Direct Tax Vs Indirect Tax:

Direct taxes are paid in entirety by a taxpayer directly to the government. It is also
defined as the tax where the liability as well as the burden to pay it resides on the
same individual. Direct taxes are collected by the central government as well as
state governments according to the type of tax levied. Major types of direct tax
include:
 Income Tax: Levied on and paid by the same person according to tax brackets as
defined by the income tax department.
 Corporate Tax: Paid by companies and corporations on their profits.
 Wealth Tax: Levied on the value of property that a person holds.
 Estate Duty: Paid by an individual in case of inheritance.
 Gift Tax: An individual receiving the taxable gift pays tax to the government.
 Fringe Benefit Tax: Paid by an employer that provides fringe benefits to
employees, and is collected by the state government.
Indirect tax, as mentioned above, include those taxes where the liability to pay the
tax lies on a person who then shifts the tax burden to another individual.
Some types of indirect taxes are:
 Excise Duty: Payable by the manufacturer who shifts the tax burden to retailers
and wholesalers.
 Sales Tax: Paid by a shopkeeper or retailer, who then shifts the tax burden to
customers by charging sales tax on goods and services.
 Custom Duty: Import duties levied on goods from outside the country, ultimately
paid for by consumers and retailers.
 Entertainment Tax: Liability is on the cinema owners, who transfer the burden to
cinemagoers.
 Service Tax: Charged on services rendered to consumers, such as food bill in a
restaurant.
Therefore, the prime difference between direct tax and indirect tax is the ability of
the taxpayer to shift the burden of tax to others. Direct taxes include tax varieties
such as income tax, corporate tax, wealth tax, gift tax, expenditure tax etc. Some
examples of indirect taxes are sales tax, excise duty, VAT, service tax,
entertainment tax, custom duty etc. However, this is not an exhaustive list of taxes
and more types of taxes are levied by the government on specific cases.
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Difference between Direct Tax and Indirect Tax:

There are different implications of direct and indirect taxes on the country. However,
both types of taxes are important for the government as taxes include the major part
of revenue for the government.
Key differences between Direct and Indirect Tax are:
1. Direct tax is levied and paid for by individuals, Hindu undivided Families (HUF),
firms, companies etc. whereas indirect tax is ultimately paid for by the end-
consumer of goods and services.
2. The burden of tax cannot be shifted in case of direct taxes while burden can be
shifted for indirect taxes.
3. Lack of administration in collection of direct taxes can make tax evasion possible,
while indirect taxes cannot be evaded as the taxes are charged on goods and
services.
4. Direct tax can help in reducing inflation, whereas indirect tax may enhance
inflation.
5. Direct taxes have better allocative effects than indirect taxes as direct taxes put
lesser burden over the collection of amount than indirect taxes, where collection is
scattered across parties and consumers’ preferences of goods is distorted from
the price variations due to indirect taxes.
6. Direct taxes help in reducing inequalities and are considered to be progressive
while indirect taxes enhance inequalities and are considered to be regressive.
7. Indirect taxes involve lesser administrative costs due to convenient and stable
collections, while direct taxes have many exemptions and involve higher
administrative costs.
8. Indirect taxes are oriented more towards growth as they discourage consumption
and help enhance savings. Direct taxes, on the other hand, reduce savings and
discourage investments.
9. Indirect taxes have a wider coverage as all members of the society are taxed
through the sale of goods and services, while direct taxes are collected only from
people in respective tax brackets.
10. Additional indirect taxes levied on harmful commodities such as cigarettes, alcohol
etc. dissuades over-consumption, thereby helping the country in a social context.
Direct and indirect taxes are defined according to the ability of the end taxpayer to
shift the burden of taxes to someone else. Direct taxes allow the government to
collect taxes directly from consumers and is a progressive type of tax, which also
allows for cooling down of inflationary pressure on the economy. Indirect taxes allow
the government to expect stable and assured returns and brings into its fold almost
every member of the society – something which the direct tax has been unable to
do.
Both direct and indirect taxes are important for the country as they are intricately
linked with the overall economy. As such, collection of these taxes is important for
the government as well as the well-being of the country. Both direct taxes and
indirect taxes are collected by the central and respective state governments
according to the type of tax levied.
1. Equity:
Direct taxes like income tax, wealth tax, etc. are based on the
principle of ability to pay, so the equity or justice in the allocation of
tax burden is well secured by these taxes.

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A horizontal equity is maintained by taxing persons in a similar

economic situation at the same rate, so also a vertical equity in
direct taxation is maintained by discriminating between tax payers
according to their differing economic standing.

2. Progressive:
Usually direct taxation is progressive in effect. Since direct taxes can
be designed with fine gradation and progressiveness, they can serve
as an important fiscal weapon of reducing the gap of inequalities in
income and wealth. Direct taxes thus lead to the objective of social
equality. Death duties and inheritance taxes are unique in this
respect.

3. Productive:
Direct taxes are elastic and productive. Revenue from direct taxes
increases or decrease automatically with the change in the national
income or wealth of the country.

4. Certainty:
The canon of certainty is perfectly embodied in direct taxation.
Compared to indirect taxes, direct taxes are more exact and precise
in estimating the revenue. Further, in direct taxes, the tax-payer
knows how much he has to pay and the State can estimate the yields
correctly.

5. Economy:
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The canon of economy is also well maintained under direct taxation.

Direct taxes like income tax etc. being collected annually in lump-
sum, the administrative cost of such collection will be minimum as
compared to the indirect taxes like sales tax, excise duties, etc.,
which are collected at short intervals (usually, quarterly), and which
involve a high cost of collection.

Further, chances of tax evasion are also minimised in direct taxes

when they are collected at source. Gladstone, therefore, puts it as:
“If you had only direct taxes you would have an economical
government.”

6. Educative:
Direct taxes have an educative value as they create a civic sense
among the tax-payers. Citizens realise their duty to pay taxes and
because of the direct burden of taxes they become conscious and
keep vigil on how the public income is spent by the government in a
democratic country.

7. Anti-inflationary:
Direct taxation can serve as a good instrument of anti-inflationary
fiscal policy designed to maintain the price level at a stable level.
 The excessive purchasing power during inflation can be mopped up
from the community through increased direct taxes.

Related Articles:
1. Direct Taxes: 6 Significance of Direct Taxes: Explained!
2. Direct Taxation: 7 Demerits of Direct Taxation – Explained!

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he following reasons may be listed in support of the

gradual increase in direct taxes in the developing
countries:
1. Reduction of Inequalities in the Distribution of Income
and Wealth:
Direct taxes on account of their progressiveness will serve as a
means to reduce inequalities of income and wealth which is an
important egalitarian goal of any welfare state.

2. Restriction of Conspicuous Consumption:

Direct taxes by causing a reduction in the disposable income of the
rich section will tend to check their high marginal propensity to
import and restrict their conspicuous consumption.

3. Mobilisation of Resources:
Direct taxes will mop up economic surplus from the community and
make it available to the government to carry on its capital formation
process under planning.

4. Reducing Inflationary Pressure:

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Direct taxes will help in arresting inflation by mopping up the

excessive purchasing power of the community.

5. Equity in Tax Burden:

Direct taxes will lead to equity in distribution of tax burden, as they
conform to the ability-to-pay principle.

6. Built-in Flexibility:
Direct taxes can be made income-elastic within an appropriate tax
structure so that they can serve as an instrument of built-in
flexibility in the budget. Thus, as an economic stabilizer, their role
should not be underestimated in a developing economy.