The Definition Of Direct And Indirect Tax – Taxes are supposed to be paid by the citizens. These taxes imposed by the government are a source of generating revenue for the country. If you are paying yearly or monthly taxes, it is vital to know the type of taxes you are paying and how much the government is imposing it.
What is a direct tax?
As the name shows, a direct tax is directly imposed from person to person by the authorities, or you can say government. Indirect taxes, a specific person bears the tax burden, and even if you evade taxes by hiding your income, you have to pay a massive penalty. Also, a direct tax is in considerable amount, so it is pretty noticeable. If you don’t pay the taxes in the correct amount, then who can take legal action.
A direct tax can be in two senses. In an economic sense, the direct tax is to be paid by the person who earns an income. Half of the tax will be paid by the employee directly, whereas the employer will pay the other half. This tax is imposed on an organization where a person works. This tax is taken from the income that a person gets.
On the other hand, in legal terms, according to the constitution, the direct tax is a tax of your existence in a specific land. You are using the government resources, and you have to pay a little tax to them. Such taxes are poll tax or property taxes. If you own anything provided by the government, then it is necessary to pay tax.
Direct tax amount depends on the income of a person
Direct tax amount depends on the income of a person. If a person has a high income or earns income from different resources, he automatically has to pay a higher tax amount. This tax is imposed by the federal government and is considered a progressive tax because it increases with the increase in income and decreases vice versa.
Direct tax is imposed on a specific person and can not pass the burden onto a different party or entity. It is necessary to pay taxes if you have a salary, own property, earn from a business, earn capital gains, or other resources like saving account or making from the deposit.
You can pay direct taxes by the deadline which IRS provides. You have to pay a yearly tax fund to the taxation department. And you can pay these taxes by their online system or directly from your bank account or debit and credit cards. You can also choose an installment plan and give your tax in 3 or 4 months installments.
Types of Direct tax:
There are various direct taxes where you have to pay directly to the government and not to some other third party. Here are the major types of direct taxes:
Income tax, as the name depicts, is taken from your monthly income. It depends on the amount of your salary. It is the most common type of direct tax. If you earn a tremendous amount of money, you have to pay a significant amount of tax vice versa; for example, if your rating is 100,000$, then 20,000$ is the government
, The federal government decides various tax amounts and is divided into different states depending on its population. If you hide your income or don’t pay your taxes, you can face legal penalties and imprisonment depending on the state’s law.
Property tax comes under direct tax because you pay directly to the government. It is imposed when you have a property or some other ownership. Even if you don’t earn from that property, you still have to pay yearly wealth tax.
Not even individuals but also big businesses also have to pay the tax for their use. This tax collected goes straight to municipalities workers, police departments, firefighters, etc. Like other tax laws, if you don’t pay the taxes or hide your property from authorities, you have to pay a heavy penalty and face imprisonment.
Transfer tax is a transaction tax. It is not imposed by the federal government but is Imposed by a state or a county. This tax is necessary when one person is transferring his property to some other entity. Hence, it is also known as transaction tax.
This tax depends on the sales value of a property. If you own a property in an urban area, then transfer tax is also high. Some states do provide liability, but not all states follow it.
When the property owner dies, and the property is to be transferred to the inherent, transfer tax is applied. It is also known as the death tax.
Capital gain tax:
Capital gain tax is imposed when a person is earning from the investment he made. It can be stocks, online selling, small businesses, real estate, etc. If your income is growing from the assets, then you have to pay its tax.
Growth here means that your investment is selling. If your investment is not being sold and there is no increase in your income, you don’t have to pay capital gain tax.
If you earned some money but the money earned is less than the money invested, the capital gain tax is reduced. These taxes are also applied to individuals as well as corporations.
These taxes are deducted from your income by the federal government. The government imposes these taxes to cover up the local Medical services such as emergency aid, Medicare, and social security. Even if you are not employed and are an independent money earner, you will still have to pay this tax; otherwise, the government might take legal actions.
Advantages of direct tax:
Direct tax is a source of equality as it is based on individual abilities. It is based on a person earning level; if a person is competent, he will get a high-paying job and pay high taxes. If a government is getting a lot of taxes and a good amount of revenue is being generated, then there is a chance that people’s salaries will also increase.
Direct taxes are automatically deducted from an employer account, saving time, money, and resources for the tax collection authorities.
It is also the source of promoting certainty as these taxes are fixed according to your salary. The person has an idea of how much tax he has to pay from his income. It does not cause any confusion in tax filing and tax-paying methods. The tax collected goes for educational purposes, social security, and medical services.
The disadvantage of direct tax is that people don’t want to pay from their income. In this way, the government is constantly criticized, and people might evade and hide their properties and income to not pay taxes. If a person doesn’t have a civic sense in them, then the country might suffer.
Secondly, it creates class insecurity between people. For example, suppose a person is not paying taxes because of his low income. In that case, he might develop an inferiority Complex by the people who are paying taxes and criticizing the low-class people.
High taxes also discourage people as people have to pay taxes from their income which doesn’t allow them to have savings. As a result, they don’t invest in new businesses, and the country’s economy suffers in the end.
The tax filing and return process are a long and complicated one, so people get annoyed easily by this, and they are unable to pay the taxes physically on time.
What is indirect tax?
An indirect tax is imposed on goods and services rather than on income or profits. An intermediary collects it from the person who bears the economic burden of the tax. The intermediary then forwards that collected tax to the government. Hence indirect tax can be shifted from person to person who ultimately reaches the government.
Unlike a direct tax, which requires the completion of documents with a particular procedure to pay the tax, the supplier will collect indirect tax as soon as a consumer buys a product. Then the supplier forwards the collected tax to the government.
The government imposes indirect taxes to increase revenue. The original price of the goods is increased with the tax’s addition, which ultimately increases inflation. In legal terms, indirect tax is imposed upon a broad range of abstract ideas that include rights, privileges, and activities.
Central and state governments impose indirect taxes on the expenditures, services, rights, and privileges, contrary to direct taxes imposed on the property and income. This tax type includes duties of custom paid on imported items and excise duty paid on production and distribution of products etc.
All these comprise to make indirect taxes as they are indirectly applicable to consumer’s income. Often indirect taxes are considered convenient for the consumer since the tax amount is not visible on the payslip. Still, various state agencies tend to raise these taxes to generate higher revenue without any terms and conditions. The essential purpose of indirect taxation is to catch the general public in the tax net and balance the rich and poor social classes.
Types of indirect tax:
Indirect tax is imposed on almost all the products that we consume. Some of the types of indirect tax are as under:
It applies to the sale of goods. Whenever a person goes shopping at the mall or an online shop, the sale tax is padded with the purchase slip. Goods such as household items, clothing, and basic accommodations are subject to this type of tax. The store then forwards the paid tax to the government.
It is also a prevalent type of indirect tax. When a manufacturer buys raw material for the company’s product, for example, tobacco for cigarette companies, he has to pay indirect tax on the purchased items. The manufacturer then sells the final product at a higher price than the original to accommodate his loss.
Imported products are always costly. It is because indirect tax is also applicable to these products. The importer has to pay the tax to import items from abroad, which is ultimately passed on to the consumer.
VAT is the value-added tax where a tax is added to the product on every step of its supply chain. The VAT is indirect because this tax does not depend on the income. Rather it depends on the individual consumer level.
From the name, it is clear that this tax is taken when you purchase gasoline. As this is an indirect tax, so the price is hidden in the amount you buy fuel. This tax is imposed per gallon, and the fuel authorities are supposed to give the tax to the government.
Indirect taxes are less inconsistent and burdensome to the taxpayer than direct taxes as they are not paid in massive amounts, unlike direct taxes. These type of tax are also broad-based since it applies to all the people in the community. It is flexible and elastic in the sense that who can revise it following the state’s requirements.
The indirect tax also helps to increase the revenue since its bases are pretty broad, and it is implied on all the goods consumed by the public. One can not get rid of paying the tax by any means as these taxes are included in the price of the products purchased by the consumer.
It is also imposed on harmful and luxury goods, especially those whose consumption has to be banned to maintain social welfare. That is why tobacco, alcohol, and other intoxicants are taxed to avoid social disturbances. Thus it is conducive for social purposes.
One of the significant advantages of indirect tax is its accessible collection since it does not require legal proceedings. The consumer has to pay it by simply purchasing any goods.
Indirect taxes have some disadvantages as well. Most of all, indirect taxes are regressive and hence not equitable. For instance, salt tax fell more heavily on the poor than on the rich as it has to be paid at the same rate by all the people of the unfair community. Unless indirect taxes are imposed on necessaries, it may or may not affect revenue yield.
Goods in an elastic demand do not bring in much revenue since the tax will raise the price and contract the market, so the product remains unpurchased, and tax payment is not made. As the tax is included in the product’s worth, most of the public is not aware that they are paying the tax.
Indirect tax is the primary source of discouragement for the industry owners as raw materials are heavily taxed, increasing the product’s cost to minimize their loss. The price of collecting indirect tax is relatively high, so who must guard every production source to minimize unproductive and uneconomical effects.
Taxes are a vital source of revenue for the government. Either it’s direct or indirect, it is the responsibility of every citizen to pay taxes.
Direct taxes imposed on a person’s income or properties are a burden on an individual and cannot pass over it to a third entity. In contrast, Indirect tax levied upon the goods and services is not a burden on a person. Instead, the service provider, which is a third party, has to pay the government.
Pay both the taxes and do not evade the taxes; otherwise, the government can take strict legal action, resulting in either penalties or imprisonment according to the law and tax rules.