Public Finance and Legislative Procedures: Tax Incidence

Public Finance and Legislative Procedures: Tax Incidence and Legal Liability Why is the incidence of a tax independent of legal liability for the tax? The incidence of a tax measures the distribution of the tax burden among producers and consumers. The party that remits the tax, however, is independent from whoever ends up bearing the tax burden in the long run. This is because the inelasticity of the demand and supply of a good determines the portion of tax that will be paid (Hyman, 2011).

The party that may be legally liable to pay a tax may be different from the party that ends up bearing the tax burden because when a tax is imposed on a good, it affects the supply and demand of that particular good, which changes the equilibrium prices. These changes in prices are the ones responsible for the shifting of the tax burden away from the person entitled to pay the tax. Hyman (2011) uses an example of a unit tax imposed on gasoline to explain this.

If the market price of gasoline is subjected to a unit tax, for each gallon of gasoline that is bought, the buyers would pay the tax in addition to the market price. This precludes the sellers from paying the tax and the buyers become legally liable. Hyman further explains that in doing this, the sellers marginal cost fails to increase and the tax is deducted from the marginal benefit each gallon gives to the consumers.

The reduction in the demand for gasoline as a result of buyers paying the taxes causes backward shifting to sellers accompanied by a decline in the market price of gasoline. Therefore, the ability to evade taxes among various economic units changes the tax collection point which determines the party that ends up bearing the tax burden. When this ability differs, the tax burden has to shift because the identity of the taxpayer impacts the specific prices that are paid after the tax.

The three major classes of tax bases A tax base can be described as the measure that determines the tax liability, since taxes are levied upon various economic activities. According to Alink and Kommer (2011), common tax bases are grouped into three major categories: consumption, income, and wealth. Individual decision making greatly determines the values of the three tax bases, hence they can also be described as economic bases. An individual's income is often described as the total products and services they consume in a year plus their annual savings.

The yearly consumption, therefore, is the income less the portion of the income saved in a given year. On the other hand, a person's net wealth is the economic value of their total investments and savings in a given period, based on various assets such as shares and property (Alink and Kommer, 2011). There is a relationship between various categories of tax bases. The consumption of an individual in a year, for instance, is often equal to their consumption. However, there are a few distinguishing factors between the two bases.

Alink and Kommer (2011) note that income is often taxed on a personal basis, hence considers the circumstance of a taxpayer, while consumption is taxed on a product and service basis, which do not account for a taxpayer's situation. Compared to consumption taxes, savings are also taxed twice by income taxes. This creates an economic disparity because savings should.