Advantages Of Indirect Tax
Indirect taxes are mostly taxes on spending, which is usually in the supply chain transferred to the consumer as part of the price of a product. As a result, the consumer ends up paying the tax by paying more for the good or service. Examples of indirect taxes could be VAT and a number of excise duties on alcohol, tobacco and oil. On the other hand, direct taxes are taxes levied directly on the income of an organization or individual. It is completely different to indirect taxes as it is just paid to one entity. Income tax, capital gains tax, inheritance tax and corporation tax are also categorized as direct tax.
It is argued that high level of indirect tax may create …show more content…
In fact, the revenue gained from those creating negative externalities can be used to compensate those who suffer from the spillover effects of economic transactions. For instance, the UK government has proposed that a large amount of tobacco duty (about an extra £300m a year) would be used for the improvement of the National Health Service (NHS), especially for the smoking-related diseases. In such way, the external costs of production and consumption was internalized by making the polluter pay for it.
Some may also concern the distributional effects caused by the indirect tax. The regressive nature of indirect taxes states that they can create the distribution of income more unequal as there is no equivalent in indirect taxation of the zero-rate band. For example, a tax on wine is paid by both rich and poor consumers. Poor consumers, to some extent, are using more amount of their incomes on wine, the tax on wine will be regressive, as well as the whole indirect tax …show more content…
Nevertheless, the flexibility of indirect tax is relatively high compared to direct tax. If the inflation is too high, it can be modified more easily than direct tax as direct tax can only be adjusted once a year at the time of Budget. Coupled with this, indirect taxes have a minor disincentive effect towards individual work versus leisure choices. As such, a higher indirect taxation can be introduced in order to allow a reduction in direct taxation. For example, the demand curve of those demerits good normally tends to be very inelastic, especially for smoking which is addictive. From the below graph, we can see that if the demand was price inelastic, more government revenue can be generated by indirect tax (tax revenue is the area ABP3P4) to fund government