How Do Taxes Work?
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Governments Use Taxes to Generate Income
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Taxes are financial levies imposed on citizens and other legal entities by a governmental authority. Taxes are compulsory payments enforced by a government, which the government uses to fund it operations. Ideally, taxes are used to raise funds to allow governments to operate and create programs aimed at advancing the public good, such as for national defense, infrastructure and education. Taxes can be imposed at different levels of government; an area ruled by a national, state and local government may be taxed by all three ruling bodies simultaneously. Without the income generated through taxation, a government's ability to carry out its goals and maintain itself would be severely hampered.
Taxes Are Collected From Many Different Sources
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Governing bodies can collect taxes through many different channels. A common way to raise tax revenue is to impose an income tax: a tax that forces some amount of a person's income to be paid to the government. Another common type of tax is a sales tax, which is an additional charge added to the sale price of goods and services. Property taxes are another type of tax that is often required of holders of certain types of property, such as land or real estate, which must be paid periodically as long as the taxable property is held. Other common taxes include capital gains taxes on profits from investment; tariffs, which are taxes on goods traded with other nations; and inheritance tax, which is a tax levied against assets one leaves to others after death.
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Tax Efficiency
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The necessity and efficiency of taxes have long been a subject of debate. Governments exist to provide their citizens protection, order and stability and, ideally, programs that favor the public good. As such, taxes can be viewed as a positive thing, since they enable governments to fulfill their purpose. On the other hand, taxes tend to inhibit economic activity; since workers and companies must pay taxes on labor, sales and other economic transactions, they may be disincentives to economic activity and eliminate many transactions that might otherwise take place. If economic activity is too severely inhibited, the amount of tax revenue will fall, despite the taxation rate. Therefore, it is important for a government to tax at a level that does not too severely inhibit economic activity to maintain a larger pool of wealth from which it can draw funds.
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