Sources of public finance – Taxes (Direct & Indirect)
As discussed above functions of modern Governments are very important and extensive which require heavy expenditure. Govt. has to undertake important functions like defense (internal and external), Social welfare, education, health, industry, agriculture. For all of these a huge amount of funds is required. There are four main sources from which this fund or income is obtained, they are.
Taxes, direct & indirect.
Process, earnings of state’s commercial and industrial undertaking.
Fees and assessments.
Similarly Govt. can raise funds through fines, penalties, gifts etc.
a) Taxes: It has been defined as a compulsory contribution of the wealth of a person or a body of persons for the services of the public powers.
Thus it implies:
i) Tax is compulsory payment.
ii) A particular tax is not a price for any particular service performed by the State (Govt.) One can not refuse to pay the tax on the ground that he does not use a service. Govt. does not promise to provide a specific in return for the payment of a particular tax.
Tax may be – i) Direct ii) Indirect.
1) Direct tax: It is generally imposed on income. E.g. Income tax It is really paid by a person on whom it is legally imposed.
2) Indirect tax: The taxes on goods are indirect taxes. Indirect tax is imposed on one person but it is paid partly or wholly by another.
Suppose a tax is imposed on house owners. Being it is compulsory they have to pay it or in other words the impact of the tax on them. Here impact means burden. But owners will not pay it quietly, they will raise house rent charges and tenants have to bear it. But tenants will try to obtain this burden from their offices where they are working. If they get it the employer will increase the price of his product to recoup the burden. Thus, finally the weight of the tax or “incidence” falls on people.
Thus impact means burden which is shifted to another and who is bearing it finally is known a incidence Therefore Shifting starts with impacts and ends in incidence.
The direct tax is one whose impact and incidence are on the same person i.e. tax payer is also tax bearer.
In case of indirect tax, the impact and incidence are on different persons, i.e. there is shifting of tax.
Advantages of Direct taxes:
1) Equitable: Equality of sacrifice can be attained through progression.
2) Economical: Cost of collection is low as it is generally collected at source.
3) Certain: Both tax payer and authorities know how much tax is there. Hence the amount of revenue is certain.
4) Elastic: Suddenly tax can be increased and in emergency period funds can be increased eg. Death duties
Disadvantages to Direct tax:
1) Inconvenient: It pinches the tax payer as a lum-sum amount is taken out of his pocket and hence it is inconvenient.
2) Evadable: The tax payer (assessee) can submit a false return of income and thus avoid the tax.
3) Arbitrary: If taxes are progressive, the rate of progression is arbitrary and if it is proportional. The poor person has to bear more tax. Thus, both are bad.
4) Disincentive: If taxes are too heavy, it will result in discourage saving and investment.
Advantages of Indirect taxes :
1) The poor can contribute: They are the only means of reaching the poor.
2) Convenient: It is convenient both, for tax payer and state. Tax payers do not feel much burden, as these taxes are paid in small amount and secondly when purchases are there tax payment will be there.
3) Broad based: These taxes are spread over wide range. Large number of population can be covered.
4) Easy collection: Automatically taxes collected easily.
5) Non-evadable: Means non avoidable.
6) Elastic: If imposed on necessaries it will yield huge amount.
7) Equitable: Irrespective of income group, tax is collected from all.
8) Check harmful consumption: The harmful commodities like tobacco drugs are heavily taxed to check the consumption.
Disadvantages of indirect tax:
1) Regressive: Rich & poor both have to pay a equal price and hence poor are more suffered than rich.
2) Uncertain: These taxes are collected in the form of prices of the commodity. If that commodity is not purchased tax amount will be reduced. Hence it is uncertain.
3) Uneconomical: For collecting the tax, large administrative staff is required.
4) Harmful to industry: If more taxation is there, the rise in prices will occur which result in less purchase and thus it is harmful to the industry involved in production.