In 2011 investment guru and billionaire Warren Buffett wrote an opinion piece revealing he pays a lower rate of federal tax than most of the employees in his office. Although other commentators disputed this as a point of fact, the moral principle was set out clearly: tax breaks are available for the rich that are not available to those without the resources to take advantage of them.
This led to a 2012 proposal from US President Barack Obama to introduce a minimum tax rate ensuring a person does not pay less than a specified percentage of their income in income tax. The US proposal applied to households that earn more than US$1 million, and set a minimum tax rate of 30% of household income.
The proposal for the “Buffett Rule” did not make it into law as the Senate voted it down at the first opportunity.
The proposal for a Buffett rule has been added to the tax reform agenda here in Australia with the ALP voting to include it in its platform. The ALP proposal would apply to people with a gross income of more than A$300,000.
The proposal has not been ruled out by the Treasurer, Joe Hockey, despite it not being included in the tax discussion paper released in March of this year.
Around the world there is evidence that inequality is rising. A redistributive tax and transfer system can moderate inequality through application of progressive tax rates. In a progressive system wealthy people should be paying more tax but as a proportion of their income, middle income earners may carry a higher tax burden than some high income earners, because of the availability of tax expenditures and business structures that allow high income earners to reduce their taxable income.
Data in the Re:think Tax Discussion Paper shows that taxpayers in the highest tax brackets access a higher value of tax expenditures, although it represents a lower proportion of their total income.
It is difficult to argue against a proposition that high income earners should be paying a higher average tax rate than low income earners; and generally that is the case. Although it is true that in 2012-13 55 millionaires paid no tax, overall there are only a small number of Australians that earned more than A$180,000 in 2012-13 who paid a marginal tax rate less than 30%.
This does, however, represent erosion of the tax base.
Buffett tax v base broadening
A Buffett rule is a proxy for base broadening. It can be compared to the adjusted taxable income that is used to calculate access to a range of transfer payments. Average tax rates are a very crude measure of inequity in the system. In the Australian context we need to remember that the transfer system is the main tool for redistribution, and the means testing applied for eligibility to many benefits is based on a broader income base than taxable income.
The political argument to adopt a Buffett rule is much easier to sustain than other arguments to expand the tax base. The government has ruled out changes to negative gearing and superannuation concessions, which would have a similar effect to the Buffett rule in ensuring the tax base is broadened. The difference is that these tax shelters are also utilised by middle income Australians, and would have a much broader impact.
It is not good policy to extrapolate from one tax system to another without fully understanding the nuances of each system; such as the different taxation treatment of dividends, property and capital gains. The introduction of a Buffett rule also brings other complexities into the tax system.
The United States has had an Alternative Minimum Tax (AMT) since 1969, specifically designed to address the problem of high income earners not paying their fair share of tax. The AMT is a flat rate of tax applied to the taxpayers income, recalculated to reduce access to certain deductions and tax shelters. For example, the AMT rate of 28% that applies to couples with income greater than $182,500 (2014 rate) is lower than the normal rate of 39.6%, but on a higher alternative income base. However it has been criticised as it requires a double tax calculation, and still does not address the concessional tax rates on capital gains and dividends.
I will leave the last word to Warren Buffett:
“I just think that - when a country needs more income and we do, we’re only taking in 15% of GDP (US), I mean, that - that - when a country needs more income, they should get it from the people that have it.”