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Tax Impact, Incidence and Shifting


Date Posted: 10/26/2012 9:06:37 AM

Posted By: moff J  Membership Level: Silver  Total Points: 485

Taxation is the process through which the government raises its revenue. The government charges various taxes among them income taxes, VAT, customs duty, exercise duty, among others.
When the government levies a certain tax charge, it intends the tax to be imposed on a given person who has the legal responsibility of paying that tax charge. This person who has the legal responsibility of bearing the tax imposed and from whom the tax will be collected is called the impact of tax. For example, the impact of corporation tax is companies, and the impact of PAYE taxes is employed persons.

Nevertheless, the burden of paying taxes may be transferred from one person to another. Therefore, the person who bears the final responsibility of paying for the taxes is called the incidence of tax. This is the person who feels the “pitch” from the tax charged.
It is however possible for the impact of tax and the incidence of tax to be person. This leads to what is referred to as direct tax. This is tax which is imposed on a given person and collected from that same person. Such kind of tax cannot be transferred to another party. Examples of direct taxes include corporation tax, PAYE, and stamp duty.
In other instances, the impact and incidence may be different persons. Tax is imposed indirectly on the incidence through what is known as tax shifting. This leads to indirect taxes such as VAT, customs duty, and exercise duty.

Tax shifting refers to the transfer of the burden of tax from the impact to the incidence. This may be through forward shifting or backward shifting.
Forward shifting refers to an instance whereby a seller transfers the tax charge to the consumer. In such an instance the consumer bears the tax burden by paying a higher

price for a good or service. In this case, the incidence is the impact is the seller but he transfers the tax burden to the buyer (incidence).
Backward shifting employs a reversal approach whereby a seller, for example, buys goods or services at a lower price from the supplier.

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