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Shifting and incidence of tax

A tax's impact is felt by the individual or people whose real net income is affected. It is vital to understand that the individual who is legally obligated to pay the tax is not always bearing the brunt of the taxing.

Despite the fact that corporate organisations are responsible for paying general sales taxes, the majority of the tax burden is actually borne by consumers of the items subject to the tax. In other words, the tax burden is transferred from the company to the customer. There are several ways to transfer taxes.

When the cost of a good or service is totally borne by the consumer as opposed to the provider—for example, when an excise tax on luxury raises the price to the consumer—forward shifting has occurred.

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When the cost of the tax is absorbed by those involved in manufacturing the product—for example, through reduced wages and salaries, lower prices for raw materials, or a poorer return on borrowed capital—backward shifting happens when the price of the product being taxed stays constant. Finally, a tax could not even be moved; for instance, a tax on company earnings might lower the owner of the business's net income.

Tax capitalization happens when the cost of the tax is included in the value of long-term assets, such as when a drop in land prices balances a rise in property taxes. The possibility of capitalization exists whether there is forward, backward, or no moving.

As a result, a rise in gas prices brought on by increased motor fuel taxes may lower the value of high-consumption vehicles, a tax on coal extraction that cannot be postponed would lower the value of coal resources, and a tax that lowers corporate earnings after taxes may do the same for corporate shares. In each of these scenarios, the asset's current owner suffers a capital loss since the tax's capitalised value will reduce the asset's value.

The incidence of a tax might be difficult to ascertain; in fact, the tax may be partially paid for by the taxpayer and partially moved. Partial equilibrium analysis, which focuses only on the market for the taxed commodity and disregards all other markets, may often be used to effectively address the issue.

For instance, it is unlikely that a minor tax on an addictive narcotic would escape the users, who would likely choose to pay the tax rather than stop using the substance. More broadly, all of the market factors at play affect how taxes are imposed.

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