Direct Tax vs Indirect Tax

Direct tax refers to all those taxes the person directly bears, and the incidence of such tax does not pass to the other person. In contrast, indirect tax refers to all those taxes not directly borne by the person, and the incidence of such tax passes to the other person, i.e., to the end consumer.

Taxes are sources of revenue for the government, which the government charges on individuals or corporations. When a corporation makes a profit or an individual earns money over a limit, they need to pay taxes to the government. Taxes can broadly divide into two types; they are direct and indirect tax.

The government directly collects direct taxes from individuals or companies. A direct tax is imposed on individuals, and the liability to pay that tax is on that individual; the individual cannot pass on that tax to any other individual. In a way, the direct tax is relatively less of a burden on an individual as the quantum of the payment is decided by the income level of that individual.

If an individual has less income, the direct tax paid is also less and vice versa. One problem with direct tax in India from the government's standpoint, is that there are chances of direct tax evasion by individuals or organizations. The reason behind that is that the administrative cost to collect direct tax is comparatively higher, resulting in an inability to map every individual effectively. The different types of popular direct taxes are income tax, wealth tax, corporation tax, property tax, gift tax, and inheritance tax.

Indirect taxes, on the other hand, are taxes collected by the manufacturers or sellers of goods or services and paid to the government. The various intermediaries pass that tax to the consumers, which is paid to the government first. The chances of evading indirect taxes are lesser than direct taxes, as, in the case of indirect taxes, the taxes are already embedded in the prices of goods and services sold.

The different types of indirect taxes are central excise, central sales tax (CST), service tax, customs duty, octroi, value-added tax (VAT), and securities transaction tax (STT).

The key differences are as follows –

• Direct tax is that tax that is imposed on an individual and paid by an individual, whereas the taxes the taxpayers indirectly pay are known as Indirect tax. An individual pays a direct tax on his wealth and income, but the consumers pay indirect tax to the government.
• Direct tax liability is solely on the individual, and it cannot be passed on to any other entity. In contrast, indirect taxes are passed on to the consumers by the manufacturers.
• The direct tax creates fewer burdens on an individual since the deciding factor is the individual's income. But indirect taxes create more burden as it is not related to income but depends on purchasing goods and services.
• A direct tax can be evaded if there is a lack of proper administration of the collection procedure, but indirect tax cannot be avoided.
• Direct tax is very much progressive, but indirect tax is regressive.

If we compare the taxes, both have their own sets of positives and negatives. Indirect taxes are easily collected since the manufacturers or sellers pass them on to the consumers, who have to pay these taxes if they purchase goods and services essentially.

Direct taxes are relatively harder to collect if there is no proper collection process and are entirely dependent on the individual's income level.

This article has been a guide to Direct Tax vs. Indirect Tax. Here we discuss the top differences between direct and indirect tax, infographics, and a comparison table. You may also have a look at the following articles –

• Effective vs. Marginal Tax Rate
• Deferred Tax
• Tax Haven Meaning
• Effective Tax Rate Calculation