Direct tax
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Although the actual definitions vary between jurisdictions, in general, a direct tax or income tax is a
General meaning
In general, a direct tax is one imposed upon an individual person (
Direct tax is supposed to be borne and paid by the same person. The person who pays the amount of direct tax does not recover all or part of the tax elsewhere. It is in this sense that direct taxation is opposed to indirect taxation. It is the notion of fiscal incidence which allows to analyse who ultimately, weights the burden of a tax, that determines whether the tax is direct or indirect. Direct taxation is generally declarative (established either by the person concerned or by a third party).
The unconditional, inexorable aspect of the direct tax was a paramount concern of people in the 18th century seeking to escape tyrannical forms of government and to safeguard individual liberty.
The distinction between direct and indirect taxation was first extensively discussed by
It is thus that a tax upon the necessaries of life operates exactly in the same manner as a direct tax upon the wages of labour. ... if he is a manufacturer, will charge upon the price of his goods this rise of wages, together with a profit; so that the final payment of the tax, together with this overcharge, will fall upon the consumer.[2]
The
The power of direct taxation applies to every individual ... it cannot be evaded like the objects of imposts or excise, and will be paid, because all that a man hath will he give for his head. This tax is so congenial to the nature of despotism, that it has ever been a favorite under such governments. ... The power of direct taxation will further apply to every individual ... however oppressive, the people will have but this alternative, either to pay the tax, or let their property be taken for all resistance will be vain.[3]
Examples of direct taxes
Direct taxation can apply on income or on wealth (property tax; estate tax or wealth tax). Here below a few examples of direct taxes existing in the United States (though not all of these meet the US constitutional definition of a direct tax, as stated below):[4]
- Income tax: it is the most important direct tax in many developed countries. It is based on incomes of taxpayers. A certain amount of money is taken from the wage of the individuals. When this type of tax is applied to corporations and firms, it is called corporate income tax.
- Transfer taxes: the most frequent form of transfer taxes is the estate tax. Such a tax is levied on the taxable portion of the property of a deceased individual. A gift tax is also another form of transfer taxes when a certain amount is collected from people who are transferring properties to another individual.
- Entitlement tax or payroll taxes: this type of direct tax serves to finance social security and health services. The entitlement tax is collected through payroll deductions. Their importance increases with the rise of the development of the welfare state during the twentieth century.
- Property tax: property tax is charged on properties such as land and buildings.
- Capital gains tax: this tax is collected when an individual earns gains from the sale of capital, for example when an individual sells stocks, real estate, or a business. The tax is computed by determining the difference between the acquisition amount and the selling amount.
Effects of direct taxation and comparison of indirect taxation
Direct taxation has a few advantages and also some inconveniences in comparison of indirect taxes. It promotes equality and equity because direct taxes are based on ability to pay of the taxpayer and in the case of a progressive tax structure, every person is taxed differently depending on their income. Another advantage of direct taxation is that the government and the taxpayer know the amount they will receive and they pay, even before the collection of the tax. Direct taxation and in particular income tax act as automatic stabilizers. Some direct taxes are easy to collect for the government and the fiscal administration because they are collected at the source. Yet, tax collection can be expensive depending on the efficiency of the fiscal administration. Running the tax collection office has some administrative costs (keeping the records of incomes of the population for example), in particular when different tax rates are applied. Moreover, direct taxes can be evaded (tax evasion affects mainly direct taxes) whereas indirect taxes cannot be evaded (when the taxed transaction occurs, it is not possible to avoid the burden of the tax).[4]
Direct taxes decrease the savings and earnings of individuals and firms. Indirect taxation however make goods and services more expensive (the burden of the tax is reflected in the prices). Contrary to indirect taxation which leads to inflation (increasing of the prices), direct taxes can help to reduce inflation.
There is no consensus among the academic literature to designate if direct taxation is more efficient or not. Earlier works based on static models favour direct taxation whereas the recent literature, based on neoclassical growth models, shows that indirect taxation is more efficient. The conclusions of these debates are that the answers are mostly conjectural, depending on the economic structure.[5]
Direct taxes and progressivity
Contrary to indirect taxes such as value-added taxes, direct taxes can be adjusted to the ability to pay of the taxpayer according to their status (income, age...). So, direct taxes can be progressive (the tax rate increases as the taxable amount increases), proportional (the tax rate is fixed, it does not change when the taxable base amount increases or decreases) or regressive (the tax rate decreases as the taxable amount increases) according to their structure.[1] It differs from indirect taxes which are generally regressive because everyone pays the same amount regardless of ability to pay (meaning the burden of the tax is greater for the poorer than for the richer).
Moreover, direct taxation are transfers which can have a redistributive preoccupation (combined with the will of increasing tax revenue).[6] Indeed, taxation is a main tool of the redistributive function of the government identified by Richard Musgrave in his The Theory of Public Finance (1959). A progressive direct taxation could participate in the reduction of inequalities and correcting difference in living standards among the population.[6]
Another effect of a progressive direct taxation is that such tax structure act as automatic stabilizers when prices are stable. Indeed, when incomes (in the example of a progressive income tax) decrease, as a result of recession, the average tax rate is reduced – individuals have to face lower tax rates because their earnings and their incomes have been reduced. And similarly, when incomes are increasing, the average tax rate increases also.[7] This mechanism of progressive taxation participates to the stabilization of the economy, another function of the government in the works of Musgrave (stabilization branch of the government which prevents major fluctuations in real GDP). When incomes fall, tax revenues fall too (and in the case of progressive taxation, even tax rates drop also) reducing tax burden on taxpayers.
U.S. constitutional law
In the United States, the term "direct tax" has acquired specific meaning under constitutional law: a direct tax is a tax on property "by reason of its ownership"[8] (such as an ordinary real estate property tax imposed on the person owning the property as of January 1 of each year) as well as a capitation (a "tax per head").[9][10] Income taxes on income from personal services such as wages are indirect taxes in this sense.[11] The United States Court of Appeals for the District of Columbia Circuit has stated: "Only three taxes are definitely known to be direct: (1) a capitation [...], (2) a tax upon real property, and (3) a tax upon personal property."[12] In National Federation of Independent Business v. Sebelius, the Supreme Court held that a penalty directly imposed upon individuals for failure to possess health insurance, though a tax for constitutional purposes, is not a direct tax.[13] The Court reasoned that the tax is not a capitation because not everyone will be required to pay it, nor is it a tax on property. Rather "it is triggered by specific circumstances."[14]
In the
In the context of income taxes on wages, salaries and other forms of compensation for personal services, see, e.g., United States v. Connor, 898 F.2d 942, 90-1 U.S. Tax Cas. (CCH) paragr. 50,166 (3d Cir. 1990) (tax evasion conviction under 26 U.S.C. § 7201 affirmed by the United States Court of Appeals for the Third Circuit; taxpayer's argument – that because of the Sixteenth Amendment, wages were not taxable – was rejected by the Court; taxpayer's argument that an income tax on wages is required to be apportioned by population also rejected); Perkins v. Commissioner, 746 F.2d 1187, 84-2 U.S. Tax Cas. (CCH) paragr. 9898 (6th Cir. 1984) (26 U.S.C. § 61 ruled by the United States Court of Appeals for the Sixth Circuit to be "in full accordance with Congressional authority under the Sixteenth Amendment to the Constitution to impose taxes on income without apportionment among the states"; taxpayer's argument that wages paid for labor are non-taxable was rejected by the Court, and ruled frivolous).
Direct taxation in India
Direct tax is a form of collecting taxes applicable on the general public by the means of their personal income and wealth generated and collected through formal channels and worthy government credentials such as Permanent account number and bank account details.
Section 2(c) of the Central Boards of Revenue Act, 1963 of India defines "direct tax" as follows:
- ″(1) any duty leviable (or) tax chargeable under-
- (i) the Estate Duty Act, 1953 (34 of 1953.);
- (ii) the Wealth-tax Act, 1957 (27 of 1957.);
- (iii) the Expenditure-tax Act, 1957 (29 of 1957.);
- (iv) the Gift-tax Act, 1958 (18 of 1958.);
- (v) the Income-tax Act, 1961 (43 of 1961.)
- (vi) the Super Profits Tax Act, 1963 (14 of 1963.); and
- (2) any other duty or tax which, having regard to its nature or incidence, may be declared by the Central Government, by notification in the Official Gazette, to be a direct tax.″ [17][18]
Direct taxation in other countries
Tax policy in the
See also
- Indirect tax
- United Kingdom Corporation Tax
- Income tax in the United States
References
- ^ a b Britannica Online, Article on Taxation. See also Financial Dictionary Online, Article on Direct taxes.
- ^ Wealth of Nations, Book V Chapter 2
- ^ The Address and Reasons of Dissent of the Minority of the Convention, of the State of Pennsylvania, to their constituents.
- ^ a b "Direct Taxes: Taxes that are paid straight or directly to the government". corporatefinanceinstitute. Archived from the original on 2020-09-25.
- ^ Tresch, Richard (2015). Public Finance: A Normative Theory (third ed.). Elsevier. pp. 220–221.
- ^ .
- ^ a b c Stiglitz, Joseph (2000). Economics of the public sector (third ed.). New York: Norton & Company. pp. 455–466.
- ^ See, e.g., the United States Supreme Court case of Fernandez v. Wiener, in which the Court stated that a direct tax is a tax "which falls upon the owner merely because he is owner, regardless of his use or disposition of the property." Fernandez v. Wiener, 326 U.S. 340, 66 S. Ct. 178, 45-2 U.S. Tax Cas. (CCH) ¶10,239 (1945).
- ^ A capitation is defined as a "poll tax". Black's Law Dictionary, p. 191 (5th ed. 1979).
- ^ A poll tax is defined as a "capitation tax; a tax of a specific sum levied upon each person within the jurisdiction of the taxing power and within a certain class (as, all males of a certain age, etc.) without reference to his property or lack of it." Black's Law Dictionary, p. 104
- ^ See generally Pollock.
- ^ Opinion on rehearing, July 3, 2007, p. 20, Murphy v. Internal Revenue Service and United States, case no. 05-5139, United States Court of Appeals for the District of Columbia Circuit, 2007-2 U.S. Tax Cas. (CCH) paragr. 50,531 (D.C. Cir. 2007) (dicta).
- ^ NFIB v. Sebelius, 567 U.S. ___ (2012).
- ^ NFIB, 567 U.S. ___, 41 (2012).
- ^ "The Constitution of the United States". Launch Knowledge. 10 September 2020. Retrieved 2021-05-12.
- ^ Brushaber v. Union Pacific Railroad Co., 240 U.S. 18 (1916).
- ^ "The Central Boards of Revenue Act, 1963". Retrieved January 1, 2019.
- ^ "Section 2, Central Boards of Revenue Act, 1963". Retrieved January 1, 2019.
- ^ Parent Subsidiary Directive, by Salvador Trinxet Llorca.
- ^ European Union Direct Taxes, by Salvador Trinxet Llorca
Sources
- Foster, Robert (1895). Commentaries on the Constitution of the United States: Historical and Judicial. Vol. 1. Boston: The Boston Book Co. pp. 415–423.
- Joseph E. Stiglitz, Economics of the public sector (third edition), 2000, New York, Norton & Company. pp. 455-466