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Taxes can be distinguished by the effect they have on the allocation of income and wealth. A proportional tax is one that places the same relative requirement on all taxpayers—i.e., in the case where tax liability and income move in equal scale. A progressive tax is characterizable by a greater than proportional growth in the tax liability relative to the growth in income, and a regressive tax is characterized by a less than proportional increase in the comparative liability. So, progressive taxes are seen as fighting inequalities in income distribution, while regressive taxes might increase these inequalities.

The taxes that are usually regarded as progressive include individual income taxes and estate taxes. Income taxes that are initially progressive, however, could become less so for the upper-income demographic—especially if a taxpayer is permitted to reduce his tax base by nominating deductions or by taking certain income elements from his taxable income. Proportional tax rates if applied to lower-income categories would also be more progressive if personal exemptions are claimed.

Income measured over the course of a given period does not definitely provide the best measure of taxpaying ability. For example, transitory growth in income can be saved, and during temporary declines in income a taxpayer may opt to pay for consumption by taking from savings. Ergo, if taxation is compared with “permanent income,” it should be less regressive (or more progressive) than if it is compared with annual income.

Sales taxes and excises (save on luxuries) tend to be regressive, because the dissemination of personal income consumed or spent on specific goods declines as the rate of personal income is raised. Poll taxes (also called head taxes), nominated as a flat 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 a lack of certainty about the ability of businesses to shift their tax expenses (see below Shifting and incidence). This difficulty of dictating who bears the tax burden is dependant for the most part on whether a national or a subnational (that is, provincial or state) tax is being determined.

In regarding the economic purposes of taxation, it is relevant to differentiate between several points of tax rates. The statutory rates are nominated in law; generally these are marginal rates, but occasionally they are mean rates. Marginal income tax rates note the fraction of incremental income demanded by taxation when income rises by one dollar. Ergo, if tax liability increases by 45 cents when income increases by one dollar, the marginal tax rate is 45 percent. Income tax legislature often contain graduated marginal rates—i.e., rates that increase as income grows. Structured analysis of marginal tax rates should regard provisions apart from the formal statutory rate structure. If, for example, a particular tax credit (reduction in tax) reduces by 20 cents for each one-dollar rise in income, the marginal rate is 20 percentage points more than indicated by the statutory rates. Since marginal rates specify how after-tax income moves in response to changes in before-tax income, they are the important ones for regarding incentive effects of taxation. It is even more complicated to understand the marginal effective tax rate applied to income from business and capital, as it may depend on such considerations as the structure of depreciation allowances, the deductibility of interest, and the provisions for inflation adjustment. A basic economic theorem shows that the marginal effective tax rate in income from capital is nil under a consumption-based tax.

Average income tax rates show the part of total income that is paid in taxation. The pattern of average rates is the one that is in consideration for appraising the distributional equity of taxation. Under a progressive income tax the average income tax rate grows with income. Average income tax rates commonly rise with income, both because personal allowances are allowed for the taxpayer and dependents and due to that marginal tax rates are graduated; conversely, preferential treatment of income received fundamentally by high-income households might dampen these effects, forcing regressivity, as indicated by average tax rates that lessen as income rises.

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