Page 188 - Business Principles and Management

Chapter 7 • Legal Aspects of Business

Ethics tip
FAIRNESS OF TAXATION
It is difficult for government to find ways to levy taxes fairly and still raise suffi-
cient amounts of money to meet government expenses. The question of fairness Is it okay not to pay your
has caused many debates. One problem is determining who will, in fact, pay taxes? Legally you can avoid
the tax. For example, a firm may have to pay taxes on the goods it manufactures. paying taxes by maximizing
But, because the tax is part of the cost of producing the product, this cost may be tax deductions. You cannot
passed on to the customer. Another problem of fairness is whether those with the evade taxes by not reporting
most assets or most income should pay at a higher rate than those who own or income. This is both unethical
earn the least. Government tries to solve the fairness problem by adopting a pro- and illegal.
portional, progressive, or regressive tax policy.

PROPORTIONAL TAXATION A proportional tax—sometimes called a flat tax—is one
in which the tax rate remains the same regardless of the amount on which the tax
is imposed. For example, in a given area the tax rate on real estate per $1,000 of
property value is always the same, regardless of the amount of real estate the tax-
payer owns. The total dollar amount of the tax paid by someone with a $400,000
home will differ from that paid by the person with a $175,000 home in the same
area, but the rate of the tax is the same for both owners. A flat state tax of 6 per-
cent on income is also proportional. Those with higher incomes pay more dollars
than those with lower incomes. But the tax rate of 6 percent stays the same.

PROGRESSIVE TAXATION A progressive tax is a tax based on the ability to pay. The pol-
icy of progressive taxation is a part of many state and federal income tax systems.
As income increases, the tax rate increases. As a result, a lower-income person is
taxed at a lower rate than a higher-income person is. In fact, the Tax Foundation
found that in a recent year, 5 percent of the taxpayers who pay the most taxes con-
tributed over half of all the federal individual income taxes collected.
Some local and state governments have combined the policies of proportional
and progressive taxes. For example, a state may apply a flat tax of 5 percent to
incomes up to $20,000 and 6 percent to all incomes over $20,000.
The current federal tax law is a combination of progressive and proportional
taxation policy. A 10 percent tax applies to taxable income up to $14,300 and
a 15 percent tax applies to taxable income up to $58,100 for married couples
filing joint returns. On taxable income from $58,100 and up to $117,250, the
rate jumps to 25 percent and to 28 percent for incomes between $117,251 and
$178,650. With still higher incomes, the rate jumps within brackets to 33 per-
cent and 35 percent, respectively. For single taxpayers, the rate is 10 percent
up to $7,150. On taxable income from $7,150 to $29,050, the tax rate is
15 percent. Tax rates continue to rise within brackets to 25 percent, 28 percent,
33 percent, and then 35 percent, respectively, for people with higher taxable
incomes. Because people with higher incomes pay at a higher rate than those
with lower incomes, most people consider the tax fair.

REGRESSIVE TAXATION The third type of tax policy is a regressive tax. With this
type of tax, the actual tax rate decreases as the taxable amount increases.
Although general sales taxes are often thought to be proportional, they are
actually regressive, because people with lower incomes pay a larger propor-
tion of their incomes in taxes than those with higher incomes. Suppose, for
example, that Person A and Person B live in a state with a 6 percent general
sales tax. As shown in Figure 7-4, Person A, with an annual take-home pay of
$15,000, pays a 6 percent tax rate, whereas Person B, with an annual take-
home pay of $45,000 pays only a 5.7 percent tax rate. Because the sales tax

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