Tax Series: The 3 Types of Tax Systems
This week, we are covering the three main types of tax systems: proportional, progressive, and proportional taxes. Even if you haven’t heard of these, you have probably heard of taxes that use these systems, like sales tax or income tax. The reason these matter is because they redistribute money in different ways and can either help or worsen income inequality (article on that next!).
As the name suggests, progressive taxes increase in percentage as income goes up. To break this down further, refer to the table with the example of the 2020 US income tax rates for single filers. This is an example of a progressive tax, in which a person with $10,000 would pay pays a much smaller percentage of their total income compared to the person making $550,000. This system is great for fighting income inequality, because it helps to redistribute income from high-earners to low earners.
Proportional taxes are a set percentage regardless of income. Refer to the example to the left, and note that a set percentage still means high-earners pay more, but not as much as they would have under a progressive system. Though some countries have implemented this as their income tax system, opponents of the system argue that it places a heavier burden on the lower and middle class.
Chances are, at some point or another, you have paid sales tax on something. As an example, NJ charges a nearly 7% sales tax on most personal property and even some services. Sales tax is an example of regressive tax, and here’s an example explaining why.
Candy bar=$100 (it’s a lot, lets just say its a REALLY good chocolate bar)
Customer A makes $1000
Customer B makes $2000
7% of 100—>.07 x 100=$7 of tax
With a sales tax of 7%, both customers end up paying 107 dollars. For Customer A, this added sales tax is 0.7% of their income, and for customer B, it is 0.35% of their income. This disparity seems small, but with the hundreds of purchases that these customers will make, the disparity will become more impactful. This matters because regressive taxes place a much larder burden on lower-income households, which leads to greater income inequality.