What makes the income tax system so progressive? – the case of Korea

Abstract

We analyse the impact of each component of Korea's income tax system, which includes tax rates, allowance, deduction and tax credit, on overall level of progressivity, using micro-level data in 1991, 1996 and 2000. We find that Korea's income tax system has a surprisingly high level of gap between economic income and taxable income, due to remarkably generous levels of allowance and deduction. These have made nearly half of total taxpayers, specifically 47% in 2000, to pay no taxes effectively. Having analysed the impact of each component of Korea's income tax system on overall progressivity, we find that deduction policy has more impact on progressivity than tax rates and allowance. We highlight that tax credit has played an opposite role in determining the level of progressivity, which is regressive. Our recommendation is that decision makers in Korea should pay more attention to tax credit to increase the progressivity of the income tax system.