Chapter 9
Government Revenue: Taxation
The "Economics" of Taxation
Resource Allocation (taxes decrease
consumption)
Behavior Adjustment (sin taxes)
Productivity and Growth (decrease
growth potential)
Incidence
Measures the burden of taxation
Elasticity
of Demand
Corporate Income Taxes
"Good" Tax Criteria
Equity (fair, no loopholes)
Simplicity (predictable and
understandable)
Efficiency (collection and
enforcement)
Two Views on Taxation
Benefit (excise, toll roads, use
taxes)
Ability to Pay
(based on income)
Types of Taxes
Proportional (same %
for all income levels; flat tax)
Progressive (higher % for higher
income levels; federal income tax)
Regressive (higher % for lower income
levels; sales tax)
Federal Taxes
Individual Income Taxes (40-50% of
total tax revenue)
Withholding
Progressive
Indexed for inflation (avoids
bracket creep)
FICA Taxes (Federal Insurance
Contributions Act)
Shared payment by employer and
employee
Social Security (retirement)
6.2% from each employer and
employee (12.4% total)
Proportional to $97,500; then regressive
Medicare (elderly health care)
1.45% from each employer and
employee (2.9% total)
Proportional
Corporate Income Taxes
Revenue - Expenses = Profit
Corporate Taxes on profits only
34% flat rate for most
corporations
Incidence unclear (shareholders,
workers, consumers)
Other Federal Taxes
Excise (gasoline, cigarettes,
liquor, telephone, gambling)
Estate (Death) Taxes (none up to
$2,000,000; up to 50%)
Gift Taxes (none up to $12,000
annually; up to 50% if exceed $1,000,000 total)
Customs Duties or Tariffs (little
collected)
State Taxes
Intergovernmental Revenues (from
Federal grants)
Sales Taxes (primary source of revenue
for
Income Taxes (in some states, not
Local Taxes
Intergovernmental Revenues (from
Federal and State)
Property Taxes
Sales
Taxes
Use Taxes (utilities)
Tax Reform from 1981 to 1997
Reduced individual top bracket (from 70% to 39%)
Simplified individual income taxes (from 14 to 5 brackets)
Alternative Minimum Tax promoted equity (fewer loopholes)
Accelerated Depreciation for corporations (decreased taxes)
Investment Tax credit for businesses
Capital Gains Tax cut for individuals promoted investment
Tax Reform in 2001 & 2003
“Temporary” 10-year cut until 2010
Lowered all tax brackets (35% top bracket)
Lowered
capital gains tax (from 20% to 15%)
Flat Tax
Exemption for poor
Simple to understand and file
Equitable since fewer loopholes
Removes behavior incentives
Wealthy would benefit from larger reduction in taxes
Value Added Tax (common in
At each level of production
Hard to avoid
Easy to collect
Encourages savings
"Hidden" tax