Question

Jurisdiction B’s tax system consists of a 6.5 percent general sales tax on retail goods and selected services. Over the past decade, the average annual volume of sales subject to this tax was $1,220 million. The jurisdiction needs to increase its tax revenues by approximately $12.2 million each year to finance its spending programs. The taxing authorities are considering two alternatives: a 1 percent increase in the sales tax rate or a new 2 percent tax on the net income of corporations doing business in the jurisdiction. Based on recent economic data, the annual net income subject to the new tax would be $635 million. However, the jurisdiction would have to create a new agency responsible for enforcing and collecting the income tax. The estimated annual cost of the agency is $500,000. Jurisdiction B borders four other taxing jurisdictions, all of which have a general sales tax and two of which have a corporate income tax.

1. Based on a static forecast, how much incremental revenue would Jurisdiction B raise under each alternative? (Enter your answers millions rounded to 1 decimal place.) A 1 percent increase in the sales tax A new 2 percent corporate income tax Incremental Revenue million million

Answer 1

Ans:

Alternative 1-increase in sales tax by 1%
Present average annual volume of sales(A)	1220,000,000
Tax of incremental 1% on this amount(a)*1%	12,200,000
Therefore increase in revenue from Alternative 1	12,200,000
Alternative 2-introduce 2% tax on net income
Annual net income subject to new tax	635,000,000
Tax on this income of 2%	12,700,000
Incremental Revenue from New Tax	12,700,000
Less: Incremental annual cost of setting up agency	500,000
Net Incremental Revenue	12,200,000
Decision: Jurisdiction B is indifferent under both alternatives as both provide it with same incremental revenues