What is a Luxury Tax?

A luxury tax is a sales tax or surcharge levied only on certain products or services that are deemed non-essential or accessible only to the super-wealthy.

The luxury tax may be charged as a percentage of the purchase price, or as a percentage of the amount above a specified level. For example, a luxury tax might be imposed on real estate transactions above $1 million, or car purchases over $70,000.

All taxes are controversial but some are more controversial than others. A sales tax is generally charged to all buyers of goods and services within the jurisdiction that levies it. When charged on essential goods, like food and medicine, they are seen as disproportionately burdensome to lower-income consumers, who are forced to pay a higher percentage of their income in sales taxes.

Luxury taxes generally fall into two categories. So-called "sin taxes" are imposed on products like cigarettes and liquor and are paid by every buyer, regardless of income. Anyone who objects can just stop buying it. In imposing the tax, the government is both discouraging the use of these products and raising revenue from those who keep buying them. Taxes on items that can be purchased only by the wealthiest consumers, who presumably can afford to pay the premium.

Both taxes are relatively popular because they hit only a minority of the population. But even luxury taxes can be politically controversial. A so-called "yacht tax" was enacted in the U.S. 1991 in order to pay down the federal deficit. It covered a number of luxury goods including private jets, furs, and jewelry, as well as yachts. The tax was abolished in 1993 on the grounds that it killed the yacht industry and many American jobs along with it.

Luxury taxes are often imposed during times of war to increase government revenues, or to fund another large expense without raising taxes on the general population. Their opponents cite the danger of job losses, but the vast majority of people are unaffected and unconcerned.

Then again, sometimes luxury taxes just don't work. A "window tax" was imposed on English homeowners beginning in 1696. The theory was that people with bigger houses had more windows, and therefore should pay more taxes than those in modest dwellings. Rich people throughout the land promptly boarded up most of their windows.

Since luxury goods are attributed to the wealthy in society, it is expected that the majority of taxpayers will not be affected by a luxury tax. However, as what is viewed as luxury changes over time, and as prices rise due to inflation, more people will be subject to this progressive tax. Goods considered as normal or ordinary goods may be hit with luxury taxes if the government needs to increase its revenue.

investopedia