What is ‘Ability-To-Pay Taxation’
Ability-to-pay taxation is a progressive taxation principle that maintains that taxes should be levied according a taxpayer’s ability to pay. This progressive taxation approach places an increased tax burden on individuals, partnerships, companies, corporations, trusts and certain estates with higher incomes. The theory is that individuals who earn more money can afford to pay more in taxes.
Explaining ‘Ability-To-Pay Taxation’
Ability-to-pay taxation requires higher-earning individuals to pay a greater percentage of their income towards taxes, compared to individuals with lower incomes. The tax rate increases as a percentage along with income. For example, as of 2016, in the United States, taxable income up to $9,275 incurs a 10% income tax, while earnings over $415,050 face a 39.6% income tax rate. Earnings between those amounts face tax rates as set by income brackets.
Advantages of Ability-to-Pay Taxation
Advocates of ability-to-pay taxation argue that it allows the people with the most resources the chance to pool together to fund services all people and businesses rely on, either indirectly or directly, such as snow removal, schools, scientific research, police and libraries. Additionally, using ability-to-pay taxation has the potential to increase a government’s revenues. Arguably, if a government uses a flat tax instead of the ability-to-pay taxation, it has to use relatively low tax rates to accommodate the low-wage earners. If it applies those same rates to everyone, it loses revenue compared to taxing higher wage earners at a higher rate. Additionally, as low-wage earners are more likely to spend all of their money, allowing them to keep a larger percentage of it helps to stimulate the economy.
Disadvantages of Ability-to-Pay Taxation
Critics of ability-to-pay taxation state that progressive tax systems reduce the incentive to earn more money and penalize those whose hard work and ingenuity have helped them earn higher incomes. These critics claim ability-to-pay taxation is not fair for wealthy individuals.
Difference Between Ability-to-Pay Taxation and Benefit-Received Taxation
Rather than basing taxes on what an individual can afford to pay, benefit-received taxation levies taxes on the people who receive the benefits of the tax. For example, the government earmarks taxes collected from gasoline sales for roads. Essentially, when drivers pay tax on gasoline, they receive the benefit of well-maintained roads. Conversely, people who don’t drive also don’t have to buy gas, so they don’t end up paying that tax.
How the Internal Revenue Service Determines Ability to Pay
The phrase “ability to pay” refers to a taxation principle that supports progressive taxation systems. It does not necessarily ensure that an individual can afford his taxes, as affordability can be subjective. However, lawmakers work on modifying the tax code or revising deductions and credits to make taxes more affordable.
Further Reading
- A re-examination of the use of ability to pay taxes by local governments – www.sciencedirect.com [PDF]
- The ability-to-pay theory of taxation – www.jstor.org [PDF]
- The progressivity of health-care financing in Kenya – academic.oup.com [PDF]
- Fairness in international taxation: the ability-to-pay case for taxing worldwide income – heinonline.org [PDF]
- Is the ability to pay principle ethically bankrupt? – papers.ssrn.com [PDF]
- Designing and forecasting the differentiated carbon tax scheme based on the principle of ability to pay – www.worldscientific.com [PDF]
- From ability to pay to concepts of equal sacrifice – www.sciencedirect.com [PDF]
