Question

Provide an example of a specific good or service that is subject to taxation. Who do you think bears the burden of this tax? How does the tax distorts decision-making?

Answer 1

Let us take an example of cars.

Cars are subject to taxation.

On cars, taxes are charged at the event of manufacturing as well as at the event of sale to end consumer. Note this may vary from country to country.

Both the taxes levied at different occasions actually fall in to a common category of 'Indirect Taxes'

Different countries may call these taxes with different names. Such as in India, taxes levied at the event of manufacturing is called 'EXCISE DUTY' and taxes levied at the event of sale is called 'SALES TAX'.

In many countries, in place to two different taxes, a common tax is charged at the point of sale. This tax is called GST - Goods and Services Tax. (Even India has started doing so lately)

Now, let us discuss who bears the burden of GST levied as above.

Car manufacture, say Toyota, sells the cars to car-showroom owners. The former, while selling, charges GST from the latter and deposits it with the government exchequer. Then, this car-showroom owner sells the car to final consumer and even in this case, the former charges GST from the consumer and deposits it with the government exchequer. (Do not worry. Error of double taxation is avoided by allowing the car-showroom owner to take reversal benefit of the GST already paid by it to Toyota and pay to government only the balance of GST attributable to the net value added by it).

You see neither Toyota pays tax from its pocket not pays the car-showroom owner. The entire tax is ultimately charged from the consumer and consumer is the one who has to bear the entire burden of it. Why? Because, consumer cannot pass on the tax burden on someone else as Toyota and car-showroom owner did. Why a consumer cannot pass on? It's because consumer is the end user of the car. He did not buy the car for selling it again immediately as it is. He bought it for his personal use. So he has to bear the additional cost of tax.

Now, let us talk about how does the tax distorts decision-making.

No doubt. GST, which is a form of indirect tax, has made the car more expensive. More the GST, more unaffordable a car becomes. What will consumer do in such situation? Well, he may change the decision of buying a car in following ways:

1. He may delay his decision
2. He may look for a used car instead
3. He may choose for applying for a larger loan from bank and agree to pay higher installments and heavier interest costs in the coming years
4. He may drop the idea of buying a higher variant or model of the car. He may have to go for a lower variant or a shorter car for himself
5. He may have to cancel the buying decision altogether