Vertical equity is an economic concept related to taxation which states that different individuals have different ability to pay taxes and that those differences should be reflected in the amount of taxes paid. In other words, those with more money should be forced to pay a higher amount in taxes than those with less income. The concept of vertical equity is related to horizontal equity, which states that those with the same ability to pay taxes should have to pay the same amount. Achieving these types of equity is generally managed by manipulation of the tax rate in accordance with income levels.
Taxes are a necessary part of society. They are generally used by governments to fund public works and projects, essentially allowing for the taxes paid by citizens to benefit the society as a whole. Of course, taxes can be a burden for those people who are struggling financially, and most governments make concessions to those people by adjusting the amount of taxes owed based on income levels of its citizens. Setting these tax rates is a process often based on vertical equity.
As the name of the concept implies, vertical equity concerns itself with the range of different citizens' income levels from low to high. For example, a person making $10,000 US Dollars (USD) in a single year will have a harder time paying a flat, yearly tax of $1,000 USD than will a person making $40,000 USD per year. In the case of the person making less, such a tax would comprise a much greater portion of his or her income.
Considering examples such as this, vertical equity insists that taxation should be based instead on how much a person can reasonably afford to pay. This can be achieved by proportional taxation, which assigns a certain tax percentage rate to all citizens, thus ensuring that each person will pay the same proportion of his of her income as all others in society. It can also be achieved through progressive taxes, which call for the richest members of society to be taxed at a higher percentage of their income than those making less.
There are concerns that implementing vertical equity in society actually creates an imbalance of fairness. Some of the richest citizens might claim that they are being penalized for having more money. In addition, since richer people often drive economies by investing their wealth, excessive taxation of individuals with higher income can cause economies to stagnate. It is important for economic and taxation experts to study the effects of taxes on all individuals when deciding upon specific tax rates.
