CHAPTER+12+.+THE+DESIGN+OF+THE+TAX+SYSTEM+;)

Let's Start with a BIG SMILE :)


=INTRODUCTION:=  In this chapter, we will explore the finicial overview of the U.S. Government, the fundamental principles of taxations.

=Financial Overview of the US Government: = = =  Just how much money is the us government creating as income through taxes? The chart below will help one understand the among of revenue the federal, state and local governments create in income from the GDP(the total income in the economy).

The United States tax burden is actually relatively low compared to most European countries but still remains high on the list. Usually tax burden follows a patter of increasing tax burden with an increase in the country's wealth. Now, let us look at the different types of finances in each part of the government.

=THE FEDERAL GOVERNMENT: = = =  Receipts: The figure below shows the receipts of the federal government in 2004. Total receipts equaled to 1.88 trillion dollars. This is the largest source of revenue for the federal government. Every April 15th, American families fill out tax forms and determine how much income tax it owes to the government. The family reports all the income earned in the year and the family's tax liability is base on the total income of the family.

However, the tax liability is not only based on proportionality to the income. Instead, taxable income is based on total income minus number of dependents, like children, minus deductible expenses, and then is calculated with the numbers in the chart below.



The table presents the __marginal tax rate__, which is tax rate applied to each dollar of income. The more income rises, the higher percentage of their income is paid by the families.

The next most important income for the federal government are the payroll taxes . A payroll taxes is a tax on the wages that a firm pay its workers. In the chart for receipts above, it falls along the category of social insurance costs, because revenue from these are usually marked for social security and medicare.

After that, there is the corporate insurance tax . A corporation is a business that is set up as a separate legal entity. The government taxes each corporation based on profit.

Finally, the last taxes marked in other include, excise taxes  such as gasoline, cigarettes, and alcoholand other small items such as custom duties.

Spending: The chart below shows how much money the federal government spent in the year of 2004. Total spending was near 2.29 trillion. Most of this money is spend on social security which are transfer payments for the elderly. Then is national defense, which pays for military personnel and military equipment. third is income security which includes programs such as welfare and the food stamp program. Then is health care programs, net interest for banks, then the others, which include the federal court system, space program, farm-support, and government salaries.



STATE AND LOCAL GOVERNMENT:

Receipts: The local government collects money through these different taxes: sales, property, individual, corporate income, federal government, and others(which includes license, tolls, and fares). Chart below shows just how much:



=<span style="font-family: 'Comic Sans MS',cursive;"> Spending: = =<span style="font-family: 'Comic Sans MS',cursive;"> = <span style="font-family: 'Comic Sans MS',cursive;"> The local and state government use their tax dollars on these topics: education, public welfare, highways, and other which includes libraries, police, garbage removal, fire protection, parks, and snow removal.



=<span style="font-family: 'Comic Sans MS',cursive;"> Taxes and Efficiency: = =<span style="font-family: 'Comic Sans MS',cursive;"> = <span style="font-family: 'Comic Sans MS',cursive;"> The aim of a good tax system is t raise revenue for the government while being efficient and equitable. A good designed tax policy avoids or minimizes a deadweight losses that result when taxes distort the decisions that people make and the administrative burdens that taxpayers bear as they comply with the tax laws. Thus an efficient tax system imposes small deadweight losses and small administrative burdens.

=<span style="font-family: 'Comic Sans MS',cursive;"> Deadweight losses: = =<span style="font-family: 'Comic Sans MS',cursive;"> = <span style="font-family: 'Comic Sans MS',cursive;"> Because taxes distort incentives, they have deadweight losses. the deadweight losses do not come from the person who pays for the tax, but instead from the person who doesn't pay for the tax. When tax raises the price of a good, the buyer is worse off, but there is no offsetting revenue to the government.

=<span style="font-family: 'Comic Sans MS',cursive;"> Administrative Burden: = =<span style="font-family: 'Comic Sans MS',cursive;"> = <span style="font-family: 'Comic Sans MS',cursive;"> The burden of the time spent filling out forms and keeping records for tax purposes and the resources the government has to use to enforce the tax laws. Thus, many people hire tax lawyers to help them with taxes. Through complex tax laws, legal tax avoidance happens, usually through loopholes through the laws.

In some cases, loopholes are congressional mistakes, form ambiguities or omissions in the tax laws. But more often, it is because congress has chosen to give special treatment to certain types of behavior. But the resources devoted to complying with tax laws a re a type of dead weight loss. Thus, the administrative burden of the tax system can be reduced by simplifying tax laws, yet it is much too politically difficult.

=<span style="font-family: 'Comic Sans MS',cursive;"> Marginal Tax Rates versus Average Tax Rates: = =<span style="font-family: 'Comic Sans MS',cursive;"> = <span style="font-family: 'Comic Sans MS',cursive;"> When talking about tax rates, there are 2 important types of taxes: marginal tax rates and average tax rates. The average tax rate is total taxes paid divided by the total income. The marginal tax rate is the extra taxes paid on an addition dollar of income. If you are trying to gauge the sacrifices made by a taxpayer, the average tax rate is more appropriate because it measures the fraction of income paid in taxes. However, if you are trying to gauge how much the tax system distorts incentives, the marginal tax rate is more important. So, the most important tax rate that determines deadweight loss is the marginal tax rate.

=<span style="font-family: 'Comic Sans MS',cursive;"> Lump Sum Tax: = =<span style="font-family: 'Comic Sans MS',cursive;"> = <span style="font-family: 'Comic Sans MS',cursive;"> A lump sum tax is a tax that imposes the same amount on everyone, no matter how much that person earns. This type of tax is radically different from marginal and average tax rates, which makes it the most efficient tax possible. It does not distort incentives and does not cause deadweight losses. however, the lump sum tax would be seen as unfair, because the same amount of money is being taken from the poor and the rich.

=<span style="font-family: 'Comic Sans MS',cursive;"> The Benefits Principle: = =<span style="font-family: 'Comic Sans MS',cursive;"> = <span style="font-family: 'Comic Sans MS',cursive;">the benefits principle states that people should pay taxes based on the benefits they receive from government services. this makes public goods similar to private goods. This principle can be used to argue that wealth citizens should pay more taxes. This is because the wealthy benefit more form public services such as the police and defense. They also claim since the wealthy have more money to spend, they should be the one to pay more for these programs.

=<span style="font-family: 'Comic Sans MS',cursive;"> The Ability to Pay Principle: = =<span style="font-family: 'Comic Sans MS',cursive;"> = <span style="font-family: 'Comic Sans MS',cursive;"> The ability to pay principle states that taxes should be levied on a person accodring to how well that person can shoulder the burden.This is used to make people pay more for the higher income they have. this leades to 2 corollary notions of equity: vertical and horizontal equity. Vertical Equity states that taxpayers with higher ability to pay tases shouldcontribute a larger amount. Horizontal equity states that taxpayers with similar abilities to pay should contribute the same amount.

=<span style="font-family: 'Comic Sans MS',cursive;"> Vertical Equity: = =<span style="font-family: 'Comic Sans MS',cursive;"> = <span style="font-family: 'Comic Sans MS',cursive;"> If taxes are based on ability to pay, then obviously the rich should pay more than the poor. But exactly how much more should the rich pay? The 3 systems of tax are proportional, regressive and progressive. Proportional taxes make all pay he same fraction, regressive makes high income pay a smaller fraction and progressive allows high income taxpayers pay a larger fraction of their income. From these 3 there is no obvious answer to which one is the most fair, for equity is in the eye of the beholder.

=<span style="font-family: 'Comic Sans MS',cursive;"> Horizontal Equity: = =<span style="font-family: 'Comic Sans MS',cursive;"> = <span style="font-family: 'Comic Sans MS',cursive;"> If taxes are based on ability to pay, then similar tax payers should pay similar amounts. To evaluate whether a tax code is horizontally equitable, a person needs to determine the differences are relevant for a family's ability to pay. In practice, tax system is filled with special provisions that alter a family's based on its circumstances.

=<span style="font-family: 'Comic Sans MS',cursive;"> Tax Incidence and Tax Equity: = =<span style="font-family: 'Comic Sans MS',cursive;"> = <span style="font-family: 'Comic Sans MS',cursive;"> Tax Incidence, is the study of who bears the burden of taxes and is central to evaluating tax equity. Because taxes alter supply and demand they alter equilibrium prices. Many discussion of tax equity ignore indirect effects, which economists mockingly call the flypaper theory. With this theory,the burden of a tax sticks where ever it first lands.

=<span style="font-family: 'Comic Sans MS',cursive;"> In conclusion... = =<span style="font-family: 'Comic Sans MS',cursive;"> = <span style="font-family: 'Comic Sans MS',cursive;">Everyone agrees that equity and efficiency are the 2 most important goals in the tax system. However, these 2 goals conflict from time to timeand people disagree about how tax poliy is reached because of these 2 goals. Economics can not deteremine the best way to blance the goals of efficiency an equity. The issue requires some political philosophy as well as economics.

=<span style="font-family: 'Comic Sans MS',cursive;"> Key Terms/Concepts that you need to know = <span style="font-family: 'Comic Sans MS',cursive;"> **-budget deficit:** an excess of government spending over government reciepts
 * -budget surplus:** an excess of government reciepts ofver goverment spending
 * -average tax rate:** total taxes paid divided by total income
 * -marginal tax rate:** the extra taxes paid on an additional dollar of income
 * -lump-sum tax:** a tax that is the same amount for every person
 * -benefits principle:** the idea that people should pay taxes based on the benefits they receieve from government services
 * -abiltiy-to-pay principle:** the idea that taxes should be levied on a person based on how well that person can shoulder the burden
 * -vertical equity:** the idea that taxpayers with a greater abilty to pay should pay taxes in larger amounts
 * -horizontal equity:** the idea tht taxpayers with similar abilities to pay taxes should pay the same amount
 * -proprtional tax:** a tax for which the high income and low income pay the same fraction
 * -regressive tax:** a tax where the high income pay a smaller fraction than the lower income
 * -Progressive tax:** a tax which high income taxpayers pay a larger fraction of their income than do low-income taxpayers

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