A progressive tax regime is a tax structure in which the tax rate increases with an increase in taxable income. It means that the tax rate applied to a higher slab of income is higher than the tax rate applied to a lower slab of income.
Many countries have progressive tax regimes because it generates highest revenues for the government. Proponents of progressive tax claim that it results in the highest transfer of wealth from the rich to the poor.
Progressive tax regime is different from flat (or proportional) tax regime and regressive tax regime.
Ikram Khan is a CEO in a multinational telecommunication company in Pakistan. His taxable income is PKR 25 million for tax year 20Y3, majority of which is salary income. 20Y3 tax slabs and rates for salaried persons in Pakistan are given below:
|1||0 to 400,000||0%|
|2||400,000 to 750,000||5% of the amount exceeding PKR 400,000|
|3||750,000 to 1,500,000||PKR 17,500 + 10% of the amount exceeding PKR 750,000|
|4||1,500,000 to 2,000,000||PKR 95,000 + 15% of the amount exceeding PKR 1,500,000|
|5||2,000,000 to 2,500,000||PKR 175,000 + 17.5% of the amount exceeding PKR 2,000,000|
|6||2,500,000 and above||PKR 420,000 + 20% of the amount exceeding PKR 2,500,000|
The table has 6 slabs and it clearly shows that tax rates increase from 0% in Slab 1 to 20% for income falling under Slab 6. This is a progressive tax regime.
Ikram's income tax liability for the period is PKR 4,920,000 as calculated below:
|Total income (Z)||25,000,000|
|Income falling in the first 5 slabs (A)||2,500,000|
|Income in 6th slab (B)||22,500,000|
|Tax rate for 6th slab (C)||20.00%|
|Tax on income in 6th slab (D = B × C)||4,500,000|
|Tax on income in first 5 slabs (E)||420,000|
|Total tax liability (F = D + E)||4,920,000|
|Effective tax rate (F ÷ Z)||19.68%|
Salman Shahid works as an entry level engineer in the same company and he has annual taxable income of PKR 2,200,000. His tax liability is PKR 210,000 as calculated below:
|Total income (Z)||2,200,000|
|Income falling in the first 4 slabs (A)||2,000,000|
|Income in 5th slab (B)||200,000|
|Tax rate for 5th slab (C)||17.5%|
|Tax on income in 5th slab (D = B × C)||35,000|
|Tax on income in first 4 slabs (E)||175,000|
|Total tax liability (F = D + E)||210,000|
|Effective tax rate (F ÷ Z)||9.55%|
Ikram's annual taxable income is PKR 25 million and he is paying 19.68% of his income in taxes. Salman's income on the other hand, is PKR 2.2 million and he pays 9.55% of his income in taxes. The rich pays a higher proportion of his taxable income in taxes, which tells us that tax structure of Pakistan is progressive in nature.
Written by Obaidullah Jan, ACA, CFA