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Introduction
Definition
Tax, is a fee levied by an authority of a particular place, to the inhabitants of that
geographical region. Tax is normally settled in monetary terms, though in some circumstances, it
may be settled in terms of labour, paid labour. It is worth noting that taxes are not paid by
volition of the people or corporations in which it has been imposed, but rather, it is a mandatory
financial burden, such that failure to pay is a criminal offence, punishable by law.
Tax rate
Taxes are usually expressed as a percentage, and this percentage charged is referred to as
the tax rate. This percentage may be charged on the personal income of an individual, the income
of a corporation, goods imported, goods sold to final consumers, manufactured goods, in roads
(toll stations), and in many other forms and places. This rate will vary with varying
administrators of the tax. Two expressions used when talking about tax rate are, the effective
rate, and the marginal rate. The effective rate is the fraction of the total amount of the tax paid, to
the total amount that the tax rate is applied. The marginal rate, is the tax rate that is paid on the
additional one unit of the currency being used, say the dollar.
Purpose of taxation
Governments will impose taxes because of various purposes; to raise money to meet its
budget, to finance wars in which the government is involved in, to try and discourage some
trends or externalities, for example, cigarette tax is imposed to discourage smoking while carbon
tax is imposed to discourage pollution of the environment. Some taxes are imposed to protect
domestic industries from competition, and this practice is most common in less developed and
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developing economies. The money raised from taxation may be used for development projects in
the country, as well as settling of the external debt, also in the funding of the welfare of the
society, and recreational facilities. The purpose of taxation can therefore be classified in four
main categories; revenue, where taxes are imposed to raise money for the government,
redistribution, where the government attempts to transfer wealth from the haves, to the have-
nots, in the society. Reprising, which is done to try and discourage externalities, and
representation, which is historically, more of a bargain between rulers and subjects, where rulers
tax the subjects, and the rulers have in turn, to be accountable to the subjects.
Types of taxes
There are two broad classifications of taxes: tax may be direct, or indirect. Direct taxes
target the individual traits of the tax payer, an example is the income tax. Indirect taxes are
imposed as wholesome and do not target the individual characteristics of the tax payer. The
following are some common kinds of taxes;
Income tax
This is levied on corporations and on the income of individuals. On corporations, it will
be levied on the net profits, gross profits, or other income of the corporation, and is usually
affected by accounting principles. Some corporations however do not pay taxes. On personal
income, income tax is charged on the gross income of the individual, as well as other incomes
the individual may raise. It is paid at the conclusion of the year, or financial year for the case of
corporations. Some individuals may overpay, and thus may be a refunded by the government, at
the end of the year.
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There are many other taxes imposed on various sources of income for different groups and
corporations; social security contributions, capital gains tax, taxes on property, tax on payroll,
inheritance tax, expatriations tax, transfer tax and wealth tax. There are also taxes on goods and
services, and this include value added tax (VAT ), and sales tax.
Value added tax (VAT )
This is one form of taxes on goods and services. This is imposed on every level of
production, through to distribution to the final consumer, where value is added to the product or
service. An example may be that of a manufacturer who imports raw materials for his business,
he will then pay the value added tax on his purchase price, and give that amount to the
government. He will then convert the raw materials into some product, which he will sell to a
distributor, or a consumer of his product, which may be another manufacturer. This, he will sell
at a higher price, and collect the VAT on that sale. He will, however, remit to the government, an
amount that is only the excess of his cost price, thus, only the amount related to the value added,
before selling his product. This process will continue upto the final retail consumer, who will be
unable to recover his amount of VAT paid.
SALES TAX
Sales tax is a kind of tax that is paid by a consumer of goods, at the point of purchase of
the goods, or service. Sales tax is usually put as a separate line item at the base of the receipt of
purchase that one has made, and is determined by subjecting purchases to a certain percentage,
authorized by the relevant tax authority, or the tax laws of the administering authority, to the
total price of the taxable goods or services purchased by the consumer. The administering
authority may also determine whether the sales tax is included in the price of the commodity or
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service, or is calculated separately after the commodity or service has been purchased. The sales
tax will then be collected from the buyer, by the seller, who will then remit the amount to the
relevant tax administration authority. Sales tax is most effectively administered than other forms
of taxes, because it is difficult to evade, it is easily calculated, and it is easy to collect.
Sales tax is thought to have been started as early as 2000BC, if the depictions on the
walls of Egyptian tombs, is anything to be believed. In Greece, sales tax is reported to have been
paid on the sale of 16 slaves, in 415BC. The roman emperor, Augustus, also collected sales tax,
at around 6AD, which was to be used to fund his army. This tax was later abolished by Caliglus.
In the United States of America, the earliest form of tax was in 1791, although it was not a
general sales tax. This was an excise tax, imposed on whiskey. This was so unpopular, and it
thus gave rise to the whiskey rebellion, in 1794. In the 19th century, the United States enacted
excise taxes on so many commodities that it appeared as though it was charging sales tax. In
1930, Kentucky and Mississippi enacted the first general sales taxes, and soon after, many other
states followed suit. Most recently, the health care Act of 2010 selectively imposed a 10% sales
tax on indoor tanning services.
SALES TAX AND ELASTICITY OF DEMAND AND SUPPLY
Elasticity is the amount by which quantity demanded, responds to changes in the factors
affecting. The most common looked at factors in this regard are; price, closely related goods, and
income. Elasticity of demand, is therefore the amount by which quantity demanded, reacts to a
change in price of the commodity. Elasticity of supply on the other hand, is the amount by which
quantity supplied, responds to the change in the price of the commodity. The effect of a sales tax
(one that is included in the selling price), will be to raise the price of a commodity or service.
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Given that sales tax is imposed selectively, consumers may switch to other goods, and therefore
making the sales tax ineffective in raising revenue for the administering authority. The same may
apply on the part of producers. The term used to describe how the tax burden is shared between
market participants, is tax incidence. The market participant who has the most inelastic curve,
will bear the most burden.
Example
From the graph, the original equilibrium is at point A. The imposition of tax, say of $1 causes the
supply curve to shift to the left, thus reducing the supply. The new equilibrium is at point B,
where the price is $ 2.60, and the quantity is lower than the quantity at the initial equilibrium
(without tax). The supplier thus receives $1.60. This means that he pays a tax of $40 cents, and
the consumers bear the rest, $60 cents. Triangle ABC represents the dead weight loss as a result
of imposition of the tax. The formula used to calculate the tax burden that is borne by either the
supplier or the consumer, is called the pass-through fraction, which for consumers is calculated
as follows:
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Pass-through fraction for consumers =
For suppliers, Pass-through fraction =
Where: PES- price elasticity of supply
PED- Price elasticity of demand.
This fraction will give the percentage of the imposed tax, which either party will bear. If the
demand curve is elastic relative to the supply curve, then the supplier will bear a large percentage
of the imposed tax, and vice versa.
Sales tax in Canada
Canada applies three types of sales tax. There is the provincial sales tax (PST), which is levied
by the different provinces, the goods and services tax (GST), which is levied by the federal
government, and the harmonized sales tax (HST), which is a combined and blended tax of the
PST and GST, that is used in several provinces in Canada. A combination of these taxes may be
applied in one province, for example, GST and PST, or only one tax, for example, HST. The
goods to which the taxes are imposed on, also vary with the different provinces, and also the tax
rates applied also vary.
Products subjected to sales tax in Canada
Sales tax is imposed on many products in Canada. Some products are, however, zero rated, or tax
exempt. Products such as groceries and milk, are zero rated, while services such as child day care
services (for less than 24 hours) are exempt. Three examples of taxable products in Canada are;
soft drinks, clothing and footwear, and potato chips.
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Soft drinks
When sales tax is imposed on all soft drinks, the consumers will bear the most burden of
the tax. Milk is a zero rated product, yet studies still show that the demand for soft drinks is
inelastic. The demand curve for soft drinks is more inelastic relative to its supply curve, and
therefore, through the pass-through fraction, consumers will bear the most burden of the tax.
Clothes and footwear
There is no substitute for clothes and footwear, for Canadians. The demand curve for
clothes and footwear is almost perfectly inelastic. If a tax is imposed, producers will simply pass
the bulk of this tax to consumers, by raising the prices.
Potato chips
If a sales tax is imposed on potato chips, the suppliers will bear the most burden of the
tax imposed. Potato chips has so many substitutes in the snack industry, if a tax was imposed on
potato chips, consumers will shift from consuming potato chips, and move to other snacks, for
example, corn chips.
Conclusion
Sales tax is regarded as the most effective form of taxation, as it is easy to administer,
and calculate. Some, however, say that sales tax has a regressive effect on sales. But this will
clearly depend on the elasticity of the affected commodity.
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References
Business Development Centre. What Is GST/ HST TAX? Retrieved from http://www.gst-
tax.com/GST/About_GST_Tax.htm
Canada Revenue Agency, (2011). Exempt goods and services. Retrieved from http://www.cra-
arc.gc.ca/tx/bsnss/tpcs/gst-tps/gnrl/txbl/xmptgds-eng.html
Euromonitor International, (2009). Clothing and Footwear- Canada (PDF document). Retrieved
from
http://www.ryerson.ca/~rmichon/mkt731/reading/Industry%20Reports/Clothing%20and
%20Footwear.pdf
Frank, H. R. and Bernanke, B. S. (2001). PRINCIPLES OF MICRO-ECONOMICS. London,
McGraw-Hill
HIGHBEAM BUSINESS (2012). Potato chips, corn chips and other snacks. Retrieved from
http://business.highbeam.com/industry-reports/food/potato-chips-corn-chips-similar-
snacks
INVESTOPEDIA, (2012). CFA Level 1- Microeconomics: Effect of Taxes on Supply and
Demand. Retrieved from http://www.investopedia.com/exam-guide/cfa-level-
1/microeconomics/tax-effects.asp#axzz1nwoFlySS
Jay Kaplan, (2002). Elasticity. Retrieved from
http://spot.colorado.edu/~kaplan/econ2010/section4/section4-main.html
Koutsoyiannis, A. (1979). Modern Microeconomics. London, The Macmillan Press Ltd.
