Carnal Reason

I want to make a simple point about the way we are taught to compute sales and income taxes.

Consider a sales tax of 25%; you purchase a $100 item and pay a $25 tax. Next consider a 25% income tax. You earn $100, so $25 is withheld and you receive $75. Notice the inconsistency?

Let’s make it explicit. A sales tax and an income tax are both instances of a fee you pay the government each time you are involved in a money transfer. One consistent way to measure the tax is as the ratio of the fee to the underlying amount transferred. That is how the sales tax is computed: $25/$100 = 25%.

The guy who pays $25 taxes on the receipt of $75 is paying at a rate of $25/$75 = 33%, not at a rate of 25%. A true 25% income tax rate on $100 would be $80 for the taxpayer, $20 to the state.

Posted on June 8th, 2006 by pwyll
Filed under: General