Question

Define a tax. Explain briefly two merits and two demerits of direct taxes.

Answer 1

A tax is a compulsory payment imposed on persons or companies by the government to meet the expenditure incurred on providing common benefits to the people.

The merits of direct tax are as follows:
i. Equity: Direct tax is imposed on the income of a person based on the principle of his/her ability to pay. The income tax burden is equitably distributed on different people and institutions. Thereby, the tax burden falls more on rich than on the poor people.
ii. Certainty: An individual knows how much of tax is due and when it is due. The government knows with certainty how much tax revenue is to be collected from direct tax. Accordingly, the government can adjust its income and expenditure.

The demerits of direct tax are as follows:
i. Tax evasion: There is a greater possibility of tax evasion of direct taxes as these taxes are collected based on the honesty of the taxpayers. Business groups try to evade direct tax by misrepresenting their income statements to the income tax authorities.
ii. Narrow in scope: Direct taxes are imposed heavily on rich people. The government cannot approach the low-income group through these taxes. Hence they have limited scope in collecting a tax.