Taxation

A fiscal policy through which governments raise revenue and influence production and consumption by levying taxes. Taxes are direct or indirect compulsory payments imposed by governments for a social purpose.

Direct taxes are imposed on payers directly, such as individual and corporate income taxes, while indirect taxes are imposed on the privileges or rights exercised by payers to consume or acquire certain goods—for example, import taxes (tariffs) and sales tax.

Taxes may also be regressive, proportional, or progressive. A tax is regressive when income tax payers in low-income brackets pay disproportionately higher rates than those in high-income brackets. In a proportional system, rates are evenly spread out irrespective of the level of income. A progressive system mandates those who are making more income to pay proportionally higher taxes.

Income tax rates are graduated, and the marginal tax rate is the rate paid on the last dollar of taxable income. The tax liability is the amount of taxes owed on income. The payment of taxes has raised concerns about legitimacy and methods, for which tax evasion has been a reaction. However, governments have severe laws against evasion, and fines or imprisonment can be the result of tax evasion or avoidance.

Taxation can be an effective tool to stabilize an economy when it is used wisely. A tax cut that is well targeted increases disposable income, and if an economy is in a recession, it can stimulate consumption and production to raise the level of national output or income. Conversely, to forestall overheating, policy makers can increase taxes, although it may seem to be a less attractive policy.

Taxation may also be used to discourage the production and consumption of certain goods. Taxes on nonessential goods such as tobacco and alcohol (excise taxes) raise the cost of production and consumption. Revenue from taxes is used to provide social amenities, create infrastructure, maintain law enforcement, and pay civil servants.