1. Taxation is the inherent power of the sovereign, exercised through the legislature, to impose burdens upon subjects and objects within its jurisdiction for the purpose of raising revenues to carry out the legitimate objects of government.
2. It is also defined as the act of levying a tax, i.e. the process or means by which the sovereign, through its law-making body, raises income to defray the necessary expenses of government. It is a method of apportioning the cost of government among those who, in some measure, are privileged to enjoy its benefits and must therefore bear its burdens. Taxes are the enforced proportional contributions from persons and property levied by the law-making body of the State by virtue of its sovereignty for the support of the government and all public needs.
Essential elements of a tax
1. It is an enforced contribution.
2. It is generally payable in money.
3. It is proportionate in character.
4. It is levied on persons, property, or the exercise of a right or privilege.
5. It is levied by the State which has jurisdiction over the subject or object of taxation.
6. It is levied by the law-making body of the State.
7. It is levied for public purpose or purposes.
Purposes of taxation
1. Revenue or fiscal: The primary purpose of taxation on the part of the government is to provide funds or property with which to promote the general welfare and the protection of its citizens and to enable it to finance its multifarious activities.
2. Non-revenue or regulatory: Taxation may also be employed for purposes of regulation or control. a) Imposition of tariffs on imported goods to protect local industries. b) The adoption of progressively higher tax rates to reduce inequalities in wealth and income. c) The increase or decrease of taxes to prevent inflation or ward off depression.
Three basic principles of a sound tax system
1. Fiscal adequacy It means that the sources of revenue should be sufficient to meet the demands of public expenditures. 2
. Equality or theoretical justice It means that the tax burden should be proportionate to the taxpayer’s ability to pay. This is the so-called “ability to pay principle.”
3. Administrative feasibility It means that tax laws should be capable of convenient, just and effective administration. Basic Principles of Taxation Fiscal policy refers to any policy of the government that involves taxation or government spending. In this and the next two Learn-Its, we look at taxation. In the final two Learn-Its of this topic we look at government spending.
Why do governments impose taxes?
1. Raising money for government spending. The most obvious reason is to raise money for all the expenditure that is required. Hospitals, schools, the defence system, the welfare state; these things do not come cheaply. Local taxes also have to be levied to help pay for libraries, cleaning the roads, local parks and the local council administration to name just a few items.
2. Redistributing income. This is a bit of an old fashioned objective of taxation nowadays. If the system used is progressive (see later in this Learn-It), then the tax system will be helping the relatively less well off at the expense of the better off. Socialist governments of the past were very keen on this. Certainly the Conservative governments of the 80s and 90s were less bothered. Although there is a lot of press about the increase in the tax burden under the new Labour government, they have actually been redistributing income to the poorer households in the UK, through such measures as the National Minimum Wage, the New Deal and the Working Families Tax Credit.
3. Demand management. It is the government's responsibility to create the necessary demand to resurrect the economy. This can be done by increasing government spending and/or reducing taxes.
4. Correcting market failure. Governments can use taxes to force the firms to produce the socially optimal level of output. We all know about the tax on petrol. Some items that are thought of as 'good' may be exempt from taxes that most other goods attract. A few goods are 'zero-rated', meaning they attract no Value Added Tax (VAT). Books are a good example. What is the definition of a 'good' tax? The only reason that a parliament was first formed in the thirteenth century was because the King at the time was short of money. He convened a meeting of some of the Lords of the time so that he could get some money from them. They, in turn, raised money from the peasants in their 'manor'. And so tax was invented. By the time that the first book was written (in 1776) that dealt with economic issues, "The Wealth of Nations" by Adam Smith, taxation was already quite a big part of peoples' lives. Smith discusses the 'cannons' of taxation. These were characteristics that all good taxes should have:
1. Fairness. A tax should always consider the taxpayers' 'ability to pay'.
2. Cost. The cost of collection (for the government) should not be too high. In particular, the cost should be a relatively small proportion of the tax yield.
3. Convenience. It should be as easy as possible for the taxpayer to pay the tax (in terms of means and timing of payment). Note that the Pay As You Earn (PAYE) method of tax collection on most peoples' income is very good here.
4. Certainty. The timing, method and amount due should be absolutely clear. There should be no excuses for tax evaders.
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