Chapter 16 - Taxes On Consumption and Sale
Chapter 16 - Taxes On Consumption and Sale
Chapter 16 - Taxes On Consumption and Sale
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Consumption as a Tax Base
Consumption can be an alternative to income as
a measure of ability to pay.
Comprehensive consumption:
Income-Savings
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An Expenditure Tax
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Comparing a Tax on Income to a Tax on
Consumption
Assumptions:
Two equally situated 18 year olds with no physical capital
Wages = $30,000 per year
Interest rates = 10%
Flat rate tax for either consumption or income of 20%.
Two earning periods.
They have equal ability to pay taxes over their lifetime so they
should pay equal taxes over their lifetime.
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Comparing a Tax on Income to a Tax on
Consumption
Step 1 An Income Tax
IA = IB = $30,000
SA = 0
SB = $5,000
TA = $6,000 + $6,000/(1+.1)
= $6,000 + $5,455 = $11,455
TB = $6,000 + $6,100/(1+.1)/(1+.1)
= $6,000 + $5,545 = $11,545
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Comparing a Tax on Income to a Tax on
Consumption
Step 2 A Consumption Tax for the Non-Saver
Income = Consumption + Consumption Tax +Savings
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Comparing a Tax on Income to a Tax on
Consumption
Step 2 A Consumption Tax for the Saver
First Year Second Year
IB = CB + TB + SB IB + Proceeds from Saving
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A Comprehensive Consumption Tax Base
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A Cash-Flow Tax
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Substituting a Consumption Tax for an
Income Tax
To be revenue neutral Tax Revenue = tiI = tcC
Where
ti = income tax rate
G Gain in Efficiency
rG*
r* E
Yield (Percent)
rN F
D
Net Return under
∆ Q1 the Income Tax
SL
WG2 A'
WG1 A
WO B
Wages
WN1 C
WN2
C'
D = WG
WG(1– t1)
WG(1– tC)
0 L3 L2 L1 Labor Hours per Year
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A Sales Tax
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An Excise Tax
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The Incidence of Sales and Excise Taxes
Generally, sales taxes are regressive when
food and medicine are not
exempt.
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Turnover Taxes
Turnover taxes are multistage taxes levied at
some fixed rate on transactions at all levels of
production.
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Implications of a VAT
A complete substitution of all income and
payroll taxes for a VAT would
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The VAT in Europe
The VAT accounts for about 20% of EU member nation revenue.
The tax applies to services as well as goods (unlike most sales taxes in
the U.S.).
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Sales Taxes with Mail Order and the Internet
A 1967 Supreme Court case declared it unconstitutional for a state to
insist on sales tax collections for sales to residents of other states (when
there is no outlet for the good in the customer’s state).
This is because of the destination principle, which states that a
consumption tax should be imposed on the consumer wherever
consumption takes place; the state in which the purchase occurred would
have no way to determine where consumption takes place.
Some states have imposed use taxes (at the same rate as their own sales
taxes) on the customer because local retailers claim they are at a
disadvantage relative to mail order.
There has been a general moratorium on new taxes for sales over the
internet. This does not apply to businesses that have local counterparts
(like Dell and Gateway) but to internet only retailers.
The moratorium is less important than it might seem, because a large
volume of internet sales are business to business, which is not taxed
anyway.
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