The Three Basic Tax Types TaxEDU Resources

In contrast, income taxes can be more progressive because people pay a higher percentage of their income as their earnings increase. A good example of this is the gas taxA gas tax is commonly used to describe the variety of taxes levied on gasoline at both the federal and state levels, to provide funds for highway repair and maintenance, as well as for other government infrastructure projects. These taxes are levied in a few ways, including the basics on irs form 941 per-gallon excise taxes, excise taxes imposed on wholesalers, and general sales taxes that apply to the purchase of gasoline.. The amount of gas a driver purchases generally reflects their contribution to traffic congestion and road wear-and-tear. That’s because corporate earnings are already subject to the corporate income tax. Both income and consumption taxes are taxes on your money, but they apply at entirely different times.

Bird also notes that while administration of the tax is considered good compared to other countries, the administrative problems that are encountered are most prominently due to tax design rather than management. In particular, decisions to narrow the base and provide complex rebates increase the administrative costs of the tax, offering another lesson to U.S. policymakers of the importance of a broad, simple tax base. Because Taxpayer B does not immediately consume her earnings, she would not face an initial tax, instead saving all $100 of her earnings. She would face the 20 percent tax when she consumes her $110 in the future, yielding $88 of consumption and a 20 percent effective tax rate. However, it does impose a federal excise tax when certain types of goods and services are purchased, such as gas, airline tickets, alcohol, and cigarettes.

  1. The transformation imposes tax when goods and service are consumed rather than when income is earned.
  2. On the other hand, there are those who express a desire to reduce taxes — and therefore government — across the board, rather than simply changing methods from tax on earnings to consumption.
  3. Under conventional IRAs, all income—from labor or capital—could be invested without going through the tax turnstile and then taxed when withdrawn.
  4. We then turn to an overview of the current U.S. tax system and model two tax reform options.

Though barely 100 years old, individual income taxes are the largest source of tax revenue in the U.S. (or personal income tax) is levied on the wages, salaries, investments, or other forms of income an individual or household earns. If, a week later, you take $100 from your remaining earnings to purchase a new smartwatch in a jurisdiction with a 5% sales taxA sales tax is levied on retail sales of goods and services and, ideally, should apply to all final consumption with few exemptions. Many governments exempt goods like groceries; base broadening, such as including groceries, could keep rates lower.

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Also, a consumption tax could utilize progressive rates in order to maintain “fairness”. Value added tax is a consumption based tax and is levied each and every time the value of a good gets increased in the process of manufacturing to the point of sale. A simple value-added tax is proportional to consumption but is regressive on income at higher income levels, as consumption tends to fall as a percentage of income as income rises. A value-added tax may exclude certain goods to make it less regressive against income. The above article is intended to provide generalized financial information designed to educate a broad segment of the public; it does not give personalized tax, investment, legal, or other business and professional advice. Before taking any action, you should always seek the assistance of a professional who knows your particular situation for advice on taxes, your investments, the law, or any other business and professional matters that affect you and/or your business.


The amount of money that the homeowner could receive in rent is the imputed rental value of the home. This website is using a security service to protect itself from online attacks. There are several actions that could trigger this block including submitting a certain word or phrase, a SQL command or malformed data. Thus in real terms, it does not have to decrease revenue, especially since our culture is one of consumption and bad habits are not easily gotten rid of. They could also budget for luxury purchases and know how much they would need to save.

Businesses can deduct consumption taxes as a business expense

First, because a BAT does not tax the normal return to saving or investment, it is likely to stimulate additional saving and investment. Greater investment means businesses would have more capital, which increases workers’ productivity, and ultimately improves living standards. Second, it would likely reduce a variety of tax distortions that arise under the current tax system due to the uneven treatment of investment and other economic activity. An income tax is levied on people when they earn money or when they receive interest, dividends, or capital gains from their investments.

While estate taxes are paid by the estate itself, before assets are distributed to heirs, inheritance taxes are paid by those who inherit property. Both taxes are usually paired with a “gift taxA gift tax is a tax on the transfer of property by a living individual, without payment or a valuable exchange in return. The donor, not the recipient of the gift, is typically liable for the tax.” so that they cannot be avoided by transferring the property prior to death.

GRTs are particularly harmful for startups, which post losses in early years, and businesses with long production chains. Despite being dismissed for decades as inefficient and unsound tax policy, policymakers have recently begun considering GRTs again as they seek new revenue streams. In the U.S., the largest payroll taxes are a 12.4 percent tax to fund Social Security and a 2.9 percent tax to fund Medicare, for a combined rate of 15.3 percent. Half of payroll taxes (7.65 percent) are remitted directly by employers, with the other half withheld from employees’ paychecks. Consumption tax, the category that includes sales tax, is often a footnote at the end of a receipt, but it can impact your wallet all the same.

In the interest of supporting rising living standards and economic growth to advance well-being for families, we will outline two options to reform the current U.S. income tax by transforming it into a consumption tax. The transformation imposes tax when goods and service are consumed rather than when income is earned. The sales tax is usually ad valorem, that is, it is calculated by applying a percentage rate to the taxable price of a sale.

The current income tax allows employers to deduct what they spend on health insurance and other fringe benefits and does not tax such items as income for individuals. Under a flat tax, employers would still deduct all forms of compensation, including fringe benefits, and households would pay taxes on all forms of compensation they receive. Flat consumption taxes are regressive (shift the tax burden to the less well-off). Regressive taxes absorb a larger share of the earnings of people with lower incomes than of people with higher incomes. This is because people with lower incomes use a larger portion of their income for consumption than do those with higher incomes. Limited mechanisms exist to increase the progressivity of consumption taxes.

During this period, the government may also review the digital service tax (DST) to bring on board residents. DST is currently payable by non-residents on income derived or accrued in Kenya from services offered through a digital marketplace. The Kenya Kwanza regime is also redesigning taxation instruments to make them supportive of economic activity while boosting revenue collection. All these interventions have yielded progress, as the economy indicated an average growth rate of 5.6 percent in the first three quarters of 2023, up from 4.8 percent in 2022.

Broadening the base to eliminate itemized deductions and tax non-wage compensation such as health insurance and fringe benefits increases the tax burden on labor but reduces distortions in the current tax base and offsets the costs of the other reforms. Those who favor eliminating taxes on capital income often couch the issue in terms of whether the government should tax income or consumption. A consumption tax—also known as an expenditures tax, consumed-income tax, or cash-flow tax—is a tax on what people spend instead of what they earn. Or, as economists Alvin Rabushka and Robert Hall put it, taxing income taxes what people contribute to the economy, while taxing consumption taxes what they take out. For nearly a century now, the principal federal tax on individuals has been the personal income tax, which falls on both labor income (wages and salaries) and capital income (interest, dividends, and capital gains).

This requirement has faced repeated criticism for the reason that it is counterproductive and unfair to demand tax before the manufacturers sell the product and reconcile their sales. Excise tax is also a consumption and not an advance tax, and for these reasons we expect that this year, the requirement to pay the tax within 24 hours will be reviewed. The principal framework that will guide tax reforms in the coming financial year is the MTRS.

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