Ability-To-Pay
Taxation
What is 'Ability-To-Pay Taxation?'
Ability-to-pay taxation is a progressive taxation principle
that maintains that taxes should be levied according a taxpayer's ability to pay. This
progressive taxation approach places an increased tax burden on
individuals, partnerships, companies,
corporations, trusts and certain estates with higher incomes. The theory is that
individuals who earn more money can afford to pay more in taxes.
BREAKING DOWN 'Ability-To-Pay
Taxation'
Ability-to-pay taxation requires higher-earning individuals to pay a
greater percentage of their income towards taxes, compared to individuals with
lower incomes.
Advantages of Ability-to-Pay
Taxation
if a government uses a flat tax instead of the ability-to-pay taxation,
it has to use relatively low tax rates to accommodate the low-wage earners. If
it applies those same rates to everyone, it loses revenue compared to taxing
higher wage earners at a higher rate. Additionally, as low-wage earners are
more likely to spend all of their money, allowing them to keep a larger
percentage of it helps to stimulate the economy.
Disadvantages of Ability-to-Pay
Taxation
Critics of ability-to-pay taxation state that progressive tax systems
reduce the incentive to earn more money and penalize those whose hard work and
ingenuity have helped them earn higher incomes. These critics claim
ability-to-pay taxation is not fair for wealthy individuals.
Difference Between Ability-to-Pay
Taxation and Benefit-Received Taxation
Rather than basing taxes on what an individual can afford to pay,
benefit-received taxation levies taxes on the people who receive the benefits
of the tax.
For example, the government earmarks transporters taxes for roads. They
receive the benefit of well-maintained roads. On the other hand, non-transporters
don't have to pay tax.
How the Internal Revenue Service
Determines Ability to Pay
The phrase "ability to pay" refers to a taxation principle
that supports progressive taxation systems. It does not necessarily ensure that
an individual can afford his taxes, as affordability can be subjective.
However, lawmakers work on modifying the tax code or revising deductions and
credits to make taxes more affordable.
If an individual owes back taxes to the Internal Revenue Service (IRS),
however, he can apply for a payment plan or a reduced payment. At that point,
the IRS looks at his ability to pay. Based on his personal finances and assets,
it decides whether to accept the payment plan.
Multiple
Choice Questions & Answers
Correct answer
indicated by ⇒
1. Positive
economics
(a) does not
depend on market interactions.
(b) only
looks at the best parts of the economy.
(c) ⇒examines how the economy actually
works (as opposed to how it should work).
(d) is very
subjective.
2. The Coase
theorem has problems because
(a) ⇒generally, bargaining costs are not
zero.
(b)
individuals are not concerned with others.
(c) markets
always exist.
(d) all of
the above.
3. The
marginal rate of substitution is
(a) the
slope of the Pareto curve.
(b) the slope
of the contract curve.
(c) the
slope of the utility possibilities curve.
(d) ⇒the slope of the indifference curve.
4. The slope
of the production possibilities curve is the
(a) marginal
rate of substitution.
(b) contract
curve.
(c) ⇒marginal rate of transformation.
(d) offer
curve.
(e) Engel
curve.
5. The First
Fundamental Theorem of Welfare Economics requires
(a)
producers and consumers to be price takers.
(b) that
there be an efficient market for every commodity.
(c) that the
economy operate at some point on the utility possibility curve.
(d) ⇒all of the above.
6. The
economic incidence of a unit tax is
(a)
generally borne by the buyers.
(b)
generally borne by sellers.
(c)
generally borne by the government.
(d) ⇒independent of the statutory incidence
for the tax.
(e) none of
the above
7. Market
failure can occur when
(a) monopoly
power exists in the market.
(b) markets
are missing.
(c)
consumers can influence prices.
(d) moral
hazard and adverse selection exist
(e) ⇒all of the above.
8. A public
good is
(a) a good
that the public must pay for.
(b) ⇒nonrival in consumption.
(c) more
costly than a private good.
(d) paid for
by the government.
9. Movement
from an inefficient allocation to an efficient allocation in the Edgeworth Box
will
(a) increase
the utility of all individuals.
(b) ⇒increase the utility of at least one
individual, but may decrease the level of utility of another person.
(c) increase
the utility of one individual, but cannot decrease the utility of any
individual.
(d) decrease
the utility of all individuals.
10. Points
on the utility possibility frontier are
(a)
inefficient.
(b) points
of incomplete preferences.
(c) not
producible.
(d) ⇒Pareto efficient.
11. The
economic theory of optimal health care provision says that
(a) It is
socially optimal for free medical treatment to be provided to everyone
(b) Everyone
should pay their own medical expenses because they will set marginal cost equal
to marginal benefit.
(c) Adverse
selection can prevent efficient insurance markets from developing even when
everyone buys the same insurance.
(d) ⇒The optimal health care system will
ration care: Some people who would benefit from treatment should be denied that
treatment.
(e) Moral
hazard is not a problem because nobody would intentionally do something that
might make them sick.
12. Market
mechanisms are unlikely to provide
(a) prices.
(b) ⇒nonrival goods efficiently.
(c) supply
and demand.
(d) none of
the above.
13. Public
goods can be
(a) provided
privately.
(b) provided
publicly.
(c) subject
to free rider problems.
(d) ⇒all of the above.
14.
Externalities can be positive because
(a) marginal
damages do not last over time.
(b) ⇒utility can be impacted positively
as well as negatively.
(c) there is
no concept for marginal benefit.
(d) positive
externalities are subsidies.
15. A
Pigouvian subsidy
(a) cannot
exist with externalities.
(b) is the
same thing as a Pigouvian tax.
(c) is
measured in terms of Pigouvian dollars.
(d) ⇒moves production to the socially
optimal level of output
16. Which
method can help in obtaining a welfare improvement if externalites exist?
(a)
Pigouvian taxes
(b)
regulation
(c)
assigning property rights and permitting bargaining
(d) ⇒all of the above
17. Marginal
damages
(a) ⇒must always be considered in social
marginal costs.
(b) must not
be considered in social marginal costs.
(c) must
sometimes be considered in social marginal costs.
(d) have
nothing to do with social marginal costs.
18. In a
public goods context, it is difficult to measure impact on real income because
(a) public
goods are generally free to the public.
(b) they
make up a small percentage of total GDP.
(c) ⇒it is hard to measure how people
value the public good.
(d)
inflation decreases the value of the good.
19. A fully
funded Social Security plan requires
(a) negative
generational accounts
(b) no taxes
since current workers pay for current retirees.
(c) future
generations to pay for the benefits of current retirees
(d) ⇒retirees to be paid from investments
that have accumulated with interest over their working lives.
(e) all of
the above.
20. Social
insurance can be justified on the grounds of
(a) adverse
selection.
(b)
decision-making costs.
(c) income
distribution.
(d)
paternalism.
(e) ⇒all of the above.
21.
Statutory incidence of a tax deals with
(a) the
amount of revenue left over after taxes.
(b) the
amount of taxes paid after accounting for inflation.
(c) ⇒the person(s) legally responsible
for paying the tax.
(d) the
amount of tax revenue generated after a tax is imposed.
(e) none of
the above.
22. An ad
valorem tax is
(a) ⇒given as a proportion of the price.
(b) Latin
for “buyer beware.”
(c)
identical to a unit tax.
(d) computed
using the “inverse taxation rule.”
23. Lump sum
taxes
(a) create
no excess burden.
(b) are not
as widely used as other forms of taxation.
(c)
generally lack a sense of equity.
(d) ⇒all of the above.
(e) none of
the above.
24. If the
proceeds from a Pigouvian tax are used to income tax rates, then
efficiency
in both markets.
(a)
increase; increases
(b) reduce;
reduces
(c)
increase; reduces
(d) ⇒reduce; increases
(e) none of
the above
25. “For
goods that are unrelated in consumption, efficiency requires that tax rates be
inversely proportional to elasticities.” This is the definition of
(a) the
benefits-received principle.
(b) ⇒the Ramsey Rule.
(c) the
second best principle.
(d) the
inverse elasticity rule.
(e) horizontal equity
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