When firms are taxed on a proportional basis, it is _____________.

Direct Tax

The correct answer is option (1) : Direct Tax

When firms are taxed on a proportional basis (meaning a fixed percentage of their profits or income), it refers to a direct tax, because the tax is levied directly on the firm’s income or profits.

NCERT Text:"The government sector affects the personal disposable income of households by making transfers and collecting taxes. It is through this that the government can change the distribution of income and bring about a distribution that is considered ‘fair’ by society. This is the redistribution function. The redistribution objective is sought to be achieved through progressive income taxation, in which higher the income, higher is the tax rate. Firms are taxed on a proportional basis, where the tax rate is a particular proportion of profits. So, direct taxes can be progressive (the tax rate increases as the taxable amount increases), proportional (the tax rate is fixed, it does not change when the taxable base amount increases or decreases)."

Note: It's true that a proportional tax does not increase with income — the rate remains constant — but that does not make it an indirect tax. The key difference lies in who bears the burden of the tax. A tax levied directly on a firm’s income or profits is classified as a direct tax, regardless of whether the rate is fixed (proportional) or varies (progressive). In contrast, indirect taxes are those levied on the sale of goods and services, and their burden can be passed on to consumers. Since the tax mentioned in the question is directly imposed on the firm’s income on a proportional basis, it correctly falls under the category of direct tax.