Taxes are differentiated by the effect they have on the placement of income and wealth. A proportional tax is a tax that applies the same relative burden on all the taxpayers—i.e., in the case where tax liability and income grow in the same scale. A progressive tax is characterized by a more than proportional growth in the tax liability relative to the increase in income, and a regressive tax is characterized by a less than proportional growth in the comparative burden. Therefore, progressive taxes are regarded as removing a lack of equality in income distribution, but regressive taxes are believed to cause an increase in these inequalities.

The taxes that are usually believed to be progressive include individual income taxes and estate taxes. Income taxes that are declarably progressive, however, may become less so for the upper-income demographic—in particular if a taxpayer is allowed to lessen his tax base by declaring deductions or by removing particular income elements from his taxable income. Proportional tax rates that are applied to lower-income classes would also be more progressive if exemptions of a personal nature are made.

Income measured over a given year does not necessarily come up with the most suitable measure of taxpaying requirements. For example, transitory increases in income may be saved, and in temporary declines in income a taxpayer could select to provide for consumption by decreasing savings. Therefore, if taxation is regarded along with “permanent income,” it would be less regressive (or more progressive) than if made comparable with annual income.

Sales taxes and excises (except luxuries) tend to be regressive, because the share of individual income consumed or spent on specific goods lessens as the level of personal income grows. Poll taxes (aka head taxes), nominated as a set amount per capita, patently are regressive.

It is not simple to term corporate income taxes and taxes on business as progressive, regressive, or proportionate, principally because of uncertainty about the ability of businesses to shift their tax expenses (see below Shifting and incidence). This difficulty of dictating who bears the tax burden rests fundamentally on whether a national or a subnational (that is, provincial or state) tax is being decided.

In considering the economic effect of taxation, it is important to differentiate between varied points of tax rates. The statutory rates will be specified in legislation; generally these are marginal rates, but for some cases they are mean rates. Marginal income tax rates indicate the fraction of incremental income that is demanded by taxation when income increases by one dollar. Thus, if tax onus increases by 45 cents when income rises by one dollar, the marginal tax rate is 45 percent. Income tax statutes often contain graduated marginal rates—i.e., rates that rise as income increases. Structured analysis of marginal tax rates need to consider provisions in addition to the formal statutory rate structure. If, for example, a particular tax credit (reduction in tax) decreases by 20 cents for each one-dollar rise in income, the marginal rate is 20 percentage points higher than indicated within the statutory rates. Since marginal rates display how after-tax income is changed in response to changes in before-tax income, they are the relevant ones for assessing incentive effects of taxation. It is even more complicated to know the marginal effective tax rate applicable to income from business and capital, since it may be dependant on considerations including the structure of depreciation allowances, the deductibility of interest, and the provisions for inflation adjustment. A basic economic theorem grants that the marginal effective tax rate in income from capital is nothing under a consumption-based tax.

Average income tax rates determine the part of total income that is paid in taxation. The pattern of average rates is the one that is important for assessing the distributional equity of taxation. Under a progressive income tax the average income tax rate grows with income. Average income tax rates commonly increase with income, both because personal allowances are provided for the taxpayer and dependents and due to that marginal tax rates are graduated; on the other side of things, preferential treatment of income received mostly by high-income households could dwarf these effects, forcing regressivity, as shown by average tax rates that lower as income increases.

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