Introduction to Taxation: Concept, Nature and Types of
Taxes
F Introduction
Taxation is one of the most important
functions of a modern State. It is the primary source of revenue for the
Government to carry out its duties such as administration, defence, public
welfare and economic development. In India, taxes are levied and collected
under the authority of law as provided by the Constitution. A proper
understanding of the concept, nature and types of taxes, along with the
differences between tax, fee and cess, is essential to understand the
functioning of the taxation system and the role of the State in society.
F Concept of Tax
A tax
is money that people and organisations must pay to the Government. It is compulsory,
not optional, and everyone who comes under a tax law is legally required to pay
it. If tax is not paid, the law can take action.
A tax
does not give any direct benefit to the person who pays it. The money
collected is used for public purposes like roads, schools, hospitals,
defence and welfare schemes.
Tax can
be collected only under a law. In India, Article 265 of the
Constitution states that no tax can be levied or collected without legal
authority.
Ø
Definition
According
to legal principles, a tax is:
“A compulsory exaction of money by a public authority for public purposes
enforceable by law and not a payment for services rendered.” (Comes from judicial interpretation,
not from a statute.)
Ø “The Supreme Court in Shirur
Mutt case (1954)”
Commissioner, Hindu Religious Endowments, Madras v.
Sri Lakshmindra Thirtha Swamiar of Shirur Mutt
(1954)
This is a landmark constitutional case, and the definition of tax given by the Supreme Court is commonly used in taxation law. Even though the definition comes from a court judgment, the power of the Government to impose tax comes from Article 265 of the Constitution of India. Article 265 of the Constitution of India “No tax shall be levied or collected except by authority of law.”
F Nature and Characteristics of Tax
The
essential characteristics of tax are as follows:
Ø Compulsory Payment:
Payment of tax is mandatory and not
optional. Every
person who comes within the scope of a tax law must pay tax. It is not optional
or voluntary. A taxpayer cannot refuse to pay tax on the ground that he does
not receive any direct benefit from it.
Ø Authority of Law:
A tax can be imposed only under a valid law
passed by the legislature. The Government has no power to collect tax unless it
is authorised by law. This principle is guaranteed by Article 265 of the Constitution of India, which protects
citizens from arbitrary taxation.
Ø No Quid Pro Quo:
There is no direct relationship between
the tax paid and the benefit received by the taxpayer. This means that a
person who pays tax does not get any specific or immediate service in return.
The benefit from tax is indirect and enjoyed by society as a whole.
Ø Public Purpose:
The money collected through taxes is used
for
public welfare and governmental functions.
It is spent on activities such as construction of roads, hospitals, schools,
defence, administration and social welfare schemes, which benefit the general
public.
Ø Enforceability:
Non-payment of tax attracts penalties, interest and legal consequences. Tax is enforceable by law. If a person fails to
pay tax, the Government can take legal action against him.
Ø Contribution to State Revenue:
Taxes are the main source of income for the State. They form the
backbone of the Government’s financial system and enable the State to perform
its constitutional duties and developmental activities.
F Direct and Indirect Taxes
Taxes are broadly classified into Direct Taxes and Indirect Taxes based on whether the burden of tax can be
shifted from one person to another.
Ø
Direct Tax
A direct
tax is a tax in which the incidence
and burden fall on the same person. This means the person who is legally
liable to pay the tax cannot transfer the
burden to someone else. The tax is paid directly to the Government by
the taxpayer.
Examples:
1.
Income Tax - tax on income earned by
individuals and entities
2.
Corporate Tax - tax paid by companies
on their profits
3.
Wealth Tax - though abolished, it is
conceptually important
1.
Based on Ability to
Pay
Direct taxes are imposed based on a person’s income or wealth. Those who earn
more pay more tax, while those who earn less pay less.
2.
Progressive in
Nature
The rate of tax increases as income increases. This makes direct taxes fair and
just.
3.
Reduces Income
Inequality
By taxing higher-income groups at higher rates, direct
taxes help reduce economic inequality in society.
4.
Certainty
The amount of tax payable is known in advance to the taxpayer.
Ø
Indirect Tax
An indirect
tax is a tax in which the burden
can be shifted from one person to another. The person who collects the
tax is not the one who finally bears it. The burden is passed on to the
consumer through higher prices.
Examples:
1.
Burden Can Be
Shifted
The tax is collected by the seller but paid by the consumer as part of the
price of goods or services.
2.
Collected
Indirectly from Consumers
Consumers pay the tax without directly paying it to the Government.
3.
Regressive in
Nature
The same tax rate applies to everyone, affecting rich and poor equally, which
places a heavier burden on lower-income groups.
4.
Easy to Collect
Indirect taxes are easier to collect as they are
included in the price of goods and services.
|
Direct
Tax |
Indirect
Tax |
|
1.
Direct tax is paid directly by the person on whom it is imposed, and
the burden of the tax cannot be transferred to another person. |
1.
Indirect tax is collected from one person, but the burden can be
passed on to another person, usually the consumer. |
|
2.
It is based on the income or wealth of a person and follows the
principle of ability to pay. |
2.
It is based on the consumption of goods and services, not on income. |
|
3.
Direct taxes are progressive in nature, meaning higher income leads to
higher tax liability. |
3.
Indirect taxes are generally regressive, as the same tax rate applies
to all consumers. |
|
4.
Examples include Income Tax and Corporate Tax. |
4.
Examples include GST and Customs Duty. |
|
5.
Direct taxes help reduce income inequality in society. |
5.
Indirect taxes affect all consumers equally, regardless of income
level. |
|
Tax |
Fee |
|
1. A
tax is a compulsory payment imposed by the Government for general public
purposes. |
1. A
fee is a charge collected for providing a specific service or benefit. |
|
2. There
is no direct return or benefit
to the person who pays the tax. |
2. There
is a direct return or service to
the person who pays the fee. |
|
3. Tax
is collected to meet general expenses of the State. |
3. Fee
is collected to cover the cost of a particular service. |
|
4. Payment
of tax is mandatory under law. |
4. Fee
is payable only when a person chooses to use a service. |
|
5. Example:
Income Tax, GST |
5. Example:
Court fee, Licence fee |
|
Tax |
Cess |
|
1. Tax is a compulsory payment
collected by the Government for general public purposes. |
1. Cess is a tax collected for a specific
purpose. |
|
2. The amount collected through
tax can be used for any public welfare activity. |
2. The amount collected through
cess must be used only for the purpose for which it is imposed. |
|
3. Tax is generally permanent in
nature. |
3. Cess is usually temporary and
is levied for a limited period. |
|
4. Tax revenue is shared between
the Centre and the States. |
4. Cess is generally not shared
with the States. |
|
5. Example: Income Tax, GST |
5. Example: Education Cess, Health
Cess |
Taxation is an important function of the
State. Tax is a compulsory payment collected by the Government under the
authority of law for public purposes. Direct and indirect taxes differ based on
whether the burden can be shifted, while tax, fee and cess differ in their
purpose and use. A proper tax system ensures public welfare, economic
development and effective governance.