- Which are the main tax revenue sources at the federal, state, and local levels of government in the U.S.today? Based on what you’ve learned about tax elasticities [see Mikesell, pp. 357-359, and the Tax Notes, pp. 8-11], which level of government would you expect to have the fastest and most volatile baseline tax revenue growth over time, and which level of government the slowest and least volatile baseline tax revenue growth?
The Federal, State, and Local governments generate revenue through three main sources of tax, which are; income taxes, consumption taxes, and wealth taxes. Income tax is tax levied on individual and corporate incomes and profits. Consumption taxes, on the other hand, are taxes imposed on value added on goods and services and include sales taxes, excise taxes, and selective sales. Besides income and consumption taxes, the Federal, State, and Local governments also generate income through wealth taxes that are charged on peoples’ personal assets and all other income generated from personal resources. The federal government’s expenditure depends mainly on income, corporate and payroll taxes (Lecture notes, 2015). The state government’s activities, on the other hand, are heavily financed by income generated from consumption and income taxes while the local governments are financed by income generated from property and sales taxes (Lecturer notes, 2015).
Based on lecturer notes (2015) I would expect the Federal government to have the highest and most volatile baseline tax revenue growth over time because the Federal government’s over reliance on income tax which has the highest baseline elasticity compared to other taxes. Income taxes increase at a high rate when an economy grows. Contrary to the Federal government’s fastest and most volatile baseline tax revenue, I would expect the Local governments to have the slowest and least volatile baseline taxes since the local government high reliance on property taxes, which have the lowest elasticity.
- What is horizontal tax equity? We touched on several ways in which taxes violate horizontal equity. Give an example.
Horizontal tax equity is a concept of tax equity that affirms and defends the equality of taxpayers who are in indistinguishable situations. These situations may include similar incomes and similar consumption spending. This means that two individuals earning $ 20,000 should pay the same amount of income tax to the authorities. However, this has not been the case in our country. Based on lecture notes, taxes tend to violate horizontal equity, for instance, property taxes tend to be charged differently on the same households occupying similar houses on the basis that the purchase cost for the houses was different. In addition to property taxes, violation also occurs in personal income tax where owning a home and renting a house is treated differently. Worse still is the taxation of compensation received from health insurance paid individually while compensation received from health insurance paid by employer is not taxed by the government. Moreover, the horizontal equity is violated in sales taxes imposition since restaurant food is charged the sales tax while food made at home is not. These violations hinder the effectiveness of horizontal equity.
- Explain vertical tax equity. Describe proportional, progressive, and regressive taxation.
Vertical tax equity refers to the equity brought about by a tax system imposing different taxes on individuals on different income levels. This tax system is believed to bring equality in distribution of income if applied effectively since the high income earners pay more. This tax system is achieved through the proportional, progressive, and regressive tax systems. The proportional tax rates are equal in a certain scale and are charged proportionately for instance income taxes imposed on corporates. Progressive tax rates on the other hand change depending on the income scale, they increase as the income increases and therefore a higher tax is paid by an individual with a high income. Lastly, regressive tax rates are such that lower income scale individuals pay more than those at the higher end.
According to Baumol and Blinder (2012) the concept of vertical equity is in most cases is mistook for progressive tax which is not the case since people believe that progressive tax is the most fair tax system. Moreover, the progressivity is perceived as ethical since it is fair to both the individuals at the lower and higher end of income.
- One of the major criteria for evaluating taxes is economic efficiency. What does it mean for a tax to be economically efficient?
A tax is said to be economically efficient when it achieves a balance between individual pay off and a government’s spending needs. Every day, people wake up and spend their time earning income from diverse economic activities with a hope that their hard work will be pay off through salaries or profits. An efficient tax system is one that encourages citizens to work by having a minimum effect on their hard-earned benefits. An efficient tax system will always charge minimum tax on people’s incomes and assets in order to encourage work and economic growth. According to lecture notes, an optimal or efficient economy is achieved through an efficient tax system. An efficient economy is one that leaves people with free of choices of where to work and stay, where and when to invest, what to spend and save and what to consume. However, it is difficult to achieve such an economy since the choices made by people are affected by tax. For instance, the choice of where to stay is affected by property taxes. Sherman et al. (2015), opines that income taxes are less efficient since they have a great impact on work incentives. This means that an increase in income tax rates results to people taking less pay packages home, which discourages them to work hard. This impact makes a tax inefficient since it affects the economy as a whole. On the other hand, Sherman et al. (2015) states that sales taxes are efficient since they have less effect on work incentives since people pay sales taxes only when spending on goods and services – which does not affect their income directly as compared to income taxes.
- Are property taxes a greater burden on lower income households (who are more likely to be renters, and spend a larger share of their incomes on housing) or on higher income households (landlords and property owners)? Keep in mind that there are ‘Traditional’ and ‘New’ views on this subject (discussed in the Property Tax section of the Tax Notes).
According to Graneau (2013), property taxes are the most despised taxes in the U.S. The thought of these taxes frightens most citizens. The property taxes being the major revenues for local governments are imposed on local properties and therefore land and homeowners are required to pay a specific amount to the local authority. The taxes have however generated much debate on whether it is the property owners or the renters who bear the burden for this tax.
Property taxes are much of a burden to higher income owners as compared to the lower income earners. The rates used on properties in different jurisdiction differ depending on the income levels of the people living in that area. This implies that a high-end jurisdiction pays more than a low end, which results to a decline in return for property owners. As such, the property owners invest in low-end areas in order to pay less property tax, which as a result increases housing supply but reduces demand hence the monthly rents reduce. This shows that the low-income earners do not bear the burden but instead the high-income earners do. As Moreno and Wodon (2008) explains, the property tax views are very controversial and therefore it is rather challenging to determine the exact burden bearer of the property taxes since the ‘traditional’ view to some extent is realistic. As the traditional view suggests, in most cases, an increase in property taxes is passed on to the tenants who are low income earners while the property owners are bear a small proportion of the bur
Baumol, W. J., & Blinder, A. S. (2012). Macroeconomics: Principles & policy. Mason, OH: South Western, Cengage Learning.
Graneau,T. (2013). Renters Win, Home Owners lose: Revealing the Biggest Scam in America. Business and Economics. AuthorHouse.
Moreno-Dodson, B., & Wodon, Q. (2008). Public finance for poverty reduction: Concepts and case studies from Africa and Latin America. Washington DC: World Bank.
Sherman, H.J., Hunt, E.K., Nesiba, R.F , O’Hara, P and Tuers-Wiens, B.A. (2015). Economics: An Introduction to Traditional and Progressive Views. Business and Economics. Routledge.