Question

1. One common argument for imposing so-called sin taxes is the social goal of reducing demand for such products. Using cigarettes as an example, is there a segment of the population that might be sensitive to price and for whom high taxes might discourage purchases?

2.   Kobe strongly dislikes SUVs and is appalled that so many are on the road. He proposes to eliminate the federal income tax and replace it with a $50,000 annual tax per SUV. Based on the number of SUVs currently owned in the United States, he estimates the tax will generate exactly the amount of tax revenue currently collected from the income tax. What is wrong with Kobe’s proposal? What type of forecasting is Kobe likely using?

Answer 1

1. One common argument for imposing so-called sin taxes is the social goal of reducing demand for such products. Using cigarettes as an example, is there a segment of the population that might be sensitive to price and for whom high taxes might discourage purchases?

The most obvious segment sensitive to price may be teenagers and younger adults, although price sensitivity will vary by taxpayer. Or in other words we can also say that the Teenagers and younger adults may be the most apparent price-sensitive group, but price sensitivity may differ by taxpayer. Sin taxes are compulsory payment imposed on individuals as high surcharges for the purchase of alcohol and tobacco products. Youngsters are the main segment of population who purchases cigarettes. The youngsters do not have any earning capacity and primarily depend on their parents for money. Therefore, when the government imposes high taxes on cigarette, it affects teenagers and young adults and thus it would discourage the purchase of cigars for them.

2. Kobe strongly dislikes SUVs and is appalled that so many are on the road. He proposes to eliminate the federal income tax and replace it with a $50,000 annual tax per SUV. Based on the number of SUVs currently owned in the United States, he estimates the tax will generate exactly the amount of tax revenue currently collected from the income tax. What is wrong with Kobe’s proposal? What type of forecasting is Kobe likely using?

Evaluating alternative tax system - The following are the alternatives suggested by Mr. K:

• Mr. K is suggesting for implementing $50,000 annually on SUVs in place of income tax. The amount of tax collected on SUVs will be equal to the tax collected from income tax.
• The alternative tax system suggested by Mr. K is likely to create a large inconsistency in the projected tax collection, and actual tax collection, because the taxpayer will prefer to switch the substitute of the SUVs to save the tax. As a result the forecasted tax revenue from SUVs will vary from the actual tax revenue.

Types of forecasting used by Mr. K - The following are the forecasts used by Mr. K:

• Mr. K has used static forecasting in his suggestion.
• A static forecasting ignores “how tax payer may alter their activities in response to a proposed tax law change and bases projected tax revenues on the existing state of transaction”.
• Here Mr. K has ignored the activities of the taxpayer in response to the change in tax law.