What this lesson teaches
I can explain why governments tax, classify taxes, and explain who a tax affects.
Syllabus K343, 4.2.3. Taxation: reasons for taxation: raising revenue, discouraging consumption of demerit goods, reducing imports, redistributing income, influencing total demand, encouraging environmental sustainability; examples of the different classifications of tax: progressive, regressive, proportional; direct, indirect; impact of taxation on consumers, workers, producers/firms, the government and the economy
Make a guess
A rich person pays more dollars of GST than a poor person each year. Is GST progressive?
- Yes. The rich pay more dollars, so it is progressive.
- Yes, because everyone pays the same 9% rate.
- No. It takes a bigger share of poorer people's income.
Show the answer
No. It takes a bigger share of poorer people's income.
Progressive and regressive are about the percentage of income. Poorer households spend more of what they earn, so GST takes a larger share from them.
Taxes raise revenue and change behaviour; they can be progressive, regressive or proportional, and direct or indirect.
Governments tax for six main reasons. Taxes raise revenue for public spending. They discourage demerit goods such as cigarettes. Tariffs reduce imports. Taxes can move income from rich to poor. They change total demand in the economy. And taxes such as a carbon tax encourage firms to pollute less.
A progressive tax takes a larger percentage of income from people with higher incomes. A regressive tax takes a larger percentage from people with lower incomes. A proportional tax takes the same percentage from everyone.
A direct tax is paid straight to the government by the person who earns the income, such as income tax. An indirect tax is a tax on spending, collected by sellers, such as GST.
Taxes affect everyone. Higher taxes reduce what consumers and workers can spend and may reduce the reward for working. Firms face higher costs or lower demand. The government gains revenue. The economy may grow more slowly if taxes discourage work and investment.
- Progressive
- Takes a larger % of higher incomes.
- Regressive
- Takes a larger % of lower incomes.
- Proportional
- Same % of every income.
- Direct vs indirect
- Tax on income (e.g. income tax) vs tax on spending (e.g. GST).
Worked example: Singapore's taxes as examples
Singapore uses both direct and indirect taxes.
- Income tax is direct and progressive: rates rise with income, up to 24% on the highest incomes.
- Goods and services tax (GST) is indirect and was raised to 9% in 2024.
- GST is regressive in effect: low-income households spend more of their income, so it takes a bigger share of it. Payments to lower-income households help offset this.
- The carbon tax charged on large emitters aims to encourage sustainability.
Watch out for this
A regressive tax is one where poorer people pay more dollars than richer people.
Regressive is about the percentage of income, not the dollar amount. A rich person may pay more dollars of GST, but it is a smaller share of their income.
Check your understanding
Which is an example of a direct, progressive tax?
- An income tax whose rate rises as income rises
- A 9% tax on most goods and services
- A fixed $100 tax paid by each adult each year
Show the answer
An income tax whose rate rises as income rises
Right. It is paid on income and takes a larger share from higher earners.
Check your understanding
Every person pays 10% of their income in tax, whatever they earn. What type of tax is this?
- Proportional
- Regressive
- Progressive
Show the answer
Proportional
Yes. The percentage is the same for everyone.
Check your understanding
Income tax is 0% on the first $20,000 of income and 10% on income above that. A worker earns $50,000. What is her average tax rate?
- 6%
- 60%
- 10%
- 4%
Show the answer
6%
Right. She pays 10% of $30,000 = $3,000, and $3,000 / $50,000 x 100 = 6%.
Check your understanding
Which tax is likely to be regressive?
- A tax on luxury cars and yachts
- A tax of 10% on everyone's income
- A sales tax charged at one rate on food
- Income tax with higher rates on higher incomes
Show the answer
A sales tax charged at one rate on food
Right. Poorer households spend a larger share of income on food, so they pay a larger share in tax.