Updated July 18, 2023
Definition of Regressive Tax
A tax system is considered regressive when it burdens the poor or low-earning populations more than the rich or high-earning population. It casts a heavy burden on poor people because it imposes a flat or uniform rate of taxes irrespective of the level of income distribution in the country or economy. Taxes like sales, fuel, excise, and social security payroll fall under the purview of regressive taxes.
Explanation
Though the regressive tax system charges the same dollar value of the tax amount from rich and poor people, it is harsher for poor people because they have less income left to buy essential commodities for living purposes after paying these taxes. On the other hand, for rich people, the flat rate of tax does not impact much since they will still be able to buy everything needed to maintain their standard of living after payment of these taxes. This is why it is said that regressive taxes take a higher percentage of poor or low-earning populations’ income.
Some of examples of regressive tax are as below:
- Sales tax is applied uniformly to the rich as well as poor people by the government. Anyone buying goods with sales tax, irrespective of income level, will have to pay the amount uniformly.
- User fees i.e. fees levied by the government for entering the museum, toll charges on roads and bridges, the entry fees for parks, costs of driving license, identification cards, etc. it is also uniformly applied to all the citizens.
- Property taxes are considered regressive because individuals living in the same area will have to pay taxes at the same rate, irrespective of the difference in their income level. But it is not purely a regressive tax because it depends on the property’s value.
- Flat taxes, i.e., flat-rate income taxes, are considered regressive taxes.
- Sin taxes are imposed on goods like cigarettes, alcohol, etc., which harm society. They are also uniformly applied to the rich and poor.
- Basically, all the taxes which have a flat rate and are charged more by the poor people as they don’t have much disposable income left to meet their needs after paying these taxes are considered regressive taxes.
Examples of Regressive Tax
Now that we have understood the concept of the regressive taxation system and looked at a few examples of regressive taxes let us look at the calculation part of these taxes.
Example #1
Two friends, Sam and Tom, both went to the clothing store and bought the same piece of clothing for each of them. The price of the clothing item was $800 the sales tax rate was 14%. Sam earns $6,000 in a month, while Tom earns $4,000 in a month.
| Price of the clothing | $800 |
| Sales tax rate | 14% |
| Sales tax amount | $112 |
Analyze whether the tax rate is regressive or not.
Solution:
|
Particulars |
Sam |
Tom |
| Income in dollars per month | $6,000 | $4,000 |
| Sales tax paid | $112 | $112 |
| Sales tax as a percentage of the income | 2% | 3% |
From the above calculation, it is evident that though both the friends are paying the same tax amount, the sales tax of $112 is casting more burden on Tom than Sam.
Example #2
Let us take an example of the fees levied by the government. Two families with 3 members each planned to visit the city museum at the weekend. The entry fee is $50 per person. The first family’s monthly income is $5,000, and the second family’s income is $ 3,000. Calculate the impact of fee payment on both families’ incomes.
Solution:
|
Particulars |
In Dollars |
|
| Family 1 | Family 2 | |
| Monthly income in dollars | 5,000 | 3,000 |
| Entry fee of the museum for 3 members | 150 | 150 |
| Entry fee as a percentage of income | 3% | 5% |
The entry fee for 3 members costs Family 2 @ 5% of their income while Family 1 @ 3%. It is the case of regressive taxation.
Example #3
Let us take an example of property taxes this time, though property tax is not purely a regressive tax because the tax rate is calculated as a percentage of the property value. Robert and John have to pay property taxes of 15% on their properties in the same jurisdiction. For ease of understanding purposes, we will assume that the values of both properties are the same i.e. $200,000. Robert earns $120,000 per annum, and John earns $84,000 per annum. Analyze the nature of tax in this case.
Solution:
|
Particulars |
In $ |
|
| Value of property | 2,00,000 | |
| Property tax rate | 15% | |
| Tax Amount | 30,000 | |
|
In dollars |
||
| Particulars | Robert | John |
| Annual Income | 1,20,000 | 84,000 |
| Property tax paid | 30,000 | 30,000 |
| As a percentage of the income | 25% | 36% |
We can see that the same amount of property tax is costing Robert at the rate of 25% and John at the rate of 36% due to differences in their income level.
Example #4
In this last example, consider sin taxes. These taxes are charged at a fixed amount, say $4.35 of excise tax per pack of 20 cigarettes. The price per pack is $5. What shall be the amount of regressive tax in this case?
Solution:
The tax amount would be $4.35 per pack, which would be paid by both rich and poor uniformly irrespective of their income level; hence, the tax is regressive.
Conclusion
Regressive taxes cast harsher burdens on poor or low-earners. However, they do exist in every economy or nation. Most of the indirect taxes fall under the purview of regressive tax. Though income tax is based on the progressive tax system in most developed and developing nations, taxes like sales tax, sin taxes, property taxes, etc., are all based on regressive taxation schemes.
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