Question

Assume the City of Norfolk used the following tax schedule for individuals: Income Tax 11% 0-50,000 50,001-100,000 100,001 + 8% 5% a. Briefly define horizontal and vertical tax equity (no more than two sentences per term). b. Mr. Monarch earned $150,000 this year. Compute his (1) Norfolk city tax, (2) average tax rate, and (3) marginal tax rate. c. Is the city of Norfolk's individual rate schedule regressive, proportional or progressive and what is the reasoning for your answer?

Answer 1

Answer :

Part a) Horizontal and vertical tax equity :

Horizontal equity is the principle that taxpayers with equal income should pay equal tax. The basis behind the theory of horizontal equity is that people should be treated the same by imposing the same level of income tax to people in the same income group.

Vertical equity requires that tax obligations vary in proportion to income such that if A has a greater income than B, A will owe more income tax than B. Vertical equity is associated with the redistribution of wealth and encourages a tax system in which high income earners, or those with access to more resources, pay more tax than low income earners.

Part b) : Mr. Monarche income = $150,000

1) Norfolk city tax =

0-50,000 = 11% = 50,000*11% = 5,500

50,000 - 1,00,000 = 8% = (1,00,000-50,000)*8% = 4,000

1,00,000+ = 5% = (150,000-100,000)*5% = 2500

Total Norfolk city tax = 5500 + 4000 +2500 = $12,000

2) Average tax rate = Total taxes/total taxable income = 12,000/150,000 = 8%

3) Marginal tax rate = The marginal tax rate is the tax rate paid on the next dollar of income.

In the given question, marginal tax rates will be as follows:

S.No.	Income	Marginal tax rate
1	0-50,000	11%
2	50,000-100,000	8%
3	100,000+	5%

Part c) Is the city of Norfolks' Individual Tax rate regressive, proportional or progressive ?

Solution : The city of Norfolks' Individual Tax rate is regressive. The tax rate is falling with the increase in income level therefore, it follows a regressive tax system.

See explanations below for clarity of the concept :

A regressive tax is one where the average tax burden decreases with income. Low-income taxpayers pay a disproportionate share of the tax burden, while middle- and high-income taxpayers shoulder a relatively small tax burden.

A progressive tax is one where the average tax burden increases with income. High-income families pay a disproportionate share of the tax burden, while low- and middle-income taxpayers shoulder a relatively small tax burden.

Proportional tax is the taxing mechanism in which the taxing authority charges the same rate of tax from each taxpayer, irrespective of income. This means that lower class, or middle class, or upper class people pay the same amount of tax.