation includes a number of interrelated

imperatives, namely: preciseness and clarity of tax norms; understandability and
accessibility of the tax rule for an “average” taxpayer; reasonable balance of abstract
and concrete; completeness (no fragmentation); internal consistency and coherence
(at least the absence of obvious contradictions) in the system of tax norms, where
each norm must be agreed with other norms of Russian and international law.
Law scholars also often include other components in the principle of legal
certainty.39 For example, Lon Fuller adds such requirements as generality of law, the
promulgation of laws, non-retroactivity, clarity, non-contradiction, and compliability
to the concept of legal certainty.40 In any case, a balanced account of all components
of the principle of legal certainty is required, since an unreasonable “shift” towards
one of them can give rise to a state of uncertainty in tax law.
2.3.1. Preciseness and Clarity
First of all, note that the tax laws should contain clear and understandable norms so
that uncertainty in their understanding is not allowed and, consequently, there is no
threat of their arbitrary interpretation and application. Formal certainty of tax norms
implies their sufficient preciseness, which ensures their correct application.
The requirement of formal certainty, presupposing preciseness, and clarity of

legislative prescriptions, is an integral element of the rule of law and acts in
lawmaking and law enforcement activities as a necessary guarantee of effective
protection of constitutional rights and freedoms.41
The requirement of preciseness and clarity means correspondence of spirit and letter
of tax laws to each other. Logical and linguistic exposition of tax rules should clearly
and unequivocally reflect the legislator’s will (intention), he puts in when passing the
law.42 Of course, the legislator should, in every possible way, avoid ambiguity and
indeterminacy of wordings.
Preciseness as a legal requirement means achieving the greatest correspondence

between a thought (an idea) and the embodiment of this thought in the legislative
formula.
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Thus, the requirement of preciseness implies a mutual correspondence of the textual
and semantic aspects of the tax norm that is, what it says, and what the legislator
meant.
Lexical, stylistic, syntactic errors make it difficult to perceive tax laws, complicate
their interpretation, and thereby produce tax disputes. Therefore, the addressees’
adequate perception of tax norms and, consequently, the achievement of taxation
purposes directly depends on how precisely the lawmaker expresses a thought (an
idea) in a textual form.
An unclear tax law does not create a complete picture of legitimate behavior in a
given situation, leading to misunderstandings, errors, contradictory interpretations,
disputes, and conflicts.
2.3.2. Understandability and Accessibility
Tax norms should be concrete and understandable to everyone, targeted not at

particular specialists, but at an “average” taxpayer. The tax laws should be simple to
understand so that taxpayers can anticipate the tax consequences of a transactions and
activities, including knowing when, where and how the tax is to be paid.
The principle “Leges intellegi ab omnibus debent” operates. An incomprehensible

law reduces its wordings’ effectiveness, and in the worst case—does not allow it to be
adequately implemented in practice.43 Unfortunately, often not only taxpayers, but
tax advisers as well cannot say exactly what the lawmaker meant in this or that tax
norm.
The ECHR draws attention to understandability and accessibility of legislation as an

important criterion for its compliance with universal values: the norm cannot be
considered “the law” unless it is formulated with sufficient preciseness so that the
citizen, independently or, if necessary, with professional assistance, could foresee,
with a degree of probability, which can be considered reasonable in the given
circumstances, consequences that may entail a particular action44.
The tax law should be understandable and accessible, and be worded in such a way as
to enable interested persons—by means of advice if necessary—to foresee, to the
extent reasonable in concrete circumstances, the consequences that may result from
certain acts.45
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Of course, complexity and uncertainty are not equivalents. For example, a very
voluminous law with numerous cross-references, many terms, and objects of
regulation can be very difficult to understand, but at the same time, it is very detailed
and clear from the point of view of legal language. In many cases, oversimplification
in tax lawmaking can be detrimental. In particular, pressure to be succinct can lead to
greater uncertainty.46 Professors Joshua D. Blank and Leigh Osofsky observe that
efforts to achieve the appearance of simplicity in areas of tax law can actually make
matters more complex for taxpayers who are led astray by incomplete
guidance.47 Nevertheless, the excessive complication of tax law inevitably makes it
difficult for the addressees of tax rules to understand it, provokes conflicting
interpretations and disagreements, and, as a result, litigation that could have been
avoided if the controversial tax rule were set out in a more understandable and
generally accessible language.
2.3.3. The Balance of Abstract and Concrete
The balance of abstract and concrete in tax law means a reasonable combination of
abstract and casuistic ways of tax norms exposition.48
The tax norm as an intellectually constructed formation is the result of the legislator’s
generalization of essential and typical qualities of tax relations. In this context, the tax
norm is a typified model of a tax relationship.49 The tax norm reflects “something
common” in a variety of specific legal relations. For example, millions of taxpayers
enter tax relations daily. Certain elements of these relationships are unique,
inimitable, which is determined by the personality of a particular taxpayer, his tax
culture, the amount of taxes and fees, the time and order of their payment, the
presence of arrears, and other individual and often random factors. Moreover, at the
same time, there is always something common in these legal relations that permits to
adjust the diversity of this or that type of tax relations to normative models, where
individual characteristics completely disappear, “dissolve” and are not taken into
account.
The legal norm is a kind of averaged version between “too common” and “too
concrete”.50 In this context, tax law refers to the most detailed areas of law, and the
idea of the most precise and comprehensive tax regulation of “the whole lot” is
widely supported by the tax community.
2.3.4. Completeness, Internal Consistency, Coherence
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The most important imperatives of the principle of certainty of taxation are
completeness and consistency in the regulation of tax relations, as well as the absence
of contradictions in tax law. It is necessary to proceed from the fact that there cannot
be anything superfluous in the text of the tax law: it is presumed that every word,
every comma, every bracket, etc., carries its own semantic load.
Gaps and collisions of tax norms inevitably lead to legal uncertainty, encroaching on
the basic quality of law—to be a coherent and balanced social regulator of people’s
behavior. Therefore, the tax law system must be a stable, non-contradictory,
hierarchically organized set of tax rules interrelated and interacting with each
other.51 Tax rules should not contradict each other. Integrity and consistency,
interdependence, hierarchy, internal consistency, coherence, and absence of
fragmentation are necessary value characteristics of tax law, as well as any other area
of law.
Summarizing the analysis of elements of legal certainty in tax law, it should be

emphasized that the principle of certainty of taxation requires a weighed and balanced
accounting of all imperatives making up its content. Unreasonable bias towards one
of them can, in turn, generate a state of uncertainty.
2.4. The Role and Significance of the Principle of Certainty of Taxation
Significance of the principle of certainty of taxation is great and multifaceted. The

quality of the tax system affects a variety of sociopolitical and macroeconomic
indicators.
In particular, the country’s investment climate directly depends on certainty of its tax
legislation.52 Investors need predictability in taxation, and this predictability can be
ensured only with clear and precise tax legislation that does not allow arbitrary
interpretations by either other taxpayers (as this distorts the competitive environment)
or by tax authorities (since this leads to unplanned withdrawals of working assets and
company profits).
The principle of certainty of taxation significance goes far beyond tax law own
problems. This is a much broader spectrum of closely interrelated problems, including
legal guarantees for the implementation of the constitutional principle of freedom of
economic activity, further prospects for the development of the national economy, its
stability, and attractiveness for investors.53 In the context of global tax competition
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among states for investment and capital, creating attractive tax conditions, along with
improving the infrastructure, increasing political system stability, economic factors,
labor resources, etc., become one of the strategic and priority tasks of state policy.54
Taking into consideration the clash of conflicting interests of the state and taxpayers
in tax law it is necessary to observe a reasonable balance between the interests of the
former and the latter. This is the cornerstone of taxation.55 The principle of certainty
of taxation is a guarantee of public and private interest observance: on the one hand,
its practical implementation restricts the discretion of tax authorities, which often
grows into administrative arbitrariness,56 on the other hand—prevents tax evasion by
private actors. Uncertainty in tax law, on the contrary, can lead both to violations of
the rights of taxpayers from the state and to tax violations and abuses—conscious or
unintentional—on the part of taxpayers.
The principle of certainty of taxation is linked with the principle of equality. After all,
an unclear tax norm can be applied or not applied to a taxpayer at the arbitrary
discretion of the state, which violates the requirements of fairness and equality of
taxation. The principle of certainty is stipulated by the constitutional principle of
equality of all before the law and the court, since the latter can only be ensured by a
uniform understanding and interpretation of the norm by law enforcement officials.
Conversely, the indefinite content of legal norms allows for unlimited discretion in
the process of law enforcement and inevitably leads to arbitrariness, and thus to
violation of the principles of equality and the rule of law.
We must not forget that taxation has always been closely connected with a deep folk
sense of justice; unbearable—in the eyes of the general public—taxation often
provoked social tension, spontaneous protests, riots, and even
revolutions.57 Therefore, the social stability in society directly depends on the quality
of tax law.
Thus, the lack of certainty in tax law is a double-edged sword. On the one hand, it
allows the official, using his official position, to manipulate tax norms hiding behind
a true or falsely understood common good, and on the other hand creates conditions
for abuses by private actors, mass evasion from paying taxes. On the contrary, the
creation of clear and transparent rules of the game reduces the danger of state
arbitrariness, strengthens guarantees for citizens and organizations.
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Consistent implementation of the principle of certainty of taxation ensures the clarity
and concreteness of the rights and duties of the participants in tax relations, which
allows them to plan their activities for the future without fear of accusations of
violating the letter and the spirit of tax laws, and gives them confidence in the
protection of their rights and freedoms.
Stabilization and unification of tax law, formalization of all stages of taxation,

absence of fragmentation and gaps, consistent improvement of tax administration,
stimulation of tax compliance, including not only the letter, but also the spirit of tax
laws, ensure the achievement of a reasonable balance of public and private interests.
Thus, predictability and stability of economic conditions are guaranteed. Ultimately,
security of all subjects of tax law increases, tax law order is strengthened, structural
and functional efficiency of the tax system is enhanced.
3. Uncertainty in Tax Law: Causes and Consequences

3.1. The Reasons for Uncertainty in Tax Law
For many reasons, it is objectively impossible to achieve absolute legal

certainty.58 An absolutely definite tax law is a utopia, an unrealizable dream, an
unattainable ideal, to which, of course, one must strive in every possible way.59
It seems obvious that the “uncertainty zones” are more or less present in every legal
system60. Therefore, any attempts to create an impeccable tax legislation, which due
to its preciseness and unambiguity would not require its creative interpretation by the
law enforcer, are initially doomed to failure.61 In general, we can state that
uncertainty is an objective quality immanently inherent in all legal phenomena.
Uncertainty in tax law can be defined as lack of accuracy and clarity,

understandability, and accessibility, completeness (i.e., the presence of gaps), a
reasonable balance of abstract and concrete, stability, intra-industry, and inter-
industry coherence in the system of tax norms.
Uncertainty can take various forms and develop as a result of not only of the
legislator’s activities, but of law enforcement entities’ as well. That is, it can manifest
itself not only in the texts of law, but also in interpretative and law enforcement acts,
treaties, etc.62
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Legal uncertainty can be determined by both objective and subjective factors. The
latter relate to miscalculations, omissions, and deficiencies of the lawmaker while
developing and modeling tax norms. The matter is the defects in legal technique
stipulated by such reasons as the lack of the bill’s concept reasoning or an erroneous
failure to include tax norms that are still needed in the text of the law. In the
end errare humanum est—the man is prone to make mistakes. Tax lawmaking being a
product of people’s consciously volitional activities is not free from mistakes,
delusions, emotions, lobbying, voluntarism, etc.
Objective prerequisites of legal uncertainty are connected primarily with the

semantics of legal language as a special kind of symbolic system,63 subject to
individual decoding and interpretation in each case of its application.64 Exposition of
tax norms in the textual form presupposes the possibility (and necessity) of their
meaning and content interpretation. Polysemanticism, symbolism, and context are
attributes of any complex legal text.65 Therefore, any contact of the subject with a
normative text is a creative and interpretive fact. As a result, it is possible to talk
about certainty of tax norms only from the position of relativity and conventionality,
taking into account the textual nature and abstract form in which these norms are
clothed.66
I assert that in relation to the content of tax norms, one can only talk about their
greater or less certainty. The normative array of tax law can be represented in the
form of a continuum of norms with two poles from “certainty” to
“uncertainty”.67 Moreover, with respect to the tax norm, the “certain” (or
“uncertain”) characteristic will always be just some kind of conventionality, since
every norm is formed using typification—that is, by abstract generalization of a
number of selected traits within an ideal model. Therefore, it is methodologically
incorrect, comparing two tax norms, to state that one of them is certain, and the
second is not; it is more correct to state that the first norm is more certain than the
second one. Thus, certainty is not an essential, but a qualitative characteristic of a
particular legal norm, i.e., it is admissible to speak only of its certainty degree.68
In addition, because of their general nature, tax norms are always targeted at a certain
“average” type of life situation and do not reflect the specifics of an infinite variety of
tax situations.69 Since the norm is an abstract generalization—that is, the result of the
typification of some social relations, uncertainty lies in the very nature of law. Law is
an artificially constructed representation of reality; therefore, it is only an
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approximate model of this reality. Owing to this, law reproduces images of real social
relations only in the most general terms, but not verbatim.
Of course, the legislator by means of an abstract way of formulating tax norms is able
to cover a wider range of homogeneous social relations, both existing at the time of
issuing the statute, and those that may form in the future.
However, real life is richer than any regulatory system, so it is impossible (moreover,
not even necessary) to try exhaustively to list all life situations that require a legal
settlement.
It dates back to Roman lawyers who understood, non possunt omnes articuli
singillatim aut legibus comprehendi—that it is impossible to embrace all individual
cases by laws. It is impossible to take into account every nuance that can manifest
itself in the course of the tax norm implementation. The dichotomy of concrete and
abstract (in other words, certain and uncertain) objectively lies in the nature of tax
law.
Thus, uncertainty zone availability in tax law is objectively conditioned by a

typification method when formulating tax norms and a model form of their
exposition.
However, not only an abstract, but also a casuistic way of norm formation in which
actual circumstances are legalized by exhaustive enumeration or detailed
specification of their main features, can also produce legal uncertainty.70 Risk of
uncertainty here is due to the fact that, resorting to minute detail, it is impossible to
fully cover all the factors necessary for settlement, both existing at the time of
passage of the law, and those that will arise in the future. Therefore, the casuistic way
of tax norms exposition also provokes collisions and gaps appearance, which
constitute the most dangerous types of uncertainty in tax law.
The more detailed the tax norm, the more often problems with its operational
adaptation to everyday life diversity appear.
Therefore, the level of detail and specification of tax norms—in the reduction of
which one often sees the main way to combat uncertainty—has its limits. In any case,
the requirements for accuracy, formalization, and detailed elaboration of tax law
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should have reasonable limits, beyond which they can turn into legal formalism,
undermining the fairness and efficiency of the tax system.71
3.2. Relatively Determined Legal Tools in Tax Law
Today we live in a time of growing uncertainty in all areas of social interaction. There
are no more familiar and centuries–established images of the world. Social time is
accelerating. The changes multiply and grow.
This is the epoch of postmodernity and globalization—the era of rapid

transformations and unpredictable consequences, when the ideas of diversity,
instability, fragmentation, convergence, erasure of boundaries between established
structures come to the fore. Moreover, the system of legal relations is no exception.
Radical complexity, diversity, instability, permanent development is inherent to a

modern object of legal regulation. The latter, on the one hand, determines the
avalanche-like growth of a legislative array, and on the other hand, the usual
legislative mechanisms do not keep pace with accelerating changes in the legal
regulation object. In the final analysis, zones of uncertainty in law expand, and
attempts to cope with them through legislative solutions alone resemble patching
holes, rather than solving problems.
Since social bonds and processes are infinitely diverse and dynamic, and they
constantly evolve as the social life becomes more complex and globalized,72 the
legislator’s ability to foresee the evolution of socio-economic phenomena and
enshrine them in extremely precise rules is considerably limited.73 One gap,
eliminated by the lawmaker, is replaced by two, or even more ones.74
At present two strategic directions that of the unification and modernization of tax
law are believed possible. The first direction is permanent updating tax legislation,
i.e., transformation of the Tax Code into an expanded instruction with a simplified
enactment of changes proposed. The second possible direction is active use of
relatively determined legal tools in lawmaking and the transfer of some of the
functions of norm formation to the level of law enforcement. Since numerous
alterations, changes, and amendments regularly made to the Tax Code are not able to
eliminate legal uncertainty and only devalue the legislative process,75 the second way
seems to be the most optimal one.
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Active deformalization and decentralization of lawmaking, accompanied by
pluralization of sources of law and involvement of a wide range of subjects in the
lawmaking process: courts, law enforcement agencies, international organizations,
private actors, their unions and associations, seem a promising direction of legal
development. At the same time, the share and importance of relatively determined
legal tools in the system of law increase. These are legal principles, common
standards (for example, conscientiousness, reasonableness, economic validity),
evaluative concepts, discretion, open-ended lists, framework (model) legislation,
recommendations, silence of the law, use of judicial doctrines, presumptions and
fictions, analogies, etc. A general legal tendency is obvious, and tax law is not an
exception here.
Of course, the principle of certainty of taxation is an unconditional value and, as such,

is not questioned. However, means and methods of its provision are paradigmatically
changing. In considering global trends, the transition from detailed legislative
regulation of “the whole lot” to a more flexible tax law and tax administration is
observed everywhere, where some possibilities of establishing, specifying, and even
developing precise content of tax norms are shifting from the legislator to the law
enforcer.76 With the help of open-ended legal tools, the state seems “to delegate”
powers to continue the rule-making process up to the level of direct law realization
(of course, where this is possible and admissible)77. In these conditions, all
participants of legal interactions become partly “quasi-legislators”.
Pluralization of the sources of law and decentralization of regulation (or outright

deregulation) are worldwide tendencies, lawmakers are encouraged, whenever the
practice is acceptable, to delegate the tailoring of some concrete aspects of legal
norms to those to whom the norms are addressed. A wide range of subjects such as
courts, law enforcement organs, international organizations, individuals, and their
unions and associations are supposed to be involved in the lawmaking process. Very
often, such concretization is executed with the help of relatively determined legal
instruments. The risk here lies in blurring what is meant by lawful behavior. A
lawmaker might adopt the following attitude toward the parties to taxation: “I know
that you are clever and responsible people. I trust you. You understand how you must
behave in order not to go too far. If it is difficult for you to understand, then begin a
dialogue between the private actors and the authorities; involve consultants and the
academic community. Uphold your position in court. I have set a norm, and it is your
task to fill it with specific content.” We all become lawmakers in part under these
conditions.
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It can be argued that the competent use of relatively determined legal tools is aimed at
countering arbitrariness and entropy in law.78 This is a specific transition from
uncertainty to certainty in the tax law system.
It would seem that in the end we get the paradox: uncertainty versus uncertainty.
However, this thesis is paradoxical only at first glance. Indeed, legal means with an
open textured meaning include elements of uncertainty at the level of legislation, but
at the same time, they allow to eliminate the state of uncertainty at the level of a
specific situation. As a result of resolving specific legal issues, efficient and
consensus-coordinated algorithms are developed, acting for participants in tax
relations as authoritative models for making decisions and acquiring a de facto
precedent character. Thus, discretionary arbitrariness in assessing and interpreting
facts is limited to normative models that are developed by legal practice and which
the law enforcer can (and has to) take into consideration in his practical activity.
Ultimately, uniformity in the understanding and application of tax rules is ensured,
and a due level of uniform treatment and predictability is achieved in the system of
tax law.
Thus, sometimes legal uncertainty can be viewed not as a purely negative

phenomenon subject to identification and eradication, but as a legal remedy
consciously used by the lawgiver. In a positive sense, legal uncertainty is a technical
device (tool) that the lawmaker uses and that allows to take into account the features
and dynamics of the social relations development.79
The use of relatively determined legal tools in tax law makes it possible to envisage
opportunities for individual legal regulation, provides law enforcers with an
opportunity to choose the most expedient solutions, covers regulation of a wider
range of homogeneous public relations, both existing at the time of the tax statute
publication, and those that may form in the future. Everyday transformations of
human bonds determine the need for adaptability and flexibility of legal (and tax)
systems, and therefore an admissible degree of uncertainty in legislative provisions is
the value of law, which helps to minimize the legislators’ effort backlog from
objective reality.
Many authors point out the possibility and appropriateness of using relatively
determined legal tools (general principles, judicial doctrines, appraisal concepts, etc.)
in tax law.80
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For example, Ofer Raban argues that, in some cases, vague legal standards can
provide greater certainty and predictability in many areas of the regulatory
environment than bright-line rules.81
George Christie highlights that it is linguistic uncertainty that often allows law to
exercise many of its social functions. In this context, the use of general terms with an
open-textured meaning in law is not only inevitable, but rather necessary. Uncertainty,
in his opinion, is sometimes an indispensable tool to achieve clarity and accuracy in
legal language. In addition, legal language uncertainty endows all normative methods
of social control with much-needed adaptability and flexibility. Christie believes that,
without such flexibility, a person will have to choose between a complete lack of
legal regulation and an impossible task of detailing what is possible and what is
inadmissible.82
According to John Avery Jones, the desire for certainty in tax law through more and
more detailed elaboration of legislation today is no longer working, as “detail and
certainty do not necessarily go together”. The desire to ensure the certainty of
taxation through precise and detailed rules “results in more and more detail hoping to
answer every question”, which in turn produces extensive growth and complication of
tax legislation, which is becoming increasingly complex and confusing. Jones calls
this trend “tax rule madness” for sure; he sees a way out in the reorganization of tax
law on the basis of more abstract general principles of taxation. In the end, he
concludes that “we need less detailed legislation, construed in accordance with the
principles, not a continuation of the plague of tax rule madness”.83
Thorsten Jobs writes that the principle of certainty does not prohibit the legislator in
the field of tax law to apply general rules, vague legal concepts, and references to
other legal norms; tax laws binding a tax obligation with economic relations must
bear entire diversity of economic realities; the principle of equal tax burden and tax
justice can be realized only when tax authorities and courts can use vague legal
concepts for specific cases, rather than adjust them to a rigid, final and casuistically
formulated rule.84
Thus, uncertainty in tax law can be manifested in two ways. The first one is negative,
that is, as a defect (omission). The second one is positive—as a specific technology of
legal regulation consciously and purposefully applied in the process of tax
lawmaking. In the first case, the situation of uncertainty is an unconditional defect
(imperfection) of tax legislation subject to elimination. In the second case, we are
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talking about relatively determined legal tools, which, although having an open
textured meaning, allow reducing the overall level of uncertainty in the tax law
system.
Various legal tools with an open textured meaning have relatively determined nature.
Some of them are discussed below.
3.2.1. Principles of Taxation
The legal principles are characterized by the highest level of regulatory generalization
(abstraction).85 Due to its specificity—fundamentality, open-ended structure,
multidimensional content, informative intenseness, axiological and ideological
character, combination of direct and unwritten methods of exposition, etc.—they refer
to the least detailed legal means.86
The principles of taxation have a complex structure. Unlike ordinary tax rules, they
consist of a number of imperatives, some of which is of an unwritten
nature.87 Therefore, the content of the principle is not limited to once and for all
given scope; it is multifaceted and changes with the development of tax and legal
science and practice. The principle is polysemantic, while other tax rules have, for the
most part, a very definite, unambiguous content.88 The lawgiver can only outline the
principle in general,89 but further many subjects of tax law, primarily the courts
reveal its content in the process of interpretation.
In tax law, the principles of universality and equality of taxation principles, the
ability-to-pay principle, the principle of tax federalism, the principle of legal certainty
and others are legalized and applied. At the same time, legal principles are applied in
the most difficult cases, which cannot be resolved (settled, qualified) by using a
“simple” tax rules.90
The principles of tax law cannot be viewed in isolation from each other; the operation
of each of them is conditioned by the functioning of the entire system of principles as
a whole. Organically complementing each other, they ensure the implementation of
“horizontal” and “vertical” justice in tax relations. Regarding specific situations, they
can dialectically “collide”91 and then the law enforcer needs to make some effort to
harmonize them with each other or to choose a principle that has priority in specific
circumstances.92
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The main task is to make the principles of taxation not declarative but really effective,
concentrate efforts on their use to resolve tax disputes, more fully reveal
their instrumental potential, i.e., turn the principles into a daily attribute of practical
jurisprudence.
3.2.2. The Vague (Evaluative) Terms and Concepts
The most obvious legal uncertainty is manifested when using tax norms with vague
terms and concepts. It is assumed that the precise content of the vague term should be
revealed in the course of its application in a specific situation. With that end in view,
the legislator deliberately and purposefully does not detail the content of vague terms
in tax laws, “delegating” such authorities to the addressees of tax rules. The latter
receive considerable freedom in interpreting Vague terms and fill them with a varied
content depending on the specific situation. Thus, uncertainty here is not a defect of
lawmaking, but a special device of lawgiving.
Russian tax law applies a variety of evaluative concepts. Examples include such
concepts as “income”,93 “justified expenses”, “similar taxpayers”, “assets, intended
for everyday personal use”, “information which is known to be false”, “valid reason”,
“ancillary work (services)”, “difficult personal or family circumstances”,
“insurmountable obstacle”, “normal conditions”, “regularly”, “sufficient grounds”,
etc.
The vague (evaluative) concepts in the tax law are ambiguous and uncertain, their
content has open character, and the law often does not contain guidance on how they
should be understood.94 Such specificity are forcing the addressee of the rule with
the vague concept “to decode” individually and independently the meaning of the
latter, putting into it his own understanding and case law. Open, i.e., incomplete
structure of the vague concepts allows law-enforcers to supplement it with a new
signs, and new meanings. Thus, the vague term can be metaphorically represented as
a permanently constructed building, to which participants in legal relationships
periodically add new “bricks”—additional structural elements.
If it is impossible for the precise concept to cover all the variety of phenomena
regulated by law, alternatives to vague concepts are a gap or legislative inflation.
Evaluative concepts allow of overcoming excessive formalism and inertia of tax law,
make tax law more flexible and compliant, make it possible to take into account
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concrete situations specificity, ensure, on the one hand, compactness, and on the other
hand—completeness of tax relations regulation.
The open-ended structure of evaluative terms relieves the legislator from the need to
introduce permanent changes in legislation, contributing to its stabilization and
predictability. Evaluative concepts are sort of “bridges” spanning tax law formalism
and realities of everyday life.
Therefore, the strategic direction should not consist in refusing to use vague terms,
but in finding the optimal correlation of detailed certainty and relative vagueness in
the sources of tax law. It is required to optimize the total number of vague terms in
the sources of tax law, to agree doctrinally their application methodology and to
develop uniform criteria to evaluate and specify such concepts. The main thing here is
the observance of equality and legal unification according to the principle “analogous
solutions in analogous legal situations”. Evaluation and specification of evaluative
terms should be carried out within the framework and on the basis of the law, be
grounded, supported by credible arguments, not based on a system of individual value
landmarks, but rather on objective criteria and tests worked out empirically.
3.2.3. Open-Ended Lists
The open-ended lists of certain legal concepts (the so-called catalogs) envisaged by
the Tax Code (e.g., interdependent persons; the circumstances which mitigate liability
for the commission of a tax offence; the circumstances in which a person may not be
found guilty of committing a tax offence; non-sale expenses; etc.) performs
comparable functions as the vague concepts in the tax law. Like the Vague terms, they
allow the tax authorities and the courts to expand (to supplement) such list with new
elements.
3.2.4. Anti-Avoidance Rules
A special kind of relatively determined legal tools in the sphere of taxation is so-
called general anti-avoidance rules (e.g., the doctrine of unjustified tax benefit, the
substance over form doctrine, the sham transactions doctrine, the step transaction
doctrine, the economic substance doctrine, the doctrine of an piercing the corporate
veil, arm’s length principle, the business purpose test, the substantive business
activity, etc.).95 The necessity for the address to them is caused by the fact that the
rigid and unambiguous tax law is not able to prevent aggressive tax planning, which
borders on the illegal tax evasion.96
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Unfortunately, certainty of the tax law does not eliminate the possibility of its
circumvention. Natural desire to avoid paying taxes encourages the taxpayer to
tirelessly invent new ways of tax minimization, which often balance on the brink of
legality. An individual may always find a loophole in the tax law that allows him to
circumvent the law, but did not formally break it. Such play with rules creates
boundless opportunities for the aggressive tax planning and for the designing the
various kinds of the artificial tax avoidance schemes that distort the meaning and the
purpose of the tax legislation. Tax abuses formally correspond to the letter of the law,
but violate the spirit of the tax code.97 With the help of precise and detailed tax rules
alone, it is impossible to cope with this problem, as we will constantly come across a
glaring discrepancy between legality and justice. In this aspect, the task of relatively
determined legal tools, including general anti-avoidance rules, is to “wake up justice
that has fallen asleep” in every tax law.98
Of course, the potential ex post application of one or more anti-abuse standards

introduces uncertainty in tax planning practices, increases tax risks and makes the
resolution of tax disputes unpredictable.99 However, without resorting to them, one
cannot effectively (if at all possible) combat tax abuses, which often include several
multi-stage transactions,100 participants and tax jurisdictions, but do not reflect
economic reality and produce tax consequences, not provided for by the tax law.101
In general, anti-avoidance rules prohibit the abusive behaviors in the sphere of taxes,
but does not detail what constitutes such “the abuse”. At best, the unspecified and
indistinct criterions and reference points developed by judicial and law-enforcement
practice are addressed taxpayers. Around the world, the opposition to such standards
has been very strong;102 however, today they are implemented everywhere as the
general principles of tax legislation or as the judicial doctrines. Of course, the use of
GAAR poses a real threat of the blurring of lawful behavior boundaries.103 It is
sometimes very difficult for a taxpayer to understand where the “red line” separates
legal acceptability of behavior from abusive activity.104 However, it should be noted
that, in this case, the legislator has to choose not between bad and good, but between
bad and worse.
3.2.5. Qualified Silence of the Law
Qualified silence of the law is a legislative technology consisting in conscious and

deliberate unwillingness of the legislator to regulate this or that situation by means of
legal rules.
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Qualified silence as a method of legal technique is used in those cases when the
lawmaker deliberately refuses from the normative regulation of the situation or
regulates it in the most general form, delegating further settlement up to the level of
the addressees of the law. In this case, the legislator does not say “no”, “prohibited”,
“inadmissible”, but recognizes that at the level of the law, the exhaustive regulation of
the issue in question is unreasonable.105 Therefore, he consciously leaves the
question “open” in order to give persons concerned the opportunity of settling it in the
way most convenient for them. There is a presumption that if the issue is not directly
regulated by the tax law, everyone is entitled to exercise their rights and obligations in
the manner most favorable for them.
In particular, mandatory forms of confirmation of many circumstances (for example,

tax residency, the right to deduction, offset or refund of taxes, objections to the tax
audit, various extracts from documents, notices, applications, requests, etc.) and the
order of their submission to tax authorities are not officially established. This allows
the taxpayer to independently determine the most convenient model of his behavior.
Another example: foreign organizations that have a number of economically

autonomous subdivisions in the territory of the Russian Federation shall select a
subdivision through whose place of registration with a tax authority, they will submit
tax declarations, and pay tax in respect of the operations of all the foreign
organization’s economically autonomous subdivisions, in the territory of the Russian
Federation taken as a whole. Foreign organizations shall give written notice of their
choice to the tax authorities for the locations of their economically autonomous
subdivisions in the territory of the Russian Federation (Art. 174, para. 7 of the Tax
Code of the Russian Federation). Since the form of such notification and the term of
its submission to the tax authority have not been legally established, the taxpayer is
entitled to draw up a notification in an arbitrary form and send it to a tax authority at
any time prior the deadline for filing a return and paying a tax.
It is possible to draw up objections to a tax audit act in an arbitrary form, since there
are no mandatory requirements for the formulation and content of such objections. An
extract from the balance sheet, an extract from the sales ledger, an extract from the
ledger of income and expenses and economic operations can also be filed with a tax
authority in an arbitrary form.
Thus, with reference to “Silence of the Law”, we are not talking about the drawbacks
of lawmaking (as in the situation with gaps in law), but, on the contrary, about the
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deliberate expression of the will of the legislator, albeit expressed in a special way. In
this case, the lawmaker intentionally transfers the right to resolve the issue to the
addressee of the norm of law in order to take all the concrete facts and circumstances
into account most effectively.
3.2.6. Discretion
Discretion is often manifested itself when the law gives the official the right to depart
from the general pattern of behavior prescribed by the tax rule.106 In this case, the
official has to solve independently to realize to him this opportunity or not.107
In relation to the tax law, Ana Paula Dorado defines the term “administrative
discretion” in its stricter sense as “the choice between two or among several different
alternatives granted by law, and that choice implies a subjective assessment of the
specific circumstances of the case which is not to be controlled by the courts”.
Thereby, in her opinion the discretion includes three elements: (1) that it is either
explicitly or implicitly granted by law and, whereas in the former case there will be
an express authorization by the law or statute in that direction, in the latter case that
will stem from vagueness and indeterminacy; (2) that it requires a case-by-case
assessment; (3) that the subjective assessment goes beyond interpretation, and that it
must be exercised by the tax administration and therefore is not to be controlled by
the courts, since, otherwise, a subjective assessment would be substituted for another
subjective assessment.108
For example, the Russian legislators exhaustively lists the transfer pricing methods to
be used in determining for taxation purposes income (profit, receipts) in transactions
in which the parties are interdependent persons (Art. 105.7, para. 1 of the Tax Code of
the Russian Federation). The comparable market price method shall be used on a
priority basis for the purpose of determining the conformity of prices used in
transactions to market prices; it is applied as a general rule. The use of the other
transfer pricing methods envisaged in Art. 105.7, para. 1 of the Tax Code of the
Russian Federation (the resale price method; the cost plus method; the comparable
profits method; the profit split method) shall be permitted where the comparable
market price method cannot be used (e.g., where there is no publicly available
information on prices in comparable transactions involving identical (similar) goods,
work and services) or where the use of that method would not enable a conclusion to
be drawn on whether or not prices used in transactions conform to market prices for
taxation purposes. The conclusion about the impossibility or the deficiency of the use
of the comparable market price method, as well as the choice of one of the methods
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or combinations thereof is a discretionary power of the federal executive body in
charge of control and supervision in the area of taxes and levies. As a criterion for the
choice of “the best” transfer pricing method(s) the Tax Code indicates that the method
to be used shall be that which, taking into account the actual circumstances and
conditions of a controlled transaction, best enables a reasoned conclusion to be drawn
as to whether or not the price used in a transaction conforms to market prices. In
selecting the method to be used in determining for taxation purposes income (profit,
receipts) in transactions in which the parties are interdependent persons, account must
be taken of the completeness and reliability of source data and of the appropriateness
of adjustments made for the purpose of rendering compared transactions comparable
with the tested transaction (Art. 105.7, para. 3, 4, 6 of the Tax Code of the Russian
Federation).
The reasons of use of a discretion coincide with the general factors that determine the
use of the relatively determined legal tools in the tax law.109 This, in particular, is the
application of a teleological legal interpretation; the need of specification (and even
more so—the need of individualization) of the abstract normative (regulatory) models
generated by method of typification of common features of social interactions; the
overcoming of excessive conservatism and formalism of statutory law, and as a
consequence—the overcoming of inconsistencies and fragmentation in the law.110
One should agree with Gaetano Pagone, who claims that discretions in law, including
tax law, may be necessary, but they should be structured, confined, reviewable, and
above all predictable.111 Ultimately, discretion plays an important role for the
optimization of administrative impact in the concrete conditions of the tax
administration, when it is required to react adequately, flexibly, and quickly to the
specifics of individual cases, legal facts, or legal relation in general.112
3.2.7. Presumptive Taxation
In the area of taxes, there are the special relatively determined tools, which
significantly expand the discretionary capacity of tax authorities. Examples include
the imputed methods of calculation of tax liabilities, which are based not on the actual
financial results (indicators), but on the conditional assumptions, presumptions, and
analogies.113
In tax literature, such methods are often referred to as “presumptive

taxation”.114 This method of taxation imputes income to businesses based on easily
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verifiable external factors, rather than relying on businesses to self-report their
income.115 As Victor Turonyi points out, presumptive taxation involves the use of
indirect means to ascertain tax liability, which differ from the usual rules based on the
taxpayer’s accounts.116 It is generally accepted that the presumptive taxation
methods includes estimated assessments, standard assessments, and presumptive
minimum taxes.117
In Russia, for example, tax authorities shall have the right to determine the amounts
of taxes payable by taxpayers to the budget system of the Russian Federation using a
calculation method on the basis of information, which is available to them concerning
the taxpayer and data relating to other similar taxpayers if the taxpayer being
inspected fundamental violates tax laws. In this case, the discretion is manifested
above all in the search for and qualification of the third person as “similar taxpayer”
because a calculation method of taxation is founded on the assumption that the other
taxpayer, who is in good faith, engaged in the same kind of activity under similar
economic conditions, has the tax base the amount of which is most likely assumed to
be the same as the audited taxpayer. The basis for this discretion is the following
presumption: the similar taxpayers have the similar tax bases. Certainly, two
completely identical businesses cannot be found, they just do not exist in the nature.
Therefore, presumptive methods of taxation are always only relatively
accurate and relatively reliable that, however, does not call into question their
legitimacy.118
The use of presumptive taxation is a forced measure, in demand in conditions of

actual uncertainty, when it is difficult or impossible to obtain reliable knowledge
about incomes and other elements of taxation. The main disadvantage of presumptive
taxation is that here we deliberately sacrifice the accuracy (credibility) of calculating
the tax, determining them with varying degrees of probability.
3.2.8. Intermediate Conclusions
Thus, relatively determined legal tools are a dimension of “positive uncertainty” in

tax law.
The legislator should always pursue a preemptive tactic. In this context, relatively
determined legal tools allow legal impact to cover not only existing realities, but also
those that will arise in the future and, therefore, still unknown to the lawmaker at the
time of passage of the law. This overcomes the contradiction between the high
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dynamics of social changes and the limited ability to foresee these changes. As a
result, the fullest possible accounting of all probable situations related to taxation is
ensured, and the ability of tax law to flexibly adapt to dynamically changing
conditions and adequately respond to them is realized. Thus, the use of relatively
determined legal tools is aimed at preventing incompleteness and uncertainty of tax
law.
Of course, excessive enthusiasm for relatively determined legal tools can

unjustifiably dilute the contours of tax obligations, increase instability, and provoke
tax disputes. Therefore, the search for a reasonable balance between abstractness and
concreteness, generalization and detailing, flexibility and rigidity, dynamism and
stability in tax law is the most important task facing the tax community.119
3.3. The Principle of Resolving Doubts in Favor of Taxpayer
To reduce uncertainty in tax law, various legal means, and technologies are used. In
Russia, the presumption that all unresolvable doubts, contradictions, and ambiguities
in acts of tax and levy legislation is to be interpreted in favor of the taxpayer is of
great importance.120
In the opinion of the Constitutional Court of the Russian Federation, the legal
principle in dubio contra fiscum is the dimension of the constitutional principle of
legally established taxes in tax law, by virtue of which the tax authorities can act only
within the limits established by law enunciated in accordance with democratic
procedures.121
This principle is termed “the presumption of taxpayers’ rightness” and aimed at the
protection of the interests of the latter. The fact-ground for this presumption is the
existence of irremovable uncertainty in tax law, and a presumed fact is the taxpayer’s
right to interpret such uncertainty in his favor.122
Why does the law provide for such a “benefit” to the taxpayer? First, the private
actor, opposing the state within tax relations, is an a priori “weak side” in subordinate
tax relations. Therefore, protection of his rights and interests should dominate. With
account for the unwritten principle of increased protection of the least protected
counterparty, and in order to equalize the legal capabilities of the parties in tax
disputes, the taxpayer is given priority over the state in interpreting irremovable
doubts, ambiguities, and contradictions of tax law.123
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Secondly, the presence of such defects is the fault of the rule maker, not the taxpayer.
Therefore, it is the state as the guilty party that takes upon itself the burden of the
negative consequences of all the shortcomings of the legislation. Since the lawmaker
is obliged to formulate tax legislation in such a way that every person knows
precisely which taxes (levies) he must pay, and when, and according to what
procedure he must pay them, then it is the state that should be responsible for the non-
fulfillment of this duty. Legal uncertainty caused by the legislator’s insufficient work
should be interpreted in favor of the taxpayer.124 Thus, the presumption of the
rightness of the taxpayer logically follows from the principle of certainty of
taxation.125
Thirdly, the historical prerequisites for the formation of the presumption of the
taxpayer’s rightness can be found in the famous maxim of Roman law in dubio pro
reo (or in dubio pro tributario).
What do the terms “doubt”, “contradiction” and “non-clarity” mean in the context of
the presumption under consideration? Tax literature and judicial practice analysis
shows that “doubt” is the impossibility of unambiguous interpretation of the tax rule
content due to its uncertainty. “Contradiction” presupposes the presence of two or
more tax rules of a mutually exclusive nature and equal force, as a result of which
there arises uncertainty in the taxpayer’s understanding of his rights and duties.
“Uncertainty” is show up in the discrepancy between a semantic and textual
component of the law fragment, objectively impeding the precise interpretation of the
actual will of the lawmaker, expressed in such a fragment.
Take notice, that in this case it is a matter not of any legislative defects, but only of
collisions of irremovable character.126 According to the elucidation of the
Constitutional Court of the Russian Federation, certain legal and technical
inaccuracies permitted by the lawmaker when formulating the tax rule, while making
it difficult to understand the true meaning of the law, are not grounds for concluding
that such a norm is indeterminate, vague, not containing clear standards, and
respectively, not meeting the constitutional principles of taxation127.
Uncertainty that is not irremovable, in the Court’s view, should be overcome by

systematic interpretation, with regard for hierarchical construction of rules in the legal
system, which assumes that lower-level rules should be interpreted in accordance
with higher-level ones and with account taken of general objectives of the relevant
law passage.128
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Thus, in order to apply the “presumption of the taxpayer’s rightness” it is not enough
to establish the presence of ambiguities or contradictions in the tax law, it is also
necessary to ground their irremovable nature. The latter means that it is impossible to
eliminate legal uncertainty by interpretation, when the only possible means of its
eliminating is lawmaking.
Considering tax disputes arisen due to different interpretations by tax authorities and
taxpayers of tax laws, courts should assess the certainty of relevant tax rules.
Moreover, the presumption of the taxpayers’ rightness can only be applied as an
extreme measure, when any other legal means to resolve a tax dispute has already
been exhausted. At the same time, only those doubts that cannot be eliminated can be
recognized unremovable, irrespective of the use of all known methods of interpreting
the law: grammatical, logical, historical, and other methods, comparative legal
analysis of this rule, and related tax norms, as well as by means of direct application
of tax law fundamental principles.129 In any case, uncertainty in tax law is not
recognized as unremovable if there are legitimate legal technologies for its resolution.
For example, contradictions between the legal norms of the same legal force are
unremovable. Gaps in tax law, which are unremovable to overcome by analogy, are of
unremovable nature.130 Lack of uniformity on the tax norm interpretation in judicial
practice and official explanations of fiscal authorities can serve as a confirmation of
non-removability. It should be emphasized that for the court issuing incompatible
elucidations of state bodies on a contentious issue is not an unconditional proof of
non-removability of doubts, contradictions, and ambiguities in tax legislation.
Some common, universal criteria and tests for applying the presumption of the
taxpayer’s rightness in practice have not yet been formed. In each specific case, the
court must, in its internal conviction, fully and comprehensively examine and
evaluate the totality of the evidence submitted by the parties to a case.
4. Conclusions
Thus, the principle of certainty of taxation includes a number of formal and rich in
content requirements, namely: preciseness, clarity, understandability, and accessibility
for a general understanding of tax norms, a reasonable balance of abstract and
concrete, completeness (the absence of fragmentation), stability of tax legislation,
logical and systemic consistency of tax norms, i.e., coherence (at least—the absence
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of obvious contradictions), where every new norm must be harmonized with the
norms of the national and international law.
Uncertainty in tax law is manifested in two ways: on the one hand, negatively—as an
omission of the legislator and, on the other hand, positively—as a combination of
specific legal means and technologies that are purposefully applied in lawmaking and
law enforcement. In the first case, it is a matter of defects in the tax law, subject to
elimination in the process of lawmaking; in the second—the point is special methods
of legal techniques, which, although are relatively determined in nature, allow
reducing the overall level of uncertainty in tax law.
It seems obvious that relative certainty is always better than total uncertainty. Today
we are witnessing the formation of new trends in the system of legal regulation, both
at the sectoral level and at the level of the legal system at large. The matter is a
peculiar quasi-delegation of legislative power-ups to the level of law enforcement.
In this context, relatively determined legal tools are an effective channel for the
transition from uncertainty to certainty in the field of taxation. The paradoxical
dialectic of modern law perception is that the tendency to expand the use of relatively
determined legal tools in the processes of lawmaking, and the involvement of mass
actors in it, on the one hand, increases the overall level of legal uncertainty, but on the
other hand, it allows tax law to be more flexible and adequate to the rapidly changing
realities of modern life.
The use of relatively determined legal tools is a kind of “invitation” to rulemaking. It

is here that the creative abilities of a lawyer, his ability to think unconventionally, to
make non-standard decisions, to operate with interdisciplinary categories, including
those outside the legal system are revealed.
The legislator resorts to relatively determined legal tools to, firstly, provide tax
relations participants with legitimate behavior algorithms in situations of uncertainty
in tax law and, secondly, to give tax law greater flexibility and elasticity to promptly
respond to environmental evolution. Such means contain elements of uncertainty at
the level of legislation; but at the same time, they allow of eliminating uncertainty at
the level of a specific situation. Ultimately, unification in the understanding and
application of tax rules is achieved.
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The tendency to expanded use of relatively determined legal tools (principles,
evaluative concepts, judicial doctrines, standards of good faith and reasonableness,
discretion, open-ended lists, recommendatory acts, framework laws, silence of the
law, presumptive taxation, analogy, etc.) in lawmaking processes, and the
involvement of various subjects (courts, law enforcement agencies and officials,
international organizations, interstate integration bodies, private actors and their
associations) in it allows making tax law more dynamic, “mobile” and adequate to the
changing realities of everyday life.
The main task is to find the optimal balance between rigidity and flexibility of tax
norms, ensuring, on the one hand, predictability, regularity, and uniformity of tax law,
and on the other hand, its dynamic development, viability, and adaptability in the era
of globalization and accelerating environmental transformations.
3. Convenience: The process of paying taxes should be as simple and accessible as
possible. This principle aims to minimize the burden on taxpayers and ensure they
can meet their obligations without excessive effort or cost.
Paying Taxes
Select a topic
This topic recorded the taxes and mandatory contributions that a medium-size
company must have paid or withheld in a given year, as well as the administrative
burden of paying taxes and contributions. The most recent round of data
collection for the project was completed on May 1, 2019 covering for the Paying
Taxes indicator calendar year 2018 (January 1, 2018 – December 31, 2018). See
the methodology and video for more information.
Properly developed, effective taxation systems are crucial for a well-functioning
society. In most economies, taxes are the main source of revenue to fund public
spending on education, health care, public transport, infrastructure and social
programs, among others. A good tax system should ensure that taxes are
proportionate and certain (not arbitrary) and that the method of paying taxes is
convenient to taxpayers. This includes offering to taxpayers electronic systems for
filing and paying taxes, merging taxes with the same tax base, allowing for self-
assessment and having a clear and efficient processes for refunding VAT cash
refunds and undergoing tax audits.
Offering electronic filing and payment
An electronic system for filing and paying taxes, if implemented well and used by
most taxpayers, benefits both tax authorities and firms. For tax authorities,
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electronic filing lightens the workload and reduces operational costs—such as the
costs of processing, storing and handling tax returns. At the same time, it
increases tax compliance and saves time. For taxpayers, electronic filing saves
time by reducing calculation errors on tax returns and making it easier to prepare,
file and pay taxes.1 For example, the cost of paper filing and reporting for
personal income tax in the US (including cost of filling numerous reporting forms
and tax returns) can potentially reach up to 1.2% of GDP for US. 2 Both sides
benefit from a reduction in potential incidents of corruption, which are more
likely to occur with more frequent contact with tax administration staff.3
Many economies have restructured their tax administrations to introduce a
functionally-based tax agency, often a crucial step in the introduction of a
centralized online filing and payment portal for the major taxes. Other economies
have focused easing the administrative element of tax compliance through
investment in new tax software, real-time reporting and data analytics, together
with the provision of a wide range of taxpayer service programs.
By 2018, 106 economies had fully implemented electronic filing and payment of
taxes. Sixty-three of them adopted their systems over the past 15 years. Electronic
filing and payment are most common in OECD high-income economies, where 33
economies out of 34 have such systems in place, followed by Europe and Central
Asia, where 22 economies out of 23 use electronic systems. The expansion of
electronic filing and payment systems is likely to continue. In the next few years
many other OECD high-income economies, having introduced requirements for
electronic filing and payment for larger businesses, plan to extend them to smaller
ones.4
The ability to file and pay taxes electronically has had a positive impact on firms
in several economies in Latin America and the Caribbean. In Uruguay, for
example, the government adopted the Financial Inclusion Act on May 9, 2014,
which included the compulsory electronic payment of national taxes in an effort
to gradually increase both the economy’s level of digitalization and the use of
banking services. Most taxpayers were filing and paying their taxes online by
early 2016, when the government added new features to the online platform.
Many procedures that previously were done in person at the tax office—such as
registration, credit certificate applications, payments and accountant certificate
submissions—are done electronically. A majority of taxpayers can now access the
online portal, and, with the system’s improved features, the time to comply with
the three major taxes measured by Doing Business has decreased by 81 hours.
East Asia and the Pacific was the second most proactive regions introducing such
systems. China has implemented business tax reforms consistently over the years,
with notable results. In Doing Business 2006, for example, businesses in Beijing
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spent 832 hours per year on average to prepare, file and pay taxes, and they had to
make 37 payments. By Doing Business 2020, these metrics have been reduced to
just 138 hours per year and seven payments. China began its tax modernization
program—which involved redefining tax shares between the various tax
authorities and transitioning from turnover taxes to value added taxes—in the
early 1990s. Since then, China has implemented numerous improvements to its
tax system, including the introduction of a taxpayer services hotline (2005), the
formation of a specialized Taxpayer Services Department and online filing and
payment for the major taxes (2008), and a campaign to improve cooperation
between the State Taxation Administration and local tax bureaus, provide
electronic notices to taxpayers and reduce the number of tax filings for certain
taxpayers (2013). In 2014 China integrated taxpayer services functions through a
mobile tax application and launched official accounts on the two main Chinese
social media platforms (WeChat and Weibo). In 2015, the Internet+ Taxation
Initiative unlocked the potential of big data for taxpayer services, such as data
sharing among government bodies, online training and e-invoices. Finally, the
State Taxation Administration launched the Golden Tax III system in 2017, which
facilitated e-filing of different stamp duty taxes. China implemented a series of
measures in the past two years, which simplified corporate income tax, labor
taxes, value added tax declarations and e-delivery of invoices.
The existence of an electronic system does not of itself guarantee that taxpayers
will see a reduction in compliance time. Often, taxpayers can experience issues
with using electronic filing and payment systems, either due to glitches and errors
in the system or a lack of taxpayer training and guidance. Many tax
administrations tackle such issues by updating their online systems continually.
Keeping it simple: one tax base, one tax
More than two centuries after Adam Smith proclaimed simplicity to be one of the
pillars of an effective tax system, multiple taxation—where the same tax base is
subject to more than one tax treatment—continues to make tax compliance
inconvenient and cumbersome for taxpayers.5 Multiple taxation increases the cost
of doing business for firms because it increases the number of payments they
must make and, frequently, compliance time. Various forms have to be filled out,
often requiring diverse methods for tax calculation. Multiple taxation also
complicates tax administration for tax authorities and increases the cost of
revenue administration for governments. Furthermore, multiple taxation can
reduce investor confidence in an economy.
Forty-six economies measured by Doing Business have one tax per tax base. One
tax keeps things simple. Having more types of taxes requires more interaction
between businesses and tax agencies and can complicate tax compliance.
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Starting from 2010, firms in the Republic of Korea were no longer required to do
separate calculations for property taxes and city planning taxes levied on the same
base (the taxes were merged with other taxes). Furthermore, following an effort to
unify social security laws and administration, today businesses can file and pay
four labor taxes and contributions jointly. They are, in effect, freed from a need to
file additional returns and bear additional tax compliance costs.
Goods and Services Tax (GST) was launched in India on July 1, 2017, after
almost 20 years of discussions between the central and state governments. Under
the slogan “one nation, one tax”, the single GST integrated 17 central and state
taxes and levies, including central excise duty, services tax, additional customs
duty and state VAT into one tax. This is expected to significantly modernize and
improve transparency for India and ensure low cost of compliance. The
integration of the several indirect taxes has reduced the number of tax payments
and is expected to also reduce the time taken for preparation of tax return, filing
and payment. Additionally, the unified tax regime has also eliminated the need for
inter-state check points at border between states and reduced inter-state travel
time of cargo trucks.
In the past 15 years, 62 economies eliminated or merged some taxes to simplify
tax compliance and reduce costs for firms. Another way to make compliance
easier when firms are subject to numerous taxes is to allow joint filing and
payment of taxes levied on the same base. For example, firms in Colombia face
four different taxes on salaries—but can meet these tax obligations by filing only
one form and making one payment for all four taxes each month. In most OECD
high-income economies taxes levied on the same base are paid and filed jointly
and, as a result, the average number of payments across all economies in that
group is only 10. Compare this with an average of 23 payments across all 190
economies measured by Doing Business.
Adopting self-assessment as an effective tool for tax collection
Driven by a desire to reduce administrative costs for tax authorities and aided by
modern technology, most economies have adopted the principle of self-
assessment. Taxpayers determine their liability under the law and pay the correct
amount. For governments, computer systems and software for self-assessment,
when well functional, ensure effective quality control. Self-assessment systems
generally make it possible to collect taxes earlier and reduce the likelihood of
disputes over tax assessments.6 They also lessen the discretionary power of tax
officials and reduce opportunities for corruption. 7 On other hand, the empirical
study by Yuswar shows that the tax compliance behavior is facilitated by self-
assessment system implementation 8. To be effective, however, self-assessment
needs to be properly introduced and implemented, with transparent rules, an
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automated reporting process, penalties for noncompliance and risk assessment
procedures for audit processes. Along with these measures, the transparency on
public funds use as well as the control for corruption are important factors in
fostering the tax moral and increasing tax compliance 9.
Economies that have introduced their tax system recently or undertaken major
revision of tax regulations have tended to adopt self-assessment principles. These
include all economies in Europe and Central Asia and almost two-thirds of
economies in East Asia and the Pacific, the Middle East and North Africa and
South Asia.
Effective tax administration through risk-based tax audits
Several studies show that tax administration and tax policy affect the level of
informality and productivity in an economy. A higher tax burden contributes to
the prevalence of informality. Informal firms are the ones that avoid paying a full
amount of tax due. Through tax evasion, informal firms enjoy a relative cost
advantage over their tax-compliant competitors. This amounts to a potentially
large subsidy, allowing informal firms to stay in business despite low productivity
and increasing their weight in the economy at the expense of more productive
firms.10 IMF empirical analysis using firm-level data for manufacturing in
emerging markets confirms that firms that report only 30% of their sales are less
productive than 100% compliant firms.11
Efficient tax administration can mitigate the effects of a high tax burden and help
to reduce the level of informality in an economy. Several measures can be adopted
to strengthen the tax administration. However, perhaps the most important of
these is the adoption of risk-based tax audits. Tax audits, which are essential for
reliable tax reporting, are considered to be more effective when they are risk-
based and when tax auditors are well trained. 12 The risk-based audit system in
Thailand, for example, does not flag returns for an audit where there is an error in
the tax return or an underpayment of tax liability due.
In 2017, the Mauritius Revenue Authority issued a new Guideline for VAT
repayment claims based on the level of company risk. Under the new Guideline,
low-risk companies can be deemed eligible for a fast-track refund process without
any additional review or audit and the repayment of the refund is made in five
calendar days. Firms assessed to the second level of risk—which include those
with a simple claim for a VAT cash refund like the Doing Business case study—
are also refunded quickly (within 15 calendar days). These claims would be
subject only to a desk review of the documents without any interaction with the
taxpayer. For those cases assessed as high-risk, the tax authority conducts an audit
before approving or rejecting the repayment claim.
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Armenia amended its value added tax law to allow cash refunds for all cases as of
2018. Value added tax cash refunds are no longer restricted to international
traders. In 2018, Côte d'Ivoire introduced an electronic case management system
for processing value added tax cash refunds.
4. Efficiency: Tax systems should minimize economic distortion and not discourage
productive activity. An efficient tax system maximizes revenue with minimal cost
and disruption to the economy.
Tax Policy for Developing Countries
Why do we have taxes? The simple answer is that, until someone comes up with a
better idea, taxation is the only practical means of raising the revenue to finance
government spending on the goods and services that most of us demand. Setting
up an efficient and fair tax system is, however, far from simple, particularly for
developing countries that want to become integrated in the international economy.
The ideal tax system in these countries should raise essential revenue without
excessive government borrowing, and should do so without discouraging
economic activity and without deviating too much from tax systems in other
countries.
Developing countries face formidable challenges when they attempt to establish
efficient tax systems. First, most workers in these countries are typically
employed in agriculture or in small, informal enterprises. As they are seldom paid
a regular, fixed wage, their earnings fluctuate, and many are paid in cash, "off the
books." The base for an income tax is therefore hard to calculate. Nor do workers
in these countries typically spend their earnings in large stores that keep accurate
records of sales and inventories. As a result, modern means of raising revenue,
such as income taxes and consumer taxes, play a diminished role in these
economies, and the possibility that the government will achieve high tax levels is
virtually excluded.
Second, it is difficult to create an efficient tax administration without a well-
educated and well-trained staff, when money is lacking to pay good wages to tax
officials and to computerize the operation (or even to provide efficient telephone
and mail services), and when taxpayers have limited ability to keep accounts. As a
result, governments often take the path of least resistance, developing tax systems
that allow them to exploit whatever options are available rather than establishing
rational, modern, and efficient tax systems.
Third, because of the informal structure of the economy in many developing
countries and because of financial limitations, statistical and tax offices have
difficulty in generating reliable statistics. This lack of data prevents policymakers
from assessing the potential impact of major changes to the tax system. As a
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result, marginal changes are often preferred over major structural changes, even
when the latter are clearly preferable. This perpetuates inefficient tax structures.
Fourth, income tends to be unevenly distributed within developing countries.
Although raising high tax revenues in this situation ideally calls for the rich to be
taxed more heavily than the poor, the economic and political power of rich
taxpayers often allows them to prevent fiscal reforms that would increase their tax
burdens. This explains in part why many developing countries have not fully
exploited personal income and property taxes and why their tax systems rarely
achieve satisfactory progressivity (in other words, where the rich pay
proportionately more taxes).
In conclusion, in developing countries, tax policy is often the art of the possible
rather than the pursuit of the optimal. It is therefore not surprising that economic
theory and especially optimal taxation literature have had relatively little impact
on the design of tax systems in these countries. In discussing tax policy issues
facing many developing countries today, the authors of this pamphlet
consequently draw on extensive practical, first-hand experience with the IMF's
provision of tax policy advice to those countries. They consider these issues from
both the macroeconomic (the level and composition of tax revenue) and
microeconomic (design aspects of specific taxes) perspective.
Level of Tax Revenue
What level of public spending is desirable for a developing country at a given
level of national income? Should the government spend one-tenth of national
income? A third? Half? Only when this question has been answered can the next
question be addressed of where to set the ideal level of tax revenue; determining
the optimal tax level is conceptually equivalent to determining the optimal level
of government spending. Unfortunately, the vast literature on optimal tax theory
provides little practical guidance on how to integrate the optimal level of tax
revenue with the optimal level of government expenditure.
Nevertheless, an alternative, statistically based approach to assessing whether the
overall tax level in a developing country is appropriate consists of comparing the
tax level in a specific country to the average tax burden of a representative group
of both developing and industrial countries, taking into account some of these
countries' similarities and dissimilarities. This comparison indicates only whether
the country's tax level, relative to other countries and taking into account various
characteristics, is above or below the average. This statistical approach has no
theoretical basis and does not indicate the "optimal" tax level for any country. The
most recent data show that the tax level in major industrialized countries
(members of the Organization for Economic Cooperation and Development or
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OECD) is about double the tax level in a representative sample of developing
countries (38 percent of GDP compared with 18 percent).
Economic development will often generate additional needs for tax revenue to
finance a rise in public spending, but at the same time it increases the countries'
ability to raise revenue to meet these needs. More important than the level of
taxation per se is how revenue is used. Given the complexity of the development
process, it is doubtful that the concept of an optimal level of taxation robustly
linked to different stages of economic development could ever be meaningfully
derived for any country.
Composition of Tax Revenue
Turning to the composition of tax revenue, we find ourselves in an area of
conflicting theories. The issues involve the taxation of income relative to that of
consumption and under consumption, the taxation of imports versus the taxation
of domestic consumption. Both efficiency (whether the tax enhances or
diminishes the overall welfare of those who are taxed) and equity (whether the tax
is fair to everybody) are central to the analysis.
The conventional belief that taxing income entails a higher welfare (efficiency)
cost than taxing consumption is based in part on the fact that income tax, which
contains elements of both a labor tax and a capital tax, reduces the taxpayer's
ability to save. Doubt has been cast on this belief, however, by considerations of
the crucial role of the length of the taxpayer's planning horizon and the cost of
human and physical capital accumulation. The upshot of these theoretical
considerations renders the relative welfare costs of the two taxes (income and
consumption) uncertain.
Another concern in the choice between taxing income and taxing consumption
involves their relative impact on equity. Taxing consumption has traditionally
been thought to be inherently more regressive (that is, harder on the poor than the
rich) than taxing income. Doubt has been cast on this belief as well. Theoretical
and practical considerations suggest that the equity concerns about the traditional
form of taxing consumption are probably overstated and that, for developing
countries, attempts to address these concerns by such initiatives as graduated
consumption taxes would be ineffective and administratively impractical.
With regard to taxes on imports, lowering these taxes will lead to more
competition from foreign enterprises. While reducing protection of domestic
industries from this foreign competition is an inevitable consequence, or even the
objective, of a trade liberalization program, reduced budgetary revenue would be
an unwelcome by-product of the program. Feasible compensatory revenue
measures under the circumstances almost always involve increasing domestic
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consumption taxes. Rarely would increasing income taxes be considered a viable
option on the grounds of both policy (because of their perceived negative impact
on investment) and administration (because their revenue yield is less certain and
less timely than that from consumption tax changes).
Data from industrial and developing countries show that the ratio of income to
consumption taxes in industrial countries has consistently remained more than
double the ratio in developing countries. (That is, compared with developing
countries, industrial countries derive proportionally twice as much revenue from
income tax than from consumption tax.) The data also reveal a notable difference
in the ratio of corporate income tax to personal income tax. Industrial countries
raise about four times as much from personal income tax than from corporate
income tax. Differences between the two country groups in wage income, in the
sophistication of the tax administration, and in the political power of the richest
segment of the population are the primary contributors to this disparity. On the
other hand, revenue from trade taxes is significantly higher in developing
countries than in industrial countries.
While it is difficult to draw clear-cut normative policy prescriptions from
international comparisons as regards the income-consumption tax mix, a
compelling implication revealed by the comparison is that economic development
tends to lead to a relative shift in the composition of revenue from consumption to
personal income taxes. At any given point of time, however, the important tax
policy issue for developing countries is not so much to determine the optimal tax
mix as to spell out clearly the objectives to be achieved by any contemplated shift
in the mix, to assess the economic consequences (for efficiency and equity) of
such a shift, and to implement compensatory measures if the poor are made worse
off by the shift.
Selecting the Right Tax System
In developing countries where market forces are increasingly important in
allocating resources, the design of the tax system should be as neutral as possible
so as to minimize interference in the allocation process. The system should also
have simple and transparent administrative procedures so that it is clear if the
system is not being enforced as designed.
Personal Income Tax
Any discussion of personal income tax in developing countries must start with the
observation that this tax has yielded relatively little revenue in most of these
countries and that the number of individuals subject to this tax (especially at the
highest marginal rate) is small. The rate structure of the personal income tax is the
most visible policy instrument available to most governments in developing
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countries to underscore their commitment to social justice and hence to gain
political support for their policies. Countries frequently attach great importance to
maintaining some degree of nominal progressivity in this tax by applying many
rate brackets, and they are reluctant to adopt reforms that will reduce the number
of these brackets.
More often than not, however, the effectiveness of rate progressivity is severely
undercut by high personal exemptions and the plethora of other exemptions and
deductions that benefit those with high incomes (for example, the exemption of
capital gains from tax, generous deductions for medical and educational expenses,
the low taxation of financial income). Tax relief through deductions is particularly
egregious because these deductions typically increase in the higher tax brackets.
Experience compellingly suggests that effective rate progressivity could be
improved by reducing the degree of nominal rate progressivity and the number of
brackets and reducing exemptions and deductions. Indeed, any reasonable equity
objective would require no more than a few nominal rate brackets in the personal
income tax structure. If political constraints prevent a meaningful restructuring of
rates, a substantial improvement in equity could still be achieved by replacing
deductions with tax credits, which could deliver the same benefits to taxpayers in
all tax brackets.
The effectiveness of a high marginal tax rate is also much reduced by its often
being applied at such high levels of income (expressed in shares of per capita
GDP) that little income is subject to these rates. In some developing countries, a
taxpayer's income must be hundreds of times the per capita income before it
enters the highest rate bracket.
Moreover, in some countries the top marginal personal income tax rate exceeds
the corporate income tax by a significant margin, providing strong incentives for
taxpayers to choose the corporate form of doing business for purely tax reasons.
Professionals and small entrepreneurs can easily siphon off profits through
expense deductions over time and escape the highest personal income tax
permanently. A tax delayed is a tax evaded. Good tax policy, therefore, ensures
that the top marginal personal income tax rate does not differ materially from the
corporate income tax rate.
In addition to the problem of exemptions and deductions tending to narrow the tax
base and to negate effective progressivity, the personal income tax structure in
many developing countries is riddled with serious violations of the two basic
principles of good tax policy: symmetry and inclusiveness. (It goes without
saying, of course, that tax policy should also be guided by the general principles
of neutrality, equity, and simplicity.) The symmetry principle refers to the
identical treatment for tax purposes of gains and losses of any given source of
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income. If the gains are taxable, then the losses should be deductible. The
inclusiveness principle relates to capturing an income stream in the tax net at
some point along the path of that stream. For example, if a payment is exempt
from tax for a payee, then it should not be a deductible expense for the payer.
Violating these principles generally leads to distortions and inequities.
The tax treatment of financial income is problematic in all countries. Two issues
dealing with the taxation of interest and dividends in developing countries are
relevant:
 In many developing countries, interest income, if taxed at all, is taxed as a final
withholding tax at a rate substantially below both the top marginal personal and
corporate income tax rate. For taxpayers with mainly wage income, this is an
acceptable compromise between theoretical correctness and practical feasibility.
For those with business income, however, the low tax rate on interest income
coupled with full deductibility of interest expenditure implies that significant tax
savings could be realized through fairly straightforward arbitrage transactions.
Hence it is important to target carefully the application of final withholding on
interest income: final withholding should not be applied if the taxpayer has
business income.
 The tax treatment of dividends raises the well-known double taxation issue. For
administrative simplicity, most developing countries would be well advised either
to exempt dividends from the personal income tax altogether, or to tax them at a
relatively low rate, perhaps through a final withholding tax at the same rate as that
imposed on interest income.
Corporate Income Tax
Tax policy issues relating to corporate income tax are numerous and complex, but
particularly relevant for developing countries are the issues of multiple rates
based on sectoral differentiation and the incoherent design of the depreciation
system. Developing countries are more prone to having multiple rates along
sectoral lines (including the complete exemption from tax of certain sectors,
especially the parastatal sector) than industrial countries, possibly as a legacy of
past economic regimes that emphasized the state's role in resource allocation.
Such practices, however, are clearly detrimental to the proper functioning of
market forces (that is, the sectoral allocation of resources is distorted by
differences in tax rates). They are indefensible if a government's commitment to a
market economy is real. Unifying multiple corporate income tax rates should thus
be a priority.
Allowable depreciation of physical assets for tax purposes is an important
structural element in determining the cost of capital and the profitability of
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investment. The most common shortcomings found in the depreciation systems in
developing countries include too many asset categories and depreciation rates,
excessively low depreciation rates, and a structure of depreciation rates that is not
in accordance with the relative obsolescence rates of different asset categories.
Rectifying these shortcomings should also receive a high priority in tax policy
deliberations in these countries.
In restructuring their depreciation systems, developing countries could well
benefit from certain guidelines:
 Classifying assets into three or four categories should be more than sufficient—
for example, grouping assets that last a long time, such as buildings, at one end,
and fast-depreciating assets, such as computers, at the other with one or two
categories of machinery and equipment in between.
 Only one depreciation rate should be assigned to each category.
 Depreciation rates should generally be set higher than the actual physical lives of
the underlying assets to compensate for the lack of a comprehensive inflation-
compensating mechanism in most tax systems.
 On administrative grounds, the declining-balance method should be preferred to
the straight-line method. The declining-balance method allows the pooling of all
assets in the same asset category and automatically accounts for capital gains and
losses from asset disposals, thus substantially simplifying bookkeeping
requirements.
Value-Added Tax, Excises, and Import Tariffs
While VAT has been adopted in most developing countries, it frequently suffers
from being incomplete in one aspect or another. Many important sectors, most
notably services and the wholesale and retail sector, have been left out of the VAT
net, or the credit mechanism is excessively restrictive (that is, there are denials or
delays in providing proper credits for VAT on inputs), especially when it comes to
capital goods. As these features allow a substantial degree of cascading
(increasing the tax burden for the final user), they reduce the benefits from
introducing the VAT in the first place. Rectifying such limitations in the VAT
design and administration should be given priority in developing countries.
Many developing countries (like many OECD countries) have adopted two or
more VAT rates. Multiple rates are politically attractive because they ostensibly—
though not necessarily effectively—serve an equity objective, but the
administrative price for addressing equity concerns through multiple VAT rates
may be higher in developing than in industrial countries. The cost of a multiple-
rate system should be carefully scrutinized.
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The most notable shortcoming of the excise systems found in many developing
countries is their inappropriately broad coverage of
products—often for revenue reasons. As is well known, the economic rationale
for imposing excises is very different from that for imposing a general
consumption tax. While the latter should be broadly based to maximize revenue
with minimum distortion, the former should be highly selective, narrowly
targeting a few goods mainly on the grounds that their consumption entails
negative externalities on society (in other words, society at large pays a price for
their use by individuals). The goods typically deemed to be excisable (tobacco,
alcohol, petroleum products, and motor vehicles, for example) are few and usually
inelastic in demand. A good excise system is invariably one that generates
revenue (as a by-product) from a narrow base and with relatively low
administrative costs.
Reducing import tariffs as part of an overall program of trade liberalization is a
major policy challenge currently facing many developing countries. Two concerns
should be carefully addressed. First, tariff reduction should not lead to unintended
changes in the relative rates of effective protection across sectors. One simple way
of ensuring that unintended consequences do not occur would be to reduce all
nominal tariff rates by the same proportion whenever such rates need to be
changed. Second, nominal tariff reductions are likely to entail short-term revenue
loss. This loss can be avoided through a clear-cut strategy in which separate
compensatory measures are considered in sequence: first reducing the scope of
tariff exemptions in the existing system, then compensating for the tariff
reductions on excisable imports by a commensurate increase in their excise rates,
and finally adjusting the rate of the general consumption tax (such as the VAT) to
meet remaining revenue needs.
Tax Incentives
While granting tax incentives to promote investment is common in countries
around the world, evidence suggests that their effectiveness in attracting
incremental investments—above and beyond the level that would have been
reached had no incentives been granted—is often questionable. As tax incentives
can be abused by existing enterprises disguised as new ones through nominal
reorganization, their revenue costs can be high. Moreover, foreign investors, the
primary target of most tax incentives, base their decision to enter a country on a
whole host of factors (such as natural resources, political stability, transparent
regulatory systems, infrastructure, a skilled workforce), of which tax incentives
are frequently far from being the most important one. Tax incentives could also be
of questionable value to a foreign investor because the true beneficiary of the
incentives may not be the investor, but rather the treasury of his home country.
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This can come about when any income spared from taxation in the host country is
taxed by the investor's home country.
Tax incentives can be justified if they address some form of market failure, most
notably those involving externalities (economic consequences beyond the specific
beneficiary of the tax incentive). For example, incentives targeted to promote
high-technology industries that promise to confer significant positive externalities
on the rest of the economy are usually legitimate. By far the most compelling case
for granting targeted incentives is for meeting regional development needs of
these countries. Nevertheless, not all incentives are equally suited for achieving
such objectives and some are less cost-effective than others. Unfortunately, the
most prevalent forms of incentives found in developing countries tend to be the
least meritorious.
Tax Holidays
Of all the forms of tax incentives, tax holidays (exemptions from paying tax for a
certain period of time) are the most popular among developing countries. Though
simple to administer, they have numerous shortcomings. First, by exempting
profits irrespective of their amount, tax holidays tend to benefit an investor who
expects high profits and would have made the investment even if this incentive
were not offered. Second, tax holidays provide a strong incentive for tax
avoidance, as taxed enterprises can enter into economic relationships with exempt
ones to shift their profits through transfer pricing (for example, overpaying for
goods from the other enterprise and receiving a kickback). Third, the duration of
the tax holiday is prone to abuse and extension by investors through creative
redesignation of existing investment as new investment (for example, closing
down and restarting the same project under a different name but with the same
ownership). Fourth, time-bound tax holidays tend to attract short-run projects,
which are typically not so beneficial to the economy as longer-term ones. Fifth,
the revenue cost of the tax holiday to the budget is seldom transparent, unless
enterprises enjoying the holiday are required to file tax forms. In this case, the
government must spend resources on tax administration that yields no revenue
and the enterprise loses the advantage of not having to deal with tax authorities.
Tax Credits and Investment Allowances
Compared with tax holidays, tax credits and investment allowances have a
number of advantages. They are much better targeted than tax holidays for
promoting particular types of investment and their revenue cost is much more
transparent and easier to control. A simple and effective way of administering a
tax credit system is to determine the amount of the credit to a qualified enterprise
and to "deposit" this amount into a special tax account in the form of a
bookkeeping entry. In all other respects the enterprise will be treated like an
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ordinary taxpayer, subject to all applicable tax regulations, including the
obligation to file tax returns. The only difference would be that its income tax
liabilities would be paid from credits "withdrawn" from its tax account. In this
way information is always available on the budget revenue forgone and on the
amount of tax credits still available to the enterprise. A system of investment
allowances could be administered in much the same way as tax credits, achieving
similar results.
There are two notable weaknesses associated with tax credits and investment
allowances. First, these incentives tend to distort choice in favor of short-lived
capital assets since further credit or allowance becomes available each time an
asset is replaced. Second, qualified enterprises may attempt to abuse the system
by selling and purchasing the same assets to claim multiple credits or allowances
or by acting as a purchasing agent for enterprises not qualified to receive the
incentive. Safeguards must be built into the system to minimize these dangers.
Accelerated Depreciation
Providing tax incentives in the form of accelerated depreciation has the least of
the shortcomings associated with tax holidays and all of the virtues of tax credits
and investment allowances—and overcomes the latter's weakness to boot. Since
merely accelerating the depreciation of an asset does not increase the depreciation
of the asset beyond its original cost, little distortion in favor of short-term assets is
generated. Moreover, accelerated depreciation has two additional merits. First, it
is generally least costly, as the forgone revenue (relative to no acceleration) in the
early years is at least partially recovered in subsequent years of the asset's life.
Second, if the acceleration is made available only temporarily, it could induce a
significant short-run surge in investment.
Investment Subsidies
While investment subsidies (providing public funds for private investments) have
the advantage of easy targeting, they are generally quite problematic. They
involve out-of-pocket expenditure by the government up front and they benefit
nonviable investments as much as profitable ones. Hence, the use of investment
subsidies is seldom advisable.
Indirect Tax Incentives
Indirect tax incentives, such as exempting raw materials and capital goods from
the VAT, are prone to abuse and are of doubtful utility. Exempting from import
tariffs raw materials and capital goods used to produce exports is somewhat more
justifiable. The difficulty with this exemption lies, of course, in ensuring that the
exempted purchases will in fact be used as intended by the incentive. Establishing
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export production zones whose perimeters are secured by customs controls is a
useful, though not entirely foolproof, remedy for this abuse.
Triggering Mechanisms
The mechanism by which tax incentives can be triggered can be either automatic
or discretionary. An automatic triggering mechanism allows the investment to
receive the incentives automatically once it satisfies clearly specified objective
qualifying criteria, such as a minimum amount of investment in certain sectors of
the economy. The relevant authorities have merely to ensure that the qualifying
criteria are met. A discretionary triggering mechanism involves approving or
denying an application for incentives on the basis of subjective value judgment by
the incentive-granting authorities, without formally stated qualifying criteria. A
discretionary triggering mechanism may be seen by the authorities as preferable
to an automatic one because it provides them with more flexibility. This
advantage is likely to be outweighed, however, by a variety of problems
associated with discretion, most notably a lack of transparency in the decision-
making process, which could in turn encourage corruption and rent-seeking
activities. If the concern about having an automatic triggering mechanism is the
loss of discretion in handling exceptional cases, the preferred safeguard would be
to formulate the qualifying criteria in as narrow and specific a fashion as possible,
so that incentives are granted only to investments meeting the highest objective
and quantifiable standard of merit. On balance, it is advisable to minimize the
discretionary element in the incentive-granting process.
Summing Up
The cost-effectiveness of providing tax incentives to promote investment is
generally questionable. The best strategy for sustained investment promotion is to
provide a stable and transparent legal and regulatory framework and to put in
place a tax system in line with international norms. Some objectives, such as
those that encourage regional development, are more justifiable than others as a
basis for granting tax incentives. Not all tax incentives are equally effective.
Accelerated depreciation has the most comparative merits, followed by
investment allowances or tax credits. Tax holidays and investment subsidies are
among the least meritorious. As a general rule, indirect tax incentives should be
avoided, and discretion in granting incentives should be minimized.
Tax Policy Challenges Facing Developing Countries
Developing countries attempting to become fully integrated in the world economy
will probably need a higher tax level if they are to pursue a government role
closer to that of industrial countries, which, on average, enjoy twice the tax
revenue. Developing countries will need to reduce sharply their reliance on
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foreign trade taxes, without at the same time creating economic disincentives,
especially in raising more revenue from personal income tax. To meet these
challenges, policymakers in these countries will have to get their policy priorities
right and have the political will to implement the necessary reforms. Tax
administrations must be strengthened to accompany the needed policy changes.
As trade barriers come down and capital becomes more mobile, the formulation
of sound tax policy poses significant challenges for developing countries. The
need to replace foreign trade taxes with domestic taxes will be accompanied by
growing concerns about profit diversion by foreign investors, which weak
provisions against tax abuse in the tax laws as well as inadequate technical
training of tax auditors in many developing countries are currently unable to deter.
A concerted effort to eliminate these deficiencies is therefore of the utmost
urgency.
Tax competition is another policy challenge in a world of liberalized capital
movement. The effectiveness of tax incentives—in the absence of other necessary
fundamentals—is highly questionable. A tax system that is riddled with such
incentives will inevitably provide fertile grounds for rent-seeking activities. To
allow their emerging markets to take proper root, developing countries would be
well advised to refrain from reliance on poorly targeted tax incentives as the main
vehicle for investment promotion.
Finally, personal income taxes have been contributing very little to total tax
revenue in many developing countries. Apart from structural, policy, and
administrative considerations, the ease with which income received by individuals
can be invested abroad significantly contributes to this outcome. Taxing this
income is therefore a daunting challenge for developing countries. This has been
particularly problematic in several Latin American countries that have largely
stopped taxing financial income to encourage financial capital to remain in the
country.
5. Elasticity: Taxes should be flexible and adaptable to changing economic

conditions. This elasticity ensures the government can meet revenue needs in
times of growth or downturns.
The burden of tax
Depending on the circumstance, the burden of tax can fall more on consumers or on
producers.
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In the case of cigarettes, for example, demand is inelastic—because cigarettes are an
addictive substance—and taxes are mainly passed along to consumers in the form of
higher prices.
The analysis, or manner, of how the burden of a tax is divided between consumers and
producers is called tax incidence.
Elasticity and tax incidence
Typically, the incidence, or burden, of a tax falls both on the consumers and producers of
the taxed good. But if we want to predict which group will bear most of the burden, all
we need to do is examine the elasticity of demand and supply.
In the tobacco example above, the tax burden falls on the most inelastic side of the
market. If demand is more inelastic than supply, consumers bear most of the tax burden.
But, if supply is more inelastic than demand, sellers bear most of the tax burden.
Think about it this way—when the demand is inelastic, consumers are not very
responsive to price changes, and the quantity demanded remains relatively constant when
the tax is introduced. In the case of smoking, the demand is inelastic because consumers
are addicted to the product. The seller can then pass the tax burden along to consumers in
the form of higher prices without much of a decline in the equilibrium quantity.
When a tax is introduced in a market with an inelastic supply—such as, for example,
beachfront hotels—sellers have no choice but to accept lower prices for their business.
Taxes do not greatly affect the equilibrium quantity. The tax burden in this case is on the
sellers. If the supply were elastic and sellers had the possibility of reorganizing their
businesses to avoid supplying the taxed good, the tax burden on the sellers would be
much smaller, and the tax would result in a much lower quantity sold instead of lower
prices received. You can see the relationship between tax incidence and elasticity of
demand and supply represented graphically below.
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Image credit: Figure 3 in "Elasticity and Pricing" by OpenStaxCollege, CC BY 4.0

In diagram A, above on the left, the supply is inelastic and the demand is elastic—as it
was in the beachfront hotels example. While consumers may have other vacation choices,
sellers can’t easily move their businesses. By introducing a tax, the government
essentially creates a wedge between the price paid by consumers and the price received
by producers. In other words, of the total price paid by consumers, part is retained by the
sellers and part is paid to the government in the form of a tax. The distance
between and is the tax rate. The new market price is but sellers receive only per unit sold
since they pay to the government. Since a tax can be viewed as raising the costs of
production, this could also be represented by a leftward shift of the supply curve. The
new supply curve would intercept the demand at the new quantity. For simplicity, the
diagram above omits the shift in the supply curve.
The tax revenue is given by the shaded area, which is obtained by multiplying the tax per
unit by the total quantity sold. The tax incidence on the consumers is given by the
difference between the price paid and the initial equilibrium price. The tax incidence on
the sellers is given by the difference between the initial equilibrium price and the price
they receive after the tax is introduced.
In diagram A, above on the left, the tax burden falls disproportionately on the sellers, and
a larger proportion of the tax revenue—the shaded area—is due to the resulting lower
price received by the sellers than by the resulting higher prices paid by the buyers.
On the other hand, if we go back to our example of cigarette taxes, the situation would
look more like diagram B—above on the right—where the supply is more elastic than
demand. The tax incidence now falls disproportionately on consumers, as shown by the
large difference between the price they pay, and the initial equilibrium price. Sellers
receive a lower price than before the tax, but this difference is much smaller than the
change in consumers’ price.
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Using this type of analysis, we can also predict whether a tax is likely to create a large
revenue or not. The more elastic the demand curve, the easier it is for consumers to
reduce quantity instead of paying higher prices. The more elastic the supply curve, the
easier it is for sellers to reduce the quantity sold instead of taking lower prices. In a
market where both the demand and supply are very elastic, the imposition of an excise
tax generates low revenue.
People often think that excise taxes hurt mainly the specific industries they target. But
ultimately, whether the tax burden falls mostly on the industry or on the consumers
depends simply on the elasticity of demand and supply.
CLASSIFICATION OF TAXES
Taxes are broadly classified based on several criteria:
1. By Incidence (who ultimately bears the tax burden)
 Direct Taxes:
Direct taxes are paid directly to the government by individuals or organizations. The
amount is often calculated based on the taxpayer's income, profits, or wealth, making
these taxes progressive in nature, meaning that higher-income individuals or corporations
pay more. Examples of direct taxes include:
 Income Tax: Levied on an individual’s earnings from wages, salaries, or other
income sources.
 Corporate Tax: Paid by companies on their profits, directly linking the tax
amount to the organization's financial success.
Direct taxes aim to align with the taxpayer’s ability to pay, ensuring that wealthier
individuals or more profitable businesses contribute a larger share to public funding.
 Indirect Taxes:
Indirect taxes are collected by an intermediary, like a retailer or service provider, and then
passed on to the government. These taxes are generally added to the price of goods and
services, making the consumer ultimately responsible for paying them. Unlike direct
taxes, indirect taxes are often considered regressive because they take a larger percentage
of income from lower-income individuals. Examples of indirect taxes include:
 Sales Tax: Added to the sale price of goods and services and collected at the point
of sale.
 Value-Added Tax (VAT): A type of sales tax applied at each production stage,
ultimately borne by the consumer.
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Since indirect taxes are not based on income or wealth, they tend to disproportionately
impact those with lower incomes, as they spend a higher portion of their earnings on
taxed goods and services.
2. By Nature of Tax Base
 Income Taxes: Levied on individual or corporate income (e.g., wages, salaries,
dividends). Business Income Tax. Businesses also pay income taxes on their
earnings; the IRS taxes income from corporations, partnerships, self-employed
contractors, and small businesses.6
Depending on the business structure, the corporation, its owners, or shareholders
report their business income and then deduct their operating and capital expenses.
Generally, the difference between their business income and their operating and
capital expenses is considered their taxable business income. All but nine U.S.
states impose personal income taxes on their residents. The ones that don't are Alaska,
Florida, Nevada, New Hampshire, South Dakota, Tennessee, Texas, Washington, and
Wyoming. Keep in mind, though, that it may not necessarily be cheaper to live in a
state that does not levy income taxes. This is because states often make up the lost
revenue with other taxes or reduced services. What's more, other factors determine
the affordability of living in a state, including healthcare, cost of living, and job
opportunities. For instance, Florida residents pay a 6% sales tax on goods and
services, while the state sales tax in Tennessee is 7%
Property Taxes are taxes based on the ownership of tangible assets, primarily land and
buildings. Local governments often levy property taxes, and the revenue generated
typically funds community services like schools, infrastructure, and emergency services.
Property taxes are generally assessed annually and are based on the property’s value,
making them a stable revenue source tied to real estate value.
Consumption Taxes are applied to goods and services purchased by individuals. This type
of tax, which includes value-added tax (VAT) and sales tax, is indirect, meaning it is
collected by sellers at the point of sale and passed on to the government. Consumption
taxes are often considered regressive because they take up a larger percentage of income
from lower-income individuals, who spend more of their income on essential goods.
Wealth Taxes are levied on an individual’s total net worth, which includes assets like
investments, property, and other valuable holdings. Unlike income or property taxes,
wealth taxes consider an individual’s overall financial position, typically assessing a
percentage of the total value of their assets. Wealth taxes aim to reduce inequality by
targeting those with substantial assets, but they are less common and often controversial
due to challenges in accurately valuing assets and the potential for incentivizing capital
flight.
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3. By Rate Structure
Progressive Taxes are designed so that tax rates increase as a taxpayer’s income rises.
This system, seen in personal income taxes, requires higher earners to pay a larger
percentage of their income in taxes. Progressive taxes aim to create equity by ensuring
that those with a greater ability to pay contribute more, which can help reduce income
inequality and fund social programs.
Regressive Taxes have the opposite effect: tax rates effectively decrease as a taxpayer’s
income increases. Although the tax rate itself may be the same for all, these taxes are
often associated with indirect taxes like sales taxes, where lower-income individuals
spend a larger portion of their earnings on taxed goods and services. This means that
regressive taxes disproportionately affect those with lower incomes, as they pay a higher
percentage of their income compared to wealthier individuals.
Proportional Taxes, or flat taxes, apply a single tax rate to all taxpayers, regardless of
income level. In this system, every individual or business pays the same percentage,
making it straightforward and easy to calculate. However, proportional taxes can be seen
as less equitable, as lower-income taxpayers contribute the same rate as higher-income
earners, potentially placing a greater relative burden on those with less ability to pay.
5. By Purpose
Revenue Taxes are designed primarily to raise funds for government expenses,
including public services, infrastructure, education, and healthcare. These taxes, such
as income tax and value-added tax (VAT), are a crucial source of funding for
government operations and help ensure the continuity of essential public services.
Revenue taxes are typically broad-based, impacting a large portion of the population
to generate the necessary revenue effectively.
Regulatory Taxes aim to influence behavior by discouraging certain activities or
promoting public health and environmental goals. Examples include tobacco taxes
and carbon taxes, which impose additional costs on products or actions considered
harmful, such as smoking or carbon emissions. By making these activities more
expensive, regulatory taxes encourage individuals and businesses to reduce
consumption or seek alternatives, thus aligning with broader social, health, or
environmental objectives.
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LIMITATIONS ON THE POWER OF TAXATION
Limitations on The Power of Taxation

The power of taxation, is however, subject to constitutional and inherent limitations.
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Constitutional limitations are those provided for in the constitution or implied from its
provisions, while inherent limitations are restrictions to the power to tax attached to its
nature.
The following are the inherent limitations.

1. Purpose. Taxes may be levied only for public purpose;
2. Territoriality. The State may tax persons and properties under its jurisdiction;
3. International Comity. the property of a foreign State may not be taxed by another.
4. Exemption. Government agencies performing governmental functions are exempt
from taxation
5. Non-delegation. The power to tax being legislative in nature may not be
delegated. (subject to exceptions)
Constitutional limitations.
1. Observance of due process of law and equal protection of the laws. (sec, 1, Art. 3)
Any deprivation of life , liberty or property is with due process if it is done under
the authority of a valid law and after compliance with fair and reasonable methods
or procedure prescribed. The power to tax, can be exercised only for a
constitutionally valid public purpose and the subject of taxation must be within
the taxing jurisdiction of the state. The government may not utilize any form of
assessment or review which is arbitrary, unjust and which denies the taxpayer a
fair opportunity to assert his rights before a competent tribunal. All persons
subject to legislation shall be treated alike under like circumstances and
conditions, both in the privileges conferred in liabilities imposed. Persons and
properties to be taxed shall be group, and all the same class shall be subject to the
same rate and the tax shall be administered impartially upon them.
2. Rule of uniformity and equity in taxation (sec 28(1)Art VI) All taxable articles or
properties of the same class shall be taxed at the same rate. Uniformity implies
equality in burden not in amount. Equity requires that the apportionment of the
tax burden be more or less just in the light of the taxpayers ability to bear the tax
burden.
3. No imprisonment for non-payment of poll tax (sec. 20, Art III) A person cannot be
imprisoned for non-payment of community tax, but may be imprisoned for other
violations of the community tax law, such as falsification of the community tax
certificate, or for failure to pay other taxes.
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4. Non-impairment of obligations and contracts, sec 10, Art III . the obligation of a
contract is impaired when its terms and conditions are changed by law or by a
party without the consent of the other, thereby weakening the position or the
rights of the latter. IF a tax exemption granted by law and of the nature of a
contract between the taxpayer and the government is revoked by a later taxing
law, the said law shall not be valid, because it will impair the obligation of
contract.
5. Prohibition against infringement of religious freedom Sec 5, Art III, it has been
said that the constitutional guarantee of the free exercise and enjoyment of
religious profession and worship, which carries the right to disseminate religious
belief and information, is violated by the imposition of a license fee on the
distribution and sale of bibles and other religious literatures not for profit by a
non-stock, non-profit religious corporation.
6. Prohibition against appropriations for religious purposes, sec 29, (2) Art. VI,
Congress cannot appropriate funds for a private purpose, or for the benefit of any
priest, preacher or minister or for the support of any sect, church except when
such priest, preacher, is assigned to the armed forces or to any penal institutions,
orphanage or leprosarium.
7. exemption of all revenues and assets of non-stock, non-profit educational
institutions used actually, directly, and exclusively for educational purposes from
income, property and donor’s taxes and custom duties (sec. 4 (3 and 4) art. XIV.
8. Concurrence by a majority of all members of Congress in the passage of a law
granting tax exemptions. Sec. 28 (4) Art. VI.
9. Congress may not deprive the Supreme Court of its jurisdiction to review, revise,
reverse, modify or affirm on appeal or certiorari, final judgments and orders of
lower courts in all cases involving the legality of any tax, impost, assessment or
any penalty imposed in the relation thereto.
A. Constitutional Limitations
A. GENERAL OR INDIRECT CONSTITUTIONAL LIMITATIONS
1. Due Process Clause (Art. III, Sec. 1, 1987 Constitution)

Requisites:
a. The interests of the public as distinguished from those of a particular class require
the intervention of the State. (Substantive limitation)
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b. The means employed must be reasonably necessary to the accomplishment of the
purpose and not unduly oppressive. (Procedural limitation)
The constitutionality of a legislative taxing act questioned on the ground of denial
of due process requires the existence of an actual case or controversy.
2. Equal Protection Clause (Art. III, Sec. 1, 1987 Constitution

Requisites of a Valid Classification:
a. based upon substantial distinctions
b. germane to the purposes of the law
c. not limited to existing conditions only
d. apply equally to all members of the class
3. Freedom Of Speech And Of The Press (Art. III, Sec. 4, 1987 Constitution)
There is curtailment of press freedom and freedom of thought and expression if a tax is
levied in order to suppress this basic right and impose a prior restraint. (Tolentino vs.
Secretary of Finance, GR No. 115455, August 25, 1994)
4. Non-Infringement Of Religious Freedom And Worship (Art. III, Sec. 5, 1987

Constitution)
A license tax or fee constitutes a curtailment of religious freedom if imposed as a
condition for its exercise. (American Bible Society vs. City of Manila, GR No. L-9637,
April 30, 1957)
5. Non-Impairment Of Contracts (Art. III, Sec. 10, 1987 Constitution)

No law impairing the obligation of contract shall be passed. (Sec. 10, Art. III, 1987
Constitution)
The rule, however, does not apply to public utility franchises or right since they are
subject to amendment, alteration or repeal by the Congress when the public interest so
requires. (Cagayan Electric & Light Co., Inc. v. Commissioner, GR No. 60216,
September 25, 1985)
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Rules:
a. When the exemption is bilaterally agreed upon between the government and the
taxpayer – it cannot be withdrawn without violating the non-impairment clause.
b. When it is unilaterally granted by law, and the same is withdrawn by virtue of
another law – no violation.
c. When the exemption is granted under a franchise – it may be withdrawn at any time
thus, not a violation of the non-impairment of contracts
6. Presidential power to grant reprieves, commutations and pardons and remit

fines and forfeitures after conviction (ART. VII, SEC. 19, 1987 CONSTITUTION)
Due Process Equal Protection Uniformity
Taxpayer may not be Taxpayers shall be treated Taxable articles, or kinds
deprived of life, alike under like of property of the same
liberty or property circumstances and conditions class, shall be taxed at the
without due process both in the privileges same rate. There should
of law. Notice must, conferred and liabilities therefore, be no direct
therefore, be given in imposed. double taxation
case of failure to pay
taxes
B. SPECIFIC OR DIRECT CONSTITUTIONAL LIMITATIONS
1. Non-Imprisonment For Debt Or Non-Payment Of Poll Tax (Art. III, Sec. 20, 1987
Constitution)
2. Rule Requiring That Appropriations, Revenue And Tariff Bills Shall

Originate Exclusively From The House Of Representatives (Art. VI, Sec. 24, 1987
Constitution)
1. Uniformity, Equitability And Progressivity Of Taxation (Art. VI, Sec. 28(1), 1987
Constitution)
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Uniformity – all taxable articles or kinds of property of the same class are taxed
at the same rate.
Equitability – the burden falls to those who are more capable to pay.
Progressivity – rate increases as the tax base increases.
Q: Is a tax law adopting a regressive system of taxation valid?

A: Yes. The Constitution does not really prohibit the imposition of indirect taxes
which, like the VAT, are regressive. The Constitutional provision means simply that
indirect taxes shall be minimized. The mandate to Congress is not to prescribe, but to
evolve, a progressive tax system. (EVAT En Banc Resolution, Tolentino, et al vs Secretary
of Finance, October 30, 1995)
2. Limitations On The Congressional Power To Delegate To The President The

Authority To Fix Tariff Rates, Import And Export Quotas, Etc. (Art. VI, Sec.
28(2), 1987 Constitution)
3. Tax Exemption Of Properties Actually, Directly And Exclusively Used For

Religious, Charitable And Educational Purposes. (Art. VI, Sec. 28(3) 7, 1987
Constitution)
The constitutional provision (above cited) which grants tax exemption applies only to
property or realty taxes assessed on such properties used actually, directly exclusively for
religious, charitable and educational purposes. (Lladoc vs. Commissioner, GR No. L-
19201, June 16, 1965)
The present Constitution required that for the exemption of “lands, buildings and
improvements”, they should not only be “exclusively” but also “actually” and “directly”
used for religious and charitable purposes. (Province of Abra vs. Hernando, GR No. L-
49336, August 31, 1981)
The test of exemption from taxation is the use of the property for the purposes mentioned
in the Constitution. (Abra Valley College Inc. vs. Aquino, GR No. L-39086, June 15,
1988)
EXCLUSIVE BUT NOT ABSOLUTE USE
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The term “ exclusively used” does not necessarily mean total or absolute use for
religious, charitable and educational purposes. If the property is incidentally used for
said purposes, the tax exemption may still subsist. (Abra Valley College Inc. vs. Aquino,
Gr No. L-39086, June 15, 1988)
Corollarily, if a property, although actually owned by a religious, charitable and
educational institution is used for a non- exempt purpose, the exemption from tax shall
not attach
ART. XIV, SEC 4(3) ART. VI, SEC 28(3)

Grantee Non- stock, non profit Religious, educational,
educational institution charitable institutions
Taxes covered Income tax Property tax
Custom Duties
Property tax (DECS Order
No. 137-187)
4. Voting Requirement In Connection With The Legislative Grant Of Tax

Exemption (Art. VI, Sec. 28(4), 1987 Constitution)
5. Non-Impairment Of The Jurisdiction Of The Supreme Court In Tax Cases (Art.
VIII, Sec. 2 And 5(2)(B), 1987 Constitution)
6. Exemption From Taxes Of The Revenues And Assets Of Educational

Institutions, Including Grants, Endowments, Donations And Contributions. (Art.
XIV, Sec. 4(3) And (4), 1987 Constitution)
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tutorial/price-elasticity-tutorial/a/elasticity-and-tax-incidence
Site homepage
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Investopedia
Taxes Definition: Types, Who Pays, and Why - Investopedia
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What Are The 8 Principles of a Good Taxation System? - Economics Explainer
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Four Canons of Taxation by Adam Smith - Quickonomics
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Principles of Taxation - SpringerLink
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Economics Help
Types of tax - Economics Help
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Wikipedia
List of taxes - Wikipedia
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Chapter 2 Fundamental principles of taxation - OECD iLibrary
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Principles of Taxation | Economics
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Learn about the objectives, criteria and theories of taxation in economics. Explore
the concepts of neutrality, equity, efficiency, ability to pay and horizontal and
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Tax Foundation
The Three Basic Tax Types | TaxEDU Resources - Tax Foundation
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THE THREE BASIC TAX TYPES - Tax Foundation
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Perlego
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Tax Justice & Poverty

Principles of Taxation - Tax Justice and Poverty
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MEANING, NATURE AND IMPORTANCE OF TAXATION

NATURE AND IMPORTANCE

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Which Countries Have Zero Income Tax?

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General government revenue, in % of GDP, from

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Egyptian peasants seized for non-payment of taxes.

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Public finance revenue from taxes in % of GDP. For

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Diagram illustrating deadweight costs of

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