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An economy is a system which attempts to solve the basic economic problem which is that human's demands are infinite whilst the economic resources are scare. Taxation, which influences the changes and growth in the level of aggregate demand (AD), and aggregate supply (AS), of any country, has a vitally important role in Fiscal Policy. Thus, the aim of this essay is to investigate whether the UK tax system is progressive, proportional or regressive. In this essay, you will be provided an understanding with the progressiveness and regressive respectively of the UK taxes, brief analysis of the tax system, and finally, some limitations of taxation in general.
In order to identify the characteristics of the UK tax system, we need firstly understand the basic information of taxes. As Sawyer (2001:75) states that, a tax, which is main source of revenue for the public sector, means a fee levied by a government on a product, income, or activity. And from the Free Dictionary website (2007), we can know that, the tax system is a system protected by legislation for assessing and colleting taxes. Anderton (2006:525) points out that, taxes are used in various ways by the government. Firstly, government uses the taxes levied on the taxpayers to pay for government expenditure, like the cost of building infrastructure facilities, national security programmes and what is more, in avoiding inflation, finance must be derived from taxation. Secondly, high taxes can reduce effectively the demand of some highly polluted goods, like Sport Utility Vehicles (SUVs) so as to correct market failure and externalities. Additionally, taxation can be used to influence the macro-economy as a whole in respect tat such taxes can increase social welfare and so on. Last but not the least, government may use taxes to redistribute income, as a consequence, the wealth of a society can be increased.
In fact, taxes are classified into two types based on the way a tax is levied: direct taxes and indirect taxes. A direct tax is a tax that charged directly on the taxpayers, like income tax, national insurance, etc. And an indirect tax is a tax upon a good or service which indirectly levied upon the taxpayers. (Anderton, 2006:525) On the other hand, taxes can also be classified into another three categories based on the characteristics: progressive taxes, which mean the higher the income is, the higher tax rate at which people pay; proportional taxes, which literally mean everyone pays the taxes at the same rate; and regressive taxes that higher income people pay the taxes at lower rates.
Moreover, there are three most representative taxes in the UK, they are Income tax, National Insurance Contribution (NIC) and Value added tax (VAT). Around 29.5 million people in the UK pay the Income tax, but not all income is subject to tax. Referring Table 3 in the Appendix, after the personal allowance of £2,150, which is called the staring band, people start to pay taxes at a rate of 10%. And there are two bands, which are the basic band of which the marginal tax rate is 22% and the higher band whose marginal tax rate is 40%. At each level, people pay taxes at different rates (Adam, et al, 2006). We can see that, Income tax matches the definition of a progressive tax perfectly, so that Income tax is a progressive tax. Additionally according to Adam et al (2006), if a person's weekly income is between £97 and £645, he will be able to pay at a highest NIC rate. Whereas, if the income is below £97 or higher than £645, people will pay NIC at relatively lower rates. Therefore, NIC is argued to be progressive. By using the same means of estimation, we can clearly find out the characteristics of VAT, which is regressive, and so do the other taxes.
In respect to the UK government revenue, the amounts of contribution of both progressive taxes and regressive taxes are almost equivalent. Figure 79.1 in the Appendix part indicates the information of government revenue from 2005 to the year of 2006. we can see from the chart that taxes like Income tax which are progressive have a total overall percentage of 47% amongst government revenue of that year and the percentage slightly outweighs that of the regressive taxes which are VAT, Excise duties, Business rates and Council tax, which amount to 31%. Even though there is a gap of 16% between the two categories of taxes, we can still say that, being considered as a whole, the UK tax system is slightly proportional (Anderton, 2006:531).
In order to judge the characteristics of a system as a whole, we need not only look at the present status but also the possible future trend of the tax system. The UK government has made many regulations to reduce Income taxes and increase VAT. Table 13 in the Appendix provides us with the information of the main reforms of different taxes in the UK. From Table 13, we can see that, progressive taxes, like Income tax and Corporation tax are cut down whilst regressive taxes, such as VAT and some other indirect taxes, are being increased. Therefore, in conformity to Table 1 in the Appendix, we can have a general view of the predicted UK government receipts of the year of 2006 to 2007. The difference between the total percentage of contribution to the government revenue of progressive taxes and that of regressive taxes will be remarkably reduced to 6%. Therefore, we can say that, the UK tax system is and will continue to be proportional.
However, there are some problems of taxation despite the benefits that taxes bring to the society. Firstly, high taxes like VAT and Excise duties on goods will cause a downward shift of the supply curve and a series of problems. For instance, if a manufacturer is less willing to produce more because of the high taxes, unemployment will exist in respect that some jobs will be no longer needed. Secondly, in some markets where are perfectly competitive, such as the petroleum sector, an introduction of tax will cause the marginal cost of the product to be less equal than anywhere else. Finally, people who have higher income pay taxes at a higher rate, consequently, more and more people will feel unequal and they will be disincentive at work.
In conclusion, taxes in the UK can be classified into different categories based on the ways of imposing and the characteristics of taxes. The UK tax system seems to be broadly proportional because of the present status of the UK tax system and the future trends it tends to approach. Furthermore, the proportion of government revenue from both progressive and regressive taxes is becoming more balanced. And comparing to the tax systems of the other countries, the UK tax system seems to be very typical. For example, even though the legislations and regulations between the UK and the US are slightly different, the tax system in the US looks much like that of the UK, which is also in the direction of less progressiveness on the way of being more proportional.