It is a shame that the GST is off the menu at October’s Tax Forum, because one of its central tenets – the exemption of basic food and beverages – deserves to be debated again.
The exemption is basically a legacy of the political realities in the late 1990s necessary to implement the GST in Australia.
At the time it was introduced, there was a great deal of scepticism in Australia about the merits of consumption taxes (most of it unjustified).
The net effect was that to win political support for the GST, the Howard Government needed to incorporate an exemption for basic food items as this was seen to assist those on lower incomes (the ABC documentary The Howard Years provides excellent coverage of the political negotiations around this point).
An unfortunate aspect of the recent Henry Review into Australia’s tax system was the exclusion of any discussion involving increasing the rate or base of GST.
Treasurer Wayne Swan recently confirmed this attitude will be carried into October’s Tax Forum.
Yet removing the GST food exemption would allow the government to provide more targeted and cheaper assistance to those who require it, rather than the present system that makes for a nice sound bite, but defies any logical scrutiny.
A general concern surrounding the GST is that it raises the general level of prices. While there is some merit to this argument (remembering that the price of many items actually fell when the old sales tax system was abolished), the usual follow-on is that this causes the GST to be regressive.
Without addressing why this argument is incorrect (as a political argument masquerading as an economic one), the important point here is that everyone needs to buy certain basic items to survive.
As everyone needs to eat, then at least basic food should be exempted so that food prices are lowered and lower income families are given a helping hand.
Exempting food in this way, though, is far from the best way of achieving the desired result of helping such people. One outcome is that the exemption may actually cost more than the benefits it produces.
The first problem is that the exemption applies generally, yet is intended to be targeted. That is, it is meant to help those on lower incomes, but is available to everyone.
While the single mother living on government payments trying to raise two children pays no GST on the fresh food she purchases, neither does the partner of a major law firm who earns $2 million a year.
This makes the assistance more expensive than it needs to be, with at least one of two outcomes. If the exemption has a predetermined fixed cost, then less than this amount is going to those it is intended to assist.
This is because the entire population is receiving some assistance in the form of lower food prices, whereas the intended recipients are only a subset of the population.
The alternative, but not necessarily mutually exclusive effect is that the assistance becomes more expensive than is necessary. Imagine that instead of a fixed total cost, there is a predetermined amount of assistance that will flow to those intended to benefit from the measure.
But, because everyone can purchase food GST-free, the cost of the measure is higher than what it otherwise would be.
This means that either (a) the GST rate is higher than it needs to be and/or (b) there is less tax revenue to be used to fund hospitals, schools, roads, etc.
The second problem is the additional complexity that the exemption brings into the GST. As not all food is exempt, suppliers of food need to spend large amounts of money ensuring that they are charging GST on appropriate items.
This is far from an exact science. To illustrate, I was once involved in a group training exercise during my early days as a tax practitioner (just after the GST’s introduction) where we considered the classification of drinkable yoghurt under the exemption.
Essentially, the debate came down to whether we thought that, as a yoghurt product, was it a food that did not qualify for the exemption (basically because it was processed) or, because it was “drinkable”, did we think it qualified for the exemption as a beverage?
These problems will be resolved by abolishing the food exemption. To achieve the exemption’s aim, a system should be set up separate from the GST so that all of the assistance goes to those that it is intended to help.
This can be as cash payments, or vouchers or some other means so that those on low incomes can more easily afford the food that will increase in price.
The benefits are that close to 100% of the funds spent on the measure go to those requiring assistance, revenue is freed up either to fund other worthwhile public projects or tax relief and the GST’s complexity is reduced, minimising the compliance costs for businesses affected by the food exemption.