Definition: An ad valorem tax is a type of tax based on the assessed value of an item, such as property or goods. The term “ad valorem” is Latin for “according to value,” indicating that the tax amount is proportional to the value of the taxable item. Common examples include property taxes, where the tax is a percentage of the property’s value, and sales taxes applied to goods and services at the point of sale.
Meaning in Simple Terms: Imagine you’re buying a piece of artwork. An ad valorem tax would be like a fee you pay that’s based on how much the artwork is worth. If the artwork is expensive, you pay more tax; if it’s cheap, you pay less. It’s a way of taxing things based on their value.
Where it is Used in Economics: Ad valorem taxes are widely used by governments as a tool for generating revenue. They are significant in public finance, affecting consumer behavior, business pricing strategies, and the overall economy. Economists study ad valorem taxes to understand their impact on efficiency, equity, and economic growth. They are also considered when evaluating tax policies and their effects on wealth distribution and market prices.
For Example, property taxes charged annually on homes, where the tax rate is applied to the assessed value of the property is a type of Ad Valorem Tax. Import duties on goods brought into a country, calculated as a percentage of the goods’ total value is also Ad Valorem Tax.
Source: A to Z of Economics by Dr. NC Raghavi Chakravarthy