Progressive Tax

Published Jan 17, 2023

Definition of Progressive Tax

A progressive tax is a tax system in which the tax rate increases as the taxable amount increases. That means the more money you make, the higher your tax rate will be. This type of tax system is based on the so-called ability-to-pay principle and is often used to reduce income inequality, as it ensures that those with higher incomes pay a larger share of their income in taxes.

Example

To illustrate this, let’s look at an imaginary country called Taxania. In taxania, people are taxed based on a tax system with three brackets. People who earn less than USD 20,000 only have to pay 10% in income taxes. By contrast, people who earn more than USD 20,000 but less than USD 50,000 have to pay 20%. And finally, people who earn more than USD 50,000 have to pay 30% in taxes. This is a simple example of a progressive tax system because the percentage of income that has to be paid in taxes increases as the income grows.

Note that in reality, many countries implement a slightly more complicated progressive system, where fractions of your income are taxed based on the brackets. In this case, that means you would only have to pay 10% on the first USD 20,000 you earn, 20% on the next USD 30,000, and 30% on all the money you earn above USD 50,000.

Why Progressive Tax Matters

Progressive taxes are an important tool for governments to reduce income inequality and ensure that those with higher incomes pay what is considered their fair share of taxes (unlike with flat taxes or degressive taxes). This type of tax system is extremely popular in western economies and is often used to fund public services and programs that benefit the entire population. In addition to that, progressive taxes can also be used to incentivize certain behaviors, such as investing in education or starting a business.