Taxes are distinguished by the impact they have on the allocation of income and wealth. A proportional tax is the kind that applies the same relative onus on all taxpayers—i.e., where tax liability and income move in the same scale. A progressive tax is recognisable by a larger than proportional increase in the tax burden relative to the rise in income, and a regressive tax is characterizable by a less than proportional growth in the comparative onus. Hence, progressive taxes are seen as fighting inequalities in income distribution, while regressive taxes can cause an increase in these inequalities.

The taxes that are generally regarded as progressive include individual income taxes and estate taxes. Income taxes that are categorically progressive, however, could become less so within the upper-income class—particularly if a taxpayer is allowed to lower his tax base by nominating deductions or by excluding some certain income elements from his taxable income. Proportional tax rates which are applied to lower-income groups could also be more progressive if such exemptions of a personal nature are made.

Income measured over a given year may not necessarily offer the best measure of taxpaying requirement. For example, transitory increases in income might be saved, and within temporary declines in income a taxpayer could choose to finance consumption by taking from savings. Therefore, if taxation is compared along with “permanent income,” it will be less regressive (or more progressive) than if held in comparison with annual income.

Sales taxes and excises (with the exception of those on luxuries) are generally regressive, because the spread of one’s income consumed or spent on a specific good declines as the level of personal income rises. Poll taxes (also called head taxes), nominated as a flat amount per capita, patently are regressive.

It is difficult to dictate corporate income taxes and taxes on business as progressive, regressive, or proportionate, principally because of a lack of certainty regarding the ability of businesses to shift their tax expenses (see below Shifting and incidence). This difficulty of dictating who bears the tax burden is dependant crucially on whether a national or a subnational (that is, provincial or state) tax is being determined.

In regarding the economic purposes of taxation, it is essential to distinguish between differing points of tax rates. The statutory rates include those specified in legislature; commonly these are marginal rates, but for some cases they are average rates. Marginal income tax rates denote the fraction of incremental income that is demanded by taxation when income increases by one dollar. Ergo, if tax liability increases by 45 cents when income increases by one dollar, the marginal tax rate is 45 percent. Income tax statutes generally contain graduated marginal rates—i.e., rates that grow as income grows. Heavy analysis of marginal tax rates should consider provisions as well as the formal statutory rate structure. If, for example, a particular tax credit (reduction in tax) falls by 20 cents for each one-dollar rise in income, the marginal rate is 20 percentage points greater than specified in the statutory rates. Since marginal rates specify how after-tax income changes in response to changes in before-tax income, they are the relevant ones for regarding incentive effects of taxation. It is even more difficult to nominate the marginal effective tax rate applicable to income from business and capital, since it may depend on considerations such as the structure of depreciation allowances, the deductibility of interest, and the provisions for inflation adjustment. A basic economic theorem grants that the marginal effective tax rate in income from capital is nothing under a consumption-based tax.

Average income tax rates indicate the percentage of total income that is paid in taxation. The pattern of average rates is the one that is necessary for assessing the distributional equity of taxation. Under a progressive income tax the average income tax rate rises with income. Average income tax rates generally increase with income, both because personal allowances are provided for the taxpayer and dependents and also because marginal tax rates are graduated; conversely, preferential treatment of income received predominantly by high-income households can swamp these effects, allowing regressivity, as shown by average tax rates that lessen as income rises.

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