Regressive Tax – Types and Working with Examples
Regressive tax implies a system where the tax rate goes down as the taxable income increases. That’s because the tax is levied uniformly regardless of the income. This benefits the high income earners as they have to pay lesser tax whereas the low income earners are taxed at a higher rate..
Let’s understand the types of regressive tax and its workings with examples.
What is Regressive Tax?
A regressive tax is a taxation system where tax is levied on all tax-paying citizens of the country at the same rate, regardless of their income. Thus, all citizens are required to pay the same amount of tax. As the word ‘regressive’ suggests, regressive tax leads to high-income groups paying fewer taxes than their low-income counterparts.
Regressive taxes are not levied on individual income but include sales taxes, property taxes, excise taxes, Government taxes, etc. Regressive taxes are in contrast to progressive taxes, which increase with income. Thus, under the progressive tax system, the higher an individual’s income, the higher the amount of taxes they pay.
Scandinavian countries like Norway, Switzerland, Denmark, Netherlands, and Sweden follow a regressive tax system.
How Does a Regressive Tax System Work?
As mentioned earlier, in a regressive tax system, tax is levied uniformly across all income groups. This severely impacts people who fall into lower income groups compared to people with higher incomes.
It’s often seen as unjust in most cases even if it might be fair in some cases to tax every individual at the same rate. Eventually, most income tax systems are progressive instead of regressive, taxing high-income earners at a higher rate compared to lower-income earners.
Also Read: Progressive Tax: Meaning, Types and Benefits
Types of Regressive Taxes
Listed below are the most popular types of regressive taxes:
1. Sales Tax
The Government applies a regressive tax system for sales tax. The sales tax is levied on the product’s cost or purchase price. It is uniformly applied to all consumers depending on what they purchase. It severely impacts individuals in lower-income groups.
2. Property Tax
Property taxes are partially indexed to income for lower-income earners because they generally live in less expensive homes. Regardless of income, two individuals living in the same tax jurisdiction pay the same property tax if their homes have the same value. They’re not purely regressive as long as they’re based on the property’s value.
3. Government Fees
The Government charges a fee for Government-funded services, identification cards, costs for driver’s licence, toll fees for roads and bridges, etc.
4. Flat Tax
The flat tax refers to a taxation system in which the Government taxes all incomes at the same rate. Furthermore, the flat tax rate system does not allow any credits or deductions. Thus, every individual has to pay tax at a fixed percentage, once again making it challenging for people with lower income.
5. ‘Sin’ Tax
The Government charges ‘sin’ taxes on products it deems harmful to society. These ‘sin’ taxes are added to the original prices of goods, including tobacco and alcohol, to dissuade people from using them.
6. Tariffs
The Government levies tariffs on the import and export of products where the taxes are to be borne by the customers who purchase those products. Due to the necessity of these goods, a high tax rate on imports or exports will burden low-income groups, but they will have no choice but to purchase them because they are necessities.
7. Taxes on Lottery and Gambling
Taxes on lottery and gambling are highly regressive since these are levied at a flat rate regardless of the amount an individual has won in a lottery or while gambling.
Regressive Tax Examples
The regressive tax examples for property tax, taxes on precious items and ornaments, and taxes on lottery and gambling are listed below, respectively:
- Example 1: Consider A and B have an annual income of Rs.1,00,000 and Rs.2,00,000 respectively. They own individual lands with the dimension of 1000 x 1000. They will be liable to pay the same amount of property tax regardless of their income.
- Example 2: Consider the tax on precious metals and ornaments is levied at the rate of 10%. A and B earn an annual income of Rs.1,00,000 and Rs.2,00,000 respectively. They purchased gold of 100gms and 200 gms respectively. They will be liable to pay tax at the rate of 10% on the market value per gram of gold.
- Example 3: Consider A and B wins a lottery amounting to Rs.5,00,000 and Rs.20,000, respectively, while the tax rate is charged at a flat 30%. Here both A and B will be liable to pay the tax on the lottery at the same rate regardless of the amount of money they have made.
Advantages of Regressive Tax
Here are some of the most prominent advantages of regressive tax:
- Regressive tax systems help the Government control the demand for goods that are harmful to the society such as tobacco and alcohol.
- Regressive taxes encourage more investments since high returns on investments will also be charged at a rate similar to lower returns.
Disadvantages of Regressive Tax
Listed below are the primary drawbacks of regressive taxes:
- Individuals in lower income brackets have to spend a significant portion of their incomes as taxes.
- The unemployment rates are likely to increase since people in lower-income groups might be unwilling to work. They will have to give up a major part of their earnings to be paid as tax.
- The Government revenue might decrease if individuals with lower incomes limit their consumption levels.
- Wealthier people will be liable to pay lower amounts in taxes while low-income groups will be liable to pay higher taxes.
- Regressive taxes encourage tax skimming among people with low income.
Difference Between Progressive Tax and Regressive Tax
A progressive and regressive tax can be differentiated based on the following points:
| Progressive Tax | Regressive Tax |
| Progressive taxes signify proportionate increase in taxes with an individual’s income. | Under a regressive tax system, the tax rate remains the same for both high and low-income groups. |
| Progressive taxes are imposed on the income earned by an individual on the basis of different income tax slabs. | Regressive taxes are levied as a proportion of the assets that an individual has either purchased or owns. |
| Progressive tax systems enable individuals in low-income groups to enjoy the benefits of lower tax rates since the burden has been shifted to high-earning individuals. | Regressive tax system, higher income groups enjoy the benefits of reduced tax rates, while lower income groups bear the burden |
| Under a progressive tax system, the marginal tax rates are higher as compared to the average tax rates. | Under a regressive tax system, the marginal tax rates are lower compared to the average rates of tax. |
| Progressive tax essentially covers all the direct taxes that are paid directly to the government by tax-paying individuals. | While regressive taxes cover indirect taxes which are also paid to the government, but through an intermediary. |
Also Read: What is Tax Incidence and How is it Calculated?
Final Word
A regressive tax is a straightforward tax levied by the Government, regardless of an individual’s income. It is not levied based on the quantum of income; rather, a flat amount is levied for everyone, making it a very convenient form of tax for underdeveloped nations.
However, this type of tax is only suitable for nations where there is little income inequality and where people earn incomes that are comparable to one another, so there won’t be any tax avoidance.
FAQs
Ans. Taxes including sales tax, property tax, tariffs, Government fees, taxes on lottery and gambling, excise taxes, etc., are considered regressive taxes.
Ans. India does not have a regressive tax system. Two attributes define the importance of taxes in India – progressive and proportional. Taxes are progressive in that they are imposed at increasing rates on increasing income brackets.
Ans. By design, GST is a regressive tax since individuals in low-income brackets have to pay a significantly higher percentage of their incomes on taxable goods and services as compared to high-income earners.
Ans. Due to the fact that property taxes are fundamentally regressive, if two people live in the same tax jurisdiction in properties worth the same amount, they both pay the same amount of property tax.
Disclaimer
This article is solely for educational purposes. Navi doesn't take any responsibility for the information or claims made in the blog.
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