Reform of Australia’s taxation system has to be high on the agenda to raise national productivity, for greater simplicity, and to improve equity. However, because of the magnitude of the challenges to reform it is unlikely that achievable blueprints will be available for the September election.
Challenges include renegotiating commonwealth-state financial relations, explaining the longer term effects and benefits of reform to electors, and the inevitable complaints from some losers in the short run. Rather, it would seem more sensible for the main political parties to recognise the importance of tax reform, perhaps to indicate general directions of reform, and then to prepare draft or green papers early in the next term of government for community discussion, followed by legislation around mid-term.
The case for reform of the taxation and social security systems, together with reform blueprints, were provided in the Henry Review released in May 2010. To the Henry Review reform proposals should be added a more comprehensive and higher rate GST, and the option of no-bars reform of the taxation of superannuation, both of which were excluded from the review’s terms of reference.
A comprehensive taxation reform package could involve any one of, or a combination of, the following:
A comprehensive income tax base which removes current exemptions, such as the concessions for remuneration taken as fringe benefits and superannuation, and a simple progressive tax rate schedule which is automatically indexed for inflation;
Greater neutrality of the effective tax rates on different saving and investment choice options, and a low rate on the taxation of capital income to reflect the relatively high elasticity of supply of capital to Australia;
increased taxation revenue from comprehensive tax bases on the economic rent earned on land, mineral and energy deposits (to replace current royalties), and other natural resources;
Greater revenue from a comprehensive GST base along the NZ model, and at a higher tax rate;
Reform of special taxes on selected products to correct market failures associated with motor vehicles, alcohol, and carbon and other forms of pollution;
Removal of all state stamp duties; and simplify the social security system as proposed by the Henry Review.
The potential gains to national productivity of tax reform are large, and in some cases much larger than the gains from new technology, management and work practices. Taxes change relative prices facing households and businesses. Smart decision makers shift their choices from the high taxed to low taxed options.
For example, to reduce income tax, households shift from taxed employment to untaxed leisure and home production; and to avoid conveyance stamp duty they stay in the old house rather than sell and move with a change in location of employment or family circumstances.
Then, a dollar of tax involves a dollar transfer to government, plus an additional efficiency or productivity cost for the lower well-being from the changed decision. This efficiency cost varies from a few cents to over 80 cents per dollar of tax revenue according to Henry Review estimates.
Replacing a high efficiency cost tax, such as state stamp duties, with a low efficiency cost tax, such as the GST, involves a net efficiency gain of the order of 50 cents per dollar tax mix change. Again, an aggregate revenue neutral reform package with a broader base to fund lower rates can generate efficiency gains of at least 10 cents per dollar tax revenue.
Considerable investment of political capital and time is required to sell comprehensive tax reform. One needs only to reflect on the income base broadening and lower personal income tax rate reforms of the mid-1980s, the base broadening and lower tax rate package for corporations at the turn of the century, and the GST replacement for more distorting indirect taxes and lower income tax package.
Many of the proposed reforms spread across the commonwealth and the states; with memories of failures of the Rudd and Gillard government over the special taxation of the mining industry to do so.
Previous Australian tax debates, and particularly those reported in the media, focus on the night after, or no changes in decisions, scenario. Explaining that a lower Australian tax burden on capital income will encourage more investment, and several years in the future result in higher labour productivity and higher wages which benefit employees rather than capital suppliers, will require an advanced level of political explanation and time.
The current fiscal situation, and also that likely in the future, is tight with very limited options to support tax reform that involves a net revenue cost. Inevitably, a revenue neutral reform package will involve some losers, at least in the short run before the longer term efficiency gains are realised.
Together, the challenges to taxation reform seem very large in the context of an election, and it will take time and expenditure of limited political capital to overcome these challenges. But, the productivity pot-of-gold from comprehensive reform provides the case for reform in the next term of government.