What Is a Regressive Tax?
A regressive tax is a tax applied uniformly, taking a larger percentage of income from low-income earners than from middle- and high-income earners. It is in opposition to a progressive tax, which takes a larger percentage from high-income earners. With a regressive tax, the tax burden decreases as income rises.
Some examples of a regressive tax include sales tax, gas tax, and payroll tax.
- A regressive tax is a type of tax that is assessed regardless of income, in which low- and high-income earners pay the same dollar amount.
- This kind of tax is a bigger burden on low-income earners than high-income earners, for whom the same dollar amount equates to a much larger percentage of total income earned.
- A regressive system differs from a progressive system, in which higher earners pay a higher percentage of income tax than lower earners.
- A regressive system also differs from a proportional system where each individual pays the same percentage of their income.
- In the U.S. and certain other developed nations, a progressive tax is applied to income, but other taxes are levied uniformly, such as sales tax and user fees.
Understanding Regressive Taxes
A regressive tax affects people with low incomes more severely than people with high incomes because it is applied uniformly to all situations, regardless of the taxpayer. While it may be fair in some instances to tax everyone at the same rate, it is seen as unjust in other cases. As such, most income tax systems employ a progressive schedule that taxes high-income earners at a higher percentage rate than low-income earners, while other types of taxes are uniformly applied.
Although the United States has a progressive taxation system when it comes to income tax, meaning higher income earners pay a higher percentage of taxes each year compared to those with a lower income, we do pay certain levies that are considered to be regressive taxes. Some of these include state sales taxes, user fees, and to some degree, property taxes.
A regressive tax system is more common in less developed countries, where there may be a greater number of people in the same income bracket, thus reducing the negative impact of the regressive tax.
Governments apply sales tax uniformly to all consumers based on what they buy. Even though the tax may be uniform (such as a 7% sales tax), lower-income consumers are more affected.
For example, imagine two individuals each purchase $100 of clothing per week, and they each pay $7 in tax on their retail purchases. The first individual earns $2,000 per week, making the sales tax rate on her purchase 0.35% of income. In contrast, the other individual earns $320 per week, making her clothing sales tax 2.2% of income. In this case, although the tax is the same rate in both cases, the person with the lower income pays a higher percentage of income, making the tax regressive.
Excise taxes are taxes that are levied on specific goods such as tobacco, alcohol, gasoline, and luxury items. These taxes are often added to the price of the goods and are paid by the consumer at the point of sale.
If the excise tax is the same for everyone regardless of income, it can be considered regressive. This is especially true for products consumed by low-income individuals, as low-income earners are likely to spend a larger proportion of their income on the taxed goods than high-income earners. For example, excise taxes on cheap beer is regressive, especially considering how consumer demands may play a factor.
It's important to keep in mind that excise taxes can also be designed to be progressive. For example, if the tax rate on luxury items is higher than the tax rate on necessities like food or clothing, the tax would have a greater impact on high-income earners who are more likely to purchase luxury items. In this case, the tax is progressive because the low-income individual would likely never purchase the luxury good.
Much of the same regarding excises taxes can be said for tariffs. If tariffs are applied uniformly on all imported goods regardless of their price or the income of the people who buy them, they can be considered regressive taxes. This is because lower-income individuals tend to spend a larger proportion of their income on imported goods than higher-income households. Like before, this may depend on consumer preferences and may be progressive for tariffs placed on more luxurious goods.
User fees levied by the government are another form of regressive tax. These fees include admission to government-funded museums and state parks, costs for driver's licenses and identification cards, and toll fees for roads and bridges.
For example, if two families travel to the Grand Canyon National Park and pay a $30 admission fee, the family with the higher income pays a lower percentage of its income to access the park, while the family with the lower-income pays a higher percentage. Although the fee is the same amount, it constitutes a more significant burden on the family with the lower income, again making it a regressive tax.
Property taxes are fundamentally regressive because, if two individuals in the same tax jurisdiction live in properties with the same values, they pay the same amount of property tax, regardless of their incomes. However, they are not purely regressive in practice because they are based on the value of the property. Generally, it is thought that lower-income earners live in less expensive homes, thus partially indexing property taxes to income.
Often tossed around in debates about income tax, the phrase "flat tax" refers to a taxation system in which the government taxes all income at the same percentage regardless of earnings. Under a flat tax, there are no special deductions or credits. Rather, each person pays a set percentage on all income, making it a regressive tax. As a result, lower-income people pay effectively the same rate as higher-income earners instead of lower ones.
Payroll taxes may be considered regressive, as they are typically levied as a flat tax rate on wages and salaries up to a certain limit. This means that everyone, regardless of their income level, pays the same percentage of their income in payroll taxes.
In the United States, Social Security taxes are currently levied at a flat rate of 6.2% on wages and salaries up to $160,200 in 2023.This means that someone who earns $50,000 a year pays the same percentage of their income in payroll taxes as someone who earns $100,000 a year.
Taxes levied on products that are deemed to be harmful to society are called sin taxes. These are added to the prices of goods like alcohol and tobacco in order to dissuade people from using them. The Internal Revenue Service (IRS) considers these taxes to be regressive, because, once again, they are more burdensome to low-income earners rather than their high-income counterparts.
In theory, corporate taxes are regressive in that companies may be able to reduce their tax liability down to $0. If this is the case, some of the highest earning companies may be able to avoid all federal taxes.
Regressive, Progressive, and Proportional Taxes
Regressive, progressive, and proportional taxes are different types of tax systems that are used by governments to generate revenue. Each type of tax has a difference in how they are calculated and the people it affects (primarily depending on different income levels).
A regressive tax system is one in which the tax rate decreases as the taxpayer's income increases. A progressive tax system, on the other hand, is one in which the tax rate increases as the taxpayer's income increases. In a progressive tax system, people with higher incomes pay a higher percentage of their income in taxes than those with lower incomes. Examples of progressive taxes include income tax and estate tax.
The argument against progressive taxes is that individuals shouldn't be "penalized" for having higher income and pay for public benefit that a less wealthy individual may be more likely to utilize. This system may also disincentive innovation and capitalism as there is less motivation for success. The argument for progressive taxes is that individuals with lower incomes should not pay higher effective rates simply because they do not have the same income as somebody else.
These two contrasting tax systems meet in the middle with a proportional tax system. This tax is one where everyone pays the same amount in proportion to their income, regardless of that income level. Though individuals with higher incomes will pay higher proportional taxes in terms of dollars, every individual will pay the same percentage of their income. Some may argue this is a lose-lose situation, higher taxes are not collected from the wealthy nor are higher taxes collected from lower income individuals who may utilize more public services.
Does America Have a Regressive Tax System?
Certain aspects of taxes in the United States relate to a regressive tax system. Sales taxes, property taxes, and excises taxes on select goods are often regressive in the United States. However, there are other forms of taxes (i.e. see below) that are prevalent within America today.
What Taxes Are Not Considered Regressive?
Income taxes and estate taxes are among the most common types of progressive (non-regressive) types of taxes. Both have higher rates and higher tax liabilities for those with higher income. Be mindful that there are many ways individuals can reduce their tax liability. Therefore, though a higher earned may be in a higher tax bracket, they may also have ways to reduce their liability and pay less taxes (both dollar-wise and percent-wise) in a progressive system compared to a lower earner.
Is a Flat Tax the Same As a Regressive Tax?
Yes, a flat tax is the same as a regressive tax because the proportion of taxes paid per individual decrease as an individual's income increases. Note that a proportional tax has a flat tax rate, not flat tax dollar amount. A proportional tax (with its fixed rate) is not a regressive tax.
Are Regressive Taxes Legal?
Yes, tax structures where higher earners pay less proportional taxes is legal. There is often fierce debate around the responsibility of the wealthy regarding how much tax they should pay. However, the subject is a matter of opinion as there is no legislation limiting or preventing a regressive tax system for certain types of taxes.
The Bottom Line
Regressive taxes represent a tax structure where a higher burden is placed on low-income individuals. This is because a larger proportion of their income must go towards paying the tax. A regressive tax system is opposite of a progressive tax system where the wealthier are tax more, though the middle-ground tax system is called a proportional tax system. Common forms of a regressive tax system are sales taxes or excise taxes on certain goods.