Who pays more tax, as a share of income? It depends on the kind of tax.
Three kinds of tax
Progressive
The share of income taken rises as income rises.
Proportional
Everyone pays the same share of income.
Regressive
The share of income taken falls as income rises.
Corland (made-up numbers): the % is of each person's income
| Tax | Mia earns €20,000 | Leo earns €80,000 | Kind |
|---|---|---|---|
| Income tax in bands | €2,000 (10%) | €20,000 (25%) | Progressive |
| A flat 15% tax | €3,000 (15%) | €12,000 (15%) | Proportional |
| 20% VAT on spending | €2,700 (13.5%) | €8,000 (10%) | Regressive |
The points to remember
- Marginal rate: the tax on the next euro earned (Leo's is 40%).
- Average rate: total tax ÷ income (Leo's is €20,000 ÷ €80,000 = 25%).
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Direct taxes fall on income and wealth; indirect taxes fall on spending.
Direct taxes: on income and wealth
- Personal income tax, often in bands with higher rates.
- Corporate income tax on firms' profits.
- Wealth taxes: property, inheritance (the UK charges 40% above £325,000).
Indirect taxes: on spending
- VAT or GST on most goods and services.
- Excise taxes on fuel, alcohol and tobacco.
- Usually regressive: the poor spend more of their income.
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Remember it as: Progressive taxes pull the Lorenz curve towards the line.
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Higher Level only: work out the tax from the data. Leo earns €80,000.
Corland's income tax (made-up)
| Income band | Tax rate on income in this band |
|---|---|
| €0 to €20,000 | 10% |
| €20,001 to €50,000 | 20% |
| Above €50,000 | 40% |
Leo earns €80,000: work it out band by band
First €20,000
€20,000 × 10% = €2,000
Next €30,000
€30,000 × 20% = €6,000
Last €30,000
€30,000 × 40% = €12,000
Income tax
€2,000 + €6,000 + €12,000 = €20,000
Leo keeps €60,000 and spends €48,000 of it. Now add the indirect tax.
Leo spends €48,000, prices include 20% VAT
The rule
Tax paid = spending × rate ÷ (1 + rate)
VAT paid
€48,000 × 0.20 ÷ 1.20 = €8,000
All tax
€20,000 + €8,000 = €28,000
Average rate
€28,000 ÷ €80,000 × 100 = 35%
The points to remember
- If prices include the tax: tax = spending × rate ÷ (1 + rate).
- If the spending is before tax: tax = spending × rate.
Taxation narrows the gap, but it has limits.
How far can taxes go?
Less incentive
Very high top rates may reduce work, saving and enterprise.
Avoidance
The rich can move income or wealth abroad, or into lower-taxed forms.
Regressive taxes
VAT raises the cost of living most for the poor.
Only half the job
Taxes take money; transfers and services must deliver it.
The points to remember
- Zero-rate essentials: the UK charges no VAT on most food.
- Other policies help too: transfers, education, minimum wages (the next micro-topic).
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Paper 1 asked this in May 2025, as part (b) for 15 marks.
Using real-world examples, evaluate the view that the most effective way that a government can reduce inequality is through a system of progressive direct taxation.
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How the 15 marks are given
| Marks | What your answer needs |
|---|---|
| 13–15 | Theory fully explained, terms right all the way through, balanced evaluation, real examples fully developed to support the argument |
| 10–12 | Theory explained, terms mostly right, evaluation mostly balanced, real examples developed |
| 7–9 | Theory partly explained, some evaluation but one-sided, examples partly developed |
| 4–6 | Theory only described, evaluation superficial, examples only named |
| 1–3 | Theory stated but not relevant, no evaluation |