ADDRESSING INCOME INEQUALITY THROUGH PROGRESSIVE TAXATION
ADDRESSING INCOME INEQUALITY THROUGH PROGRESSIVE TAXATION
1. Literature Review
1.1 Introduction
The literature review has been a critical part of scientific research, it is a study analyses and synthesizes the literature body by identifying challenges along with advancing examination of the body (Kraus et al., 2022). Reduced inequalities have been one of the 17th sustainable development goals established by the United Nations in promoting social, economic, and environmental sustainability. The goal has been to reduce income inequalities by ensuring the promotion of inclusive and sustainable economic growth, social protection systems along with policies that promote equal opportunities for everyone. Income inequality has been a major barrier to achieving the goal as it creates uncertainties in accessing essential services such as healthcare, education, and decent work. On the other hand, a specific way of addressing income inequality has been progressive taxation.
1.2 Overview of progressive taxation
According to Alessandrini (2021), progressive taxation is a tax system where those who earn a high-income pay a higher percentage of their income in taxes than those who earn less. The goal of progressive taxation has been redistributing of wealth and reduces income inequality that requires those can afford in paying more to do so. However, Rahman (2022) mentioned that progressive taxation helps achieve the adequate SDG goal of reducing inequalities by ensuring the promotion of social and economic justice. Bourguignon, (2018) stated that reducing income inequality, and progressive taxation could improve access to needed services and opportunities for marginalized groups with the inclusion of women, people with disabilities, and minorities. Progressive taxation could also provide funding for social protection systems such as healthcare, education, and housing that could help in lifting people out of poverty and reduce inequality.
Moreover, executing progressive taxation can be challenging, as it has a requirement of political will along with public support. Those who fight progressive taxation claim that it penalizes success and prevents innovation along with entrepreneurship. There has also been a controversy; it could lead to economic stagnation along with reduced economic growth. Despite the challenges, there have been various countries have ensured the execution of progressive taxation systems in reducing income inequality with promoting social and economic justice.
As reported by Abdulla (2022), the UK has a reformation of the British Tax system to “direct progressive consumption tax (PCT)” in ensuring fairness and equality. The system will help the people those having low pay. From the above figure 1, it can be visualized that through the introduction of a new tax system in the form of a progressive consumption tax, there has been a reduction in the tax burden for poor people by 20% reducing income inequality. Furthermore, Australia highly targeted and progressive tax and transfer system acts to re-distribute income from high-income households to low-income households. In case, temporary measures had been introduced in assisting people with income support through the Covid-19 pandemic in 2020 have contributed towards a lowering of income poverty rates. Gilfillan (2020) stated that the relative poverty line in Australia fell from 13% in 2007 to 9% in 2016 such as then increased to 11.3% in 2019.
1.3 Key factors contributing to the success of progressive taxation policies in reducing income inequality
Progressive tax policies have been executed by different countries around the world in reducing income inequality. However, Hiraga and Kohei Hasui (2022) stated that these policies aim to tax the wealthy at a higher rate than those with low incomes thus redistributing wealth along with reducing inequality. Various factors contribute to the success of progressive taxation policies in reducing income inequality. These include effective tax rates; it refers to the actual tax paid by the individuals after taking into account deductions and other tax breaks. However, a progressive system with high effective tax rates for the wealthy has been more effective in reducing income inequality than the other with a low effective rate of taxes. As reported by (Winters, 2023), the effective tax rate of US states such as Oregon has 7.75% by $5,814 having the highest tax rate of people earning $75,000. On the other hand, Advani and Tarrant (2021) mentioned that Tax Brackets have been an important component of the progressive tax system as they have a determination of the tax paid by persons based on their level of income.
As illustrated in the report of PwC (2020), the UK has seven income tax bands in the form of 0% to 45% while the US has seven income tax brackets ranging from 10-37%. Kousar et al. (2023) suggested that government spending on social programs in the form of education, healthcare, as well as social welfare, could contribute to reducing income inequality. The Canadian government has an investment of 10 Billion in supporting poverty reduction including investment through child benefit. On the other hand, budget 2017, Canada provided $11 billion in supporting better home care along with mental health initiatives (Government of Canada, 2015).
International cooperation over tax policy could also contribute to reducing income inequality. However, the Organisation for Economic Co-operation and Development (OECD) has developed a framework to combat tax avoidance by multination corporations that could help 130 nations in generating more revenue from taxation (OECD, 2021a).
Furthermore, public support for progressive taxation policies has been important for their success. According to a report by Horowitz, Igielnik, and Kochhar, (2020), 60% of Americans support raising taxes on the wealthy to reduce income inequality (refer to Figure 4).
1.4 Impact of Different Forms of progressive taxation on income inequality
Progressive taxation has been a form of taxation where the tax increases as the income of an individual or corporation increases. This has been a form of taxation aimed at ensuring the reduction of income inequality. The impact of progressive taxation on income inequality depends on the specific form of taxation executed. One commonly used form of progressive taxation has been the income tax that has been levied over an individual’s income. As reported by York (2023), in 2021 top 1% of earners in the US have a payment of 42% of all income taxes.
However, in Malaysia starting from 0% tax rate goes to 30% as suggested in the above table 2. This suggests that the income tax has been an effective form of progressive taxation in ensuring a reduction of income inequality. The other form of progressive taxation has been estate tax that has been levied on the property transfer after the death of the owner (Internal Revenue Service, 2010). The specific tax aims in addressing wealth inequality by limiting the transfer of wealth from one generation to the next. “House Ways and Means Committee Democrats” passed a proposal in cutting the estate tax to $5 Million subjective a higher rate of healthy tax each year (Iacurci, 2021). It is visualized that just 0.2% of US adults who die have their estate tax in recent years having a lower rate than the historical 1% and 25 shares. Currently, there has been a 40% federal tax applied to real estate values exceeding $11.7 million for single persons and $23.4 million for married ones (Iacurci, 2021).
In addition, to progressive taxation, few countries have the execution of wealth tax that has been levied over an individual’s net worth. The above figure 5 shows that there has been a decline in net wealth tax by 43% in the countries such as Norway, Switzerland, and France in 2016.
1.5 Potential trade-off between reducing income inequality through progressive taxation and promoting economic growth and innovation
The debate over progressive taxation along with its potential impact on economic growth and innovation has been complex and multifaceted. However, opponents of progressive taxation argue that it could discourage investment along with entrepreneurship that can hinder economic growth and innovation.
According to Figure 6, in 2009-2022, the tax wage of the average single worker was reduced by 3 points in Germany as during a similar period the tax wage of the average single worker raised slowly to 35.3% and 2014 before having a decrease by 34.6% in 2022. The supporters of progressive taxation argue that this disparity has been unjust and that rise in tax rates of high-earner workers could fund the social programs that help a widener population ensuring a highly stable and prosperous society. On the other hand, the opponents of progressive taxation argue that it can discourage entrepreneurship along with investment leading to a low level of economic growth and innovation.
According to Huddleston (2023), high tax rates are associated with low levels of entrepreneurship; it is found that a 1% increase in the top marginal tax rate had been associated with a 3.7% decline in high-growth startups. Furthermore, Bawono (2019) stated that few argued progressive taxation could lead to a brain drain of top talent as the high earners can relocate to countries with more favorable policies of tax. It would lead to a loss of human capital along with hindering innovation.
1.6 Importance of international cooperation and coordination to promote progressive taxation policies and reduce income inequality globally
International cooperation and coordination have been key in promoting progressive taxation policies and reducing income inequality globally. However, progressive taxation policies aim in redistributing wealth along with reducing the gap between the rich and the poor. By implementing the desired policies, governments can increase revenue from the wealthy along with using the fund in providing social welfare programs and services to those who need them. Yamen, Coskun, and Mersni (2022) stated that one of the important benefits of international cooperation and coordination is it could help in reducing tax evasion and avoidance by global companies along with wealthy sites. These individuals and entities have used tax havens and other legal loopholes in minimizing their tax liability that derives governments of much-needed revenue. However, Heitmüller and Mosquera (2021) suggested that by working together the countries can have an establishment of international tax standards and agreements that ensure the prevention of tax avoidance and evasion thus uplifting revenue by ensuring a fair distribution of tax burden.
Furthermore, coordination and cooperation between countries promote transparency in financial transactions that could help in corruption and money laundering (OECD, 2021b). Sharing information about the ownership of assets and transactions between countries, it could be easier in identifying and preventing illegal financial activities. On the other hand, international cooperation and coordination can help developing countries build their capacity in gathering taxes effectively and efficiently (United Nations, 2023). It has been important as developing countries rely heavily on foreign assistance that would not be sustainable in the long term. By improving the tax collection systems, these countries could generate more revenue to fund their development programs and reduce their reliance on support. Furthermore, Tynes (2022) mentioned that international cooperation and coordination help in promoting greater equality between various nations as well as within countries. By working together, to execute progressive taxation policies and decrease income, equality the countries could help create a more equitable global society.
1.7 Conclusion
It has been concluded from the above study that Sustainable development goal 17 is focused in the form of reduced inequalities. Progressive taxation is a tax system where those who earn a high-income pay a higher percentage of their income in taxes than those who earn less. However, executing progressive taxation can be challenging, as it has a requirement of political will along with public support. On the other hand, effective tax rates, tax bracelets, and others are the factors that contribute to the success of progressive taxation policies in reducing income inequality. Importance of coordination and cooperation reduces tax evasion, establishing international tax standards, and others helping to ensure fair distribution and equitable global society.
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