What is proportional tax?

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A proportional tax is a system that imposes the same tax rate on all taxpayers regardless of their income level. This differs from the marginal or progressive tax system the United States government uses to levy incomes. Higher income means more taxes.

Proportional taxes are rare, but supporters believe they motivate people to work more.

Key insights

A proportional tax rate system levies the same tax rate percentage for all taxpayers, irrespective of their income level.

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Supporters of the proportional tax system believe it can stimulate economic growth by encouraging individuals to make more without paying more taxes.

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Critics of the proportional tax system argue that it’s regressive and places a heavy tax burden on low-income households.

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Understanding proportional tax

A proportional tax is a single-rated tax where all income earners are taxed equally without considering income level. Since the tax is charged the same for everyone (low, middle and high-income groups), it’s also known as the flax tax.

Advocates of proportional taxes believe that the flax tax system helps stimulate the economy by encouraging people to work hard and earn more, with no tax penalty for making more. In fact, an increased income lowers the impact of the tax burden.

David Brillant, an estate lawyer and the founder of Brillant Law Firm, believes proportional tax can affect economic behavior. “From my practice, I’ve observed that tax changes, such as the proposed modifications to capital gains and corporate taxes, can indeed influence economic behavior,” he said.

“For example, the anticipation of the increase in the long-term capital gains rate from 20% to 25% as discussed in 2021, and changes in unified credit against estate and gift taxes significantly impacted our clients' decision-making regarding investments and estate planning,” he continued.

This differs from the progressive tax system, where the tax burden increases as income increases. With that system, low-income earners can even apply for tax relief if offsetting the tax liability will cause a financial strain.

Also, supporters of the proportional tax system argue that businesses are likely to invest more under this system, increasing money circulation in the economy.

Proportional taxation also differs from the regressive tax system, which charges the same dollar amount to all taxpayers.

» MORE: What is tax relief?

How proportional tax works

Critics of the proportional tax system argue it’s a financial burden on low-income earners. Although everyone pays the same percentage of their taxable income, the tax rates impact taxpayers differently depending on their income level. Those with less income struggle more under this tax system.

For example, the U.S. imposes taxes on all retail items sold. The consumer pays the tax to the retailer, who then remits it to the government.

Sales tax is an example of a proportional tax because every consumer pays the same tax rate on a particular product regardless of their income level.

For example, two individuals, Mr. X and Mr. Y, purchase baby clothes of the same value. One article of clothing costs $150, and the sales tax rate is 8%. This means they both pay a tax of $12 (8% of $150):

  •  Mr. X earns $1200 per month, so with his income level, the $12 is 1% of his income (12/1200)x100).
  •  Mr. Y earns $12,000 per month, so with his income level, the $12 is 0.10% of his income (12/1200)x100).

Even if the two individuals pay the same tax rate, Mr. X, with a lower income, pays a higher percentage of his income than Mr. Y.

Pros and cons of proportional tax

Regardless of the proponents and staunch critics, the proportional tax system has its strengths and weaknesses. For some, the proportional tax system is considered fair as everyone pays the same tax rate. However, the proportional tax rate is rigid, and since every individual must pay the tax amount regardless of their income level, imposing high taxes will burden low-income earners.

Here are more pros and cons to consider:

Pros

  • Proportional taxes are easy to understand
  • Tax rate is fixed for all taxpayers
  • Fairness

Cons

  • Burden on low-income earners
  • Low government revenue
  • Political implications

» MORE: Tax credits

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FAQ

What is an example of proportional taxes?

A sales tax is an example of proportional tax because every consumer has to pay the same tax rate regardless of income.

How does a proportional tax affect the economy?

It can improve money circulation in the economy if more investors are willing to invest more. On the other hand, it can stagnate the economy if low-income earners have no purchasing power.

How does proportional tax compare to progressive and regressive tax systems?

A proportional tax rate levies the same percentage of tax on all income earners, while a regressive tax system levies the same dollar amount to all tax individuals. The progressive tax system levies an individual based on their income level - the higher the income, the higher the tax burden.

Bottom line

The proportional tax system charges everyone the same percentage of their income, and it’s used in different countries worldwide. Although this tax system is easy to understand, it can be regressive, as it significantly affects low-income earners. It can also harm the economy and have political implications in a country.

Policymakers must consider the advantages and disadvantages of a tax system before implementing it. An effective tax system should be fair and efficient, allowing the government to generate enough revenue for its projects.


Article sources

ConsumerAffairs writers primarily rely on government data, industry experts and original research from other reputable publications to inform their work. Specific sources for this article include:

  1. IRS, “Comparing Regressive, Progressive, and Proportional taxes.” Accessed March 11, 2024.
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