Rates of Income Tax: Proportional and Progressive Rate of Taxation in Indian

This article is written by Utkarsh Upadhyay of Jamia Millia of 1^st year, Intern under Legal Vidhiya

ABSTRACT

This legal research paper explores the two types of rates of income tax – proportional and progressive. The paper examines the theoretical basis of both types of taxation, analyzes their implementation and administration, and evaluates their economic and social impacts. The paper concludes that a progressive tax system is more equitable and efficient in reducing income inequality and promoting social welfare. However, a proportional tax system may be simpler and more conducive to economic growth, especially for countries with high levels of tax evasion and avoidance. The paper also considers the debate on optimal tax rates and the role of taxation in promoting economic development and government revenue. Overall, the paper contributes to the ongoing discussions on tax policy and its implications for individuals, businesses, and governments.

KEYWORDS

Income tax, proportional rate of taxation, progressive rate of taxation, flat tax, tax system, tax revenue, economic growth, income inequality, government revenue, tax evasion, tax avoidance, tax rates

Introduction:

Income tax is one of the primary sources of revenue for governments around the world. It is a direct tax levied on the income of individuals, companies, and other entities. The rates of income tax can be levied through two methods – a proportional rate of taxation or a progressive rate of taxation. This research paper aims to analyze the two methods of taxation, their advantages and disadvantages, and their impact on government revenue, fairness, and incentives to work harder and earn more.

Income tax is an important source of revenue for the Indian government. The tax is levied on the income of individuals and businesses, and the rate of tax depends on the amount of income earned. In India, there are two types of rates of income tax – proportional and progressive. (John, 2021)

Proportional Rate of Taxation:

A proportional rate of taxation, also known as a flat tax, means that every individual pays the same percentage of tax regardless of their income. For example, if the flat tax rate is 10%, then a person earning $20,000 per year will pay $2,000 in taxes, while a person earning $200,000 per year will pay $20,000 in taxes.

A proportional rate of taxation, also known as a flat tax, is a tax where the rate of tax is the same for all levels of income. In India, a proportional rate of taxation is applied to companies, with a flat rate of tax of 25% on their income

Advantages of Proportional Rate of Taxation:

One of the primary advantages of a proportional rate of taxation is that it is simple and easy to understand. A flat tax also encourages people to work harder and earn more because they will not be penalized with a higher tax rate. This is because a flat tax does not discourage work or investment, which is beneficial for economic growth.

Another advantage of a flat tax is that it reduces the administrative burden of tax collection. A flat tax simplifies the tax system, making it easier to administer and reducing the need for complex tax regulations.

Disadvantages of Proportional Rate of Taxation:

One of the biggest disadvantages of a proportional rate of taxation is that it is regressive. A flat tax places a higher burden on low-income earners as they have to pay the same percentage of tax as high-income earners. This means that a low-income earner will have to pay a higher percentage of their income in tax compared to a high-income earner. This reduces the fairness of the tax system as low-income earners are taxed at the same rate as high-income earners.

Another disadvantage of a flat tax is that it reduces government revenue. High-income earners will pay less tax compared to the progressive rate of taxation, reducing the government’s ability to fund public expenditure.

Progressive Rate of Taxation:

A progressive rate of taxation is a tax where the rate of tax increases with the level of income. In India, a progressive rate of taxation is applied to individuals, with different tax rates for different levels of income.

A progressive rate of taxation means that individuals with higher incomes pay a higher percentage of their income in taxes. The progressive rate of taxation is based on the principle of the ability to pay. The more an individual earns, the higher their ability to pay taxes. Under a progressive tax system, the tax rate increases as income increases. For example, if the tax rate is 10% for income up to $50,000 and 20% for income above $50,000, then a person earning $60,000 will pay $5,000 in taxes (10% on the first $50,000 and 20% on the remaining $10,000).

Advantages of Progressive Rate of Taxation:

One of the primary advantages of a progressive rate of taxation is that it is fairer than a flat tax. A progressive tax system places a higher burden on high-income earners, who have a greater ability to pay taxes. This means that the tax system is more equitable and progressive as it reduces the income gap between low-income and high-income earners.

Another advantage of a progressive tax system is that it provides the government with a stable source of revenue. High-income earners pay a higher percentage of their income in taxes, which means that the government has a more consistent and reliable source of revenue.

Disadvantages of Progressive Rate of Taxation:

One of the biggest disadvantages of a progressive rate of taxation is that it can reduce the incentive to work harder and earn more. High-income earners may feel discouraged from working harder if they know that they will be taxed at a higher rate for their increased income. This can lead to a reduction in economic growth as people may not have the same motivation to work harder and increase their income.

Another disadvantage of a progressive rate of taxation is that it can lead to tax evasion and avoidance. High-income earners may try to find ways to reduce their taxable income or hide their assets to avoid paying higher taxes. This can reduce government revenue and increase the burden on low-income earners. (Kakkar, 2016)

Comparison of Proportional and Progressive Rate of Taxation:

The choice between a proportional rate of taxation and a progressive rate of taxation ultimately depends on the priorities of the government and the society it serves. A flat tax may be more beneficial for countries with a small and homogeneous population, as it simplifies the tax system and encourages economic growth. However, for countries with high levels of income inequality, a progressive tax system may be more appropriate as it reduces the income gap between low-income and high-income earners.

A flat tax may also be suitable for countries with a low level of government expenditure, as it reduces the administrative burden of tax collection and provides a stable source of revenue. However, for countries with high levels of government expenditure, a progressive tax system may be more effective in providing a sufficient source of revenue.

In India, the choice between a proportional rate of taxation and a progressive rate of taxation ultimately depends on the priorities of the government and the society it serves. A flat tax may be more beneficial for India, as it simplifies the tax system and encourages economic growth. However, for a country with high levels of income inequality like India, a progressive tax system may be more appropriate as it reduces the income gap between low-income and high-income earners.

India currently follows a progressive tax system, with different tax rates for different levels of income. The tax rates range from 0% to 30%, with the highest rate of tax applicable to individuals earning over INR 10 million per annum. However, there have been proposals to introduce a flat tax in India, which would simplify the tax system and reduce the administrative burden of tax collection.

Table of comparison of proportional tax v. Progressive Tax

Characteristic	Proportional Tax	Progressive Tax
Definition	A tax system in which the tax rate is the same for all taxpayers, regardless of income level.	A tax system in which the tax rate increases as income increases.
Tax Rate Structure	Flat rate	Marginal tax rate
Calculation of Tax Rate	One tax rate applies to all income levels. For example, a 10% tax rate applies to a person earning Rs. 50,000 and to a person earning Rs. 5,00,000.	Taxpayers are subject to different tax rates on different portions of their income. For example, a taxpayer may pay 10% on the first Rs. 2,50,000 of income, 20% on the next Rs. 2,50,000, and 30% on any income above Rs. 5,00,000.
Tax Burden	The same percentage of income for all taxpayers.	Higher percentage of income for higher-income taxpayers, and lower percentage for lower-income taxpayers.
Impact on Low-Income	Can be regressive, meaning lower-income taxpayers pay a higher percentage of their income in taxes than higher-income taxpayers.	Generally less burdensome for lower-income taxpayers. Progressive tax systems often include deductions, exemptions, and credits that reduce the tax burden for lower-income taxpayers.
Impact on High-Income	Less burden than progressive tax systems, as high-income taxpayers pay the same percentage of their income as low-income taxpayers.	More burden than proportional tax systems, as high-income taxpayers pay a higher percentage of their income in taxes than low-income taxpayers.
Redistribution	Less effective at redistributing wealth, as everyone pays the same percentage of their income in taxes regardless of income level.	More effective at redistributing wealth, as high-income taxpayers pay a higher percentage of their income in taxes, which can be used to provide government programs and services to low-income taxpayers.
Economic Efficiency	Can discourage work and investment, as the same percentage of income is taxed regardless of effort or risk.	Can encourage work and investment, as the tax rate on additional income is lower than on previous income levels.
Political Implications	More popular among high-income earners, as they pay less in taxes than in a progressive tax system.	More popular among low- and middle-income earners, as they pay less in taxes than in a proportional tax system.

TAX POLICY AND IMPLICATIONS FOR INDIVIDUALS, BUSINESS,  AND GOVERNMENT IN INDIA

Tax policy has significant implications for individuals, businesses, and governments. For individuals, tax policies determine the amount of tax they pay on their income, which can have a direct impact on their disposable income and standard of living. High tax rates can reduce individual incentives to work and invest, while low tax rates can lead to insufficient government revenue and social services.

In India, tax policy has significant implications for individuals, businesses, and governments. The country’s tax system comprises several taxes, including income tax, corporate tax, goods and services tax (GST), and other indirect taxes.

For individuals, income tax is a major component of the tax system, and tax policies determine the amount of tax they pay on their income. The tax rates for individuals are progressive, with higher rates applied to higher income brackets. The tax policy aims to promote social equity and reduce income inequality by redistributing wealth from high-income earners to low-income earners.

For businesses, the tax policy affects their profitability, competitiveness, and investment decisions. Corporate tax rates in India are relatively high compared to other countries, which can limit the growth of businesses and discourage foreign investment. The government has recently announced a reduction in corporate tax rates to boost investment and economic growth.

The GST system, introduced in 2017, has also had significant implications for businesses in India. The GST aims to simplify the tax system by replacing several indirect taxes with a single tax. However, the implementation of the GST has faced several challenges, including the complex structure and compliance requirements, which can increase the administrative burden for businesses.

For governments, tax policies determine the level of revenue available for public spending on infrastructure, education, healthcare, and social welfare programs. The Indian government has introduced several tax policy reforms in recent years, including the reduction of corporate tax rates, simplification of the GST system, and digitalization of tax administration to increase tax compliance and revenue collection.

In conclusion, tax policy in India has significant implications for individuals, businesses, and governments. The country’s tax system is designed to promote social equity and reduce income inequality, but challenges remain in implementing effective tax policies that promote economic growth, competitiveness, and social welfare. The government’s ongoing efforts to reform the tax system are crucial to addressing these challenges and achieving sustainable economic development in India. (Ghosh, 2019)

SUGGESTIONS

• Comparative analysis of tax rates in India with other countries: This can include a comparison of tax rates, tax revenue, and economic growth to evaluate the effectiveness of the Indian tax system and identify areas for improvement.
• Impact of tax evasion and avoidance on the Indian economy: This can explore the causes and consequences of tax evasion and avoidance in India and evaluate the effectiveness of the government’s measures to tackle the issue.
• Impact of tax policy on income inequality and poverty in India: This can examine the relationship between tax policy and income distribution in India and evaluate the effectiveness of progressive taxation in reducing poverty and promoting social welfare.
• Analysis of tax policy reforms in India: This can explore the various tax policy reforms introduced by the Indian government in recent years, including the introduction of GST, reduction in corporate tax rates, and digitalization of tax administration, and evaluate their impact on the Indian economy.
• Evaluation of the optimal tax rates in India: This can analyze the debate on the optimal tax rates in India and evaluate the impact of different tax rates on economic growth, government revenue, and social welfare.
• Impact of tax policy on foreign investment in India: This can explore how tax policy affects foreign investment in India, including the impact of tax rates, tax incentives, and the overall tax environment on foreign investment.
• Analysis of tax compliance in India: This can examine the level of tax compliance in India, including the factors that contribute to non-compliance and the effectiveness of government measures to improve tax compliance.
• Impact of tax policy on small and medium-sized enterprises (SMEs) in India: This can explore how tax policy affects SMEs in India, including the impact of tax rates, tax incentives, and compliance requirements on the growth and development of SMEs.
• Evaluation of the effectiveness of tax administration in India: This can examine the effectiveness of tax administration in India, including the use of technology, the efficiency of tax collection, and the quality of taxpayer services.
• Impact of tax policy on the informal sector in India: This can explore how tax policy affects the informal sector in India, including the impact of tax rates, compliance requirements, and government measures to formalize the sector.

Conclusion:

In conclusion, both a proportional rate of taxation and a progressive rate of taxation have their advantages and disadvantages. A flat tax simplifies the tax system and encourages economic growth but is regressive and reduces government revenue. A progressive tax system reduces income inequality and provides a stable source of revenue, but it can reduce the incentive to work harder and increase tax evasion and avoidance. The choice between the two methods of taxation ultimately depends on the priorities of the government and the society it serves. A balanced approach that considers the country’s economic and social conditions may be the most effective in determining the appropriate method of taxation.

REFERENCES

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