Association of Chartered Certified Accountants (ACCA) Certification Practice Test

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What type of tax takes a higher proportion of income as income rises?

Specific tax
Progressive tax
Regressive tax
Ad valorem tax

The correct answer is: Progressive tax

A progressive tax system is designed so that individuals with higher incomes pay a greater percentage of their income in taxes compared to those with lower incomes. This approach aims to reduce income inequality by placing a heavier tax burden on those who can afford to contribute more. Typically, progressive taxes have multiple tax brackets, meaning that as one's income increases, not only does the overall amount of tax increase, but also the rate at which income is taxed rises. For instance, a taxpayer may pay a lower rate on their initial earnings and a higher rate on income that falls within higher brackets. This ensures that the more an individual earns, the larger proportion of their income they may contribute towards taxes. In contrast, specific tax refers to a fixed amount of tax per unit sold, regressive tax means that individuals with lower incomes pay a higher percentage of their income compared to those with higher income, and ad valorem tax is calculated as a percentage of the value of a good or service. None of these options embody the principle of increasing tax rates with higher income levels like the progressive tax does.