Tax Incidence

Posted in Finance, Accounting and Economics Terms, Total Reads: 603

Definition: Tax Incidence

Tax Incidence also termed as Tax burden, is the manner in which the tax is distributed among producers and consumers. Tax Incidence is a microeconomic term which indicates that who carries the actual burden of tax.

It is calculated in the basis of price elasticity of demand and supply. The goods are more elastic when the small change in price creates a bigger impact on demand and supply of those particular goods. In case of Tax Incidence, there are two cases,

1. If Supply is more elastic than Demand à consumers will bear the tax
2. If Demand is more elastic than Supply à producers will bear the tax

Let us take an example. Consider Petrol, the demand for petrol is inelastic, which means that even though the price of petrol changes, the demand for petrol will be same i.e. constant. Now if there is an increase in tax on Crude Oil worldwide then it will also affect the price of petrol in local countries. The countries will increase the tax which will in turn increase the price of petrol. If the consumers still buy petrol in the same amount which they were buying before the increment in price (Demand inelastic), it shows that the entire Tax Incidence fell on consumers (Buyers).

Hence, this concludes the definition of Tax Incidence along with its overview.

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