Australia needs tax reform to prevent millions of people experiencing bracket creep, according to a government discussion paper on the challenges facing the tax system.
The “Re:think” discussion paper, which calls for “lower, simpler, and fairer” taxes does not rule any specific reforms in or out. It is the start of a process that will see the Coalition take proposals for tax system changes to the next federal election in 2016.
It flags Australia’s high reliance on income taxes (both personal and company), system complexity, the “high top marginal tax rate,” and the differential treatment of bank versus superannuation savings as some of the issues it hopes to generate a “national conversation” on.
Other controversial issues the paper canvasses include negative gearing, the goods and services tax, the low value GST threshold on imported goods, and the fairness of the tax system.
The paper introduces the idea of a “tax complexity metric” that would measure relative complexity over time and help government assess the areas of tax law most in need of simplification.
The government has established a website to help make the case for reform, and via which the public can have their say - the deadline for submissions is June 1, 2015.
We asked experts to respond.
Miranda Stewart, Professor and Director, Tax and Transfer Policy Institute, Crawford School of Public Policy at Australian National University.
The paper emphasises Australia’s reliance on personal and company income tax, with a main focus on negative impacts on workers and investors, and a goal of international competitiveness. It highlights the challenges of a “digital” economy for all kinds of tax. Other challenges – especially of fiscal sustainability, inequality and the environment – receive less attention.
In spite of the call for a broad conversation, the issues paper is highly technical and is unlikely to engage most Australians in a tax debate. Still, its breadth and the wide range of topics covered is to be applauded.
The paper emphasises goals of efficiency, fairness and simplicity, and refers to past tax reviews. While it does not explicitly build from recommendations of our last major review – the Henry Tax Review – discussed in TTPI’s recent Stocktake Report – many of the issues raised were seen as important in that review.
The paper explains many gaps and complexities in the personal income tax system – for example, in taxation of fringe benefits, deductions and different legal entities. It points to uneven and complex taxation of investment and savings returns, including home ownership, real estate investment and superannuation. It also points to the exemptions in the GST base and how these are not targeted to low income earners – unlike our individual income tax and social security system. It even includes a reference to estate taxes.
The paper points to the opportunity of reforming Australia’s federation at the same time as the tax system. Indeed, these are inextricably linked and Australia’s last major reform – introduction of the GST – did precisely that. Reforming state taxes could deliver a significant boost to the economy. The goal must be to strengthen and stabilise state revenues, through stronger and more efficient state taxes and more certain allocations of federal taxes - this needs Commonwealth financial support. Most recent tax reforms have been broadly revenue-neutral, with substantial compensation packages. How to fund reform with “lower taxes” in an era of fiscal deficits is not clear. But first, we need to understand where we want to go with tax reform. This paper is an important start. The government should now take the lead in building bipartisan engagement, and engagement with the states on the key goals for tax reform.
GST low-value threshold
Kathrin Bain, Lecturer, School of Taxation ＆ Business Law, UNSW Australia Business School
The issues paper highlights the fact that Australia’s GST coverage ratio of 47% is lower than the OECD average (55%). As noted in the paper, the exemptions reduce the efficiency of the tax and increase its complexity.
One exemption area is the low-value threshold which applies to goods imported into Australia with a value of A$1,000 or less.
The low-value threshold is high by international standards, and is seen to put Australian retailers at a disadvantage. In 2011, the Productivity Commission found strong in-principle grounds for lowering rather than removing the GST low-value threshold. The Productivity Commission found whilst removing the threshold would increase tax revenue by A$600 million, the cost in collecting that additional revenue would be A$2 billion.
The issue then becomes seeking an alternative method to collect GST on low-value imported goods that has lower collection costs. In March last year Joe Hockey announced he had agreed to a request from states and territories to explore options to lower the threshold. However, in September 2014, he said: “States indicated today that they had not agreed a preferred workable approach on this issue. The States may choose to raise this as part of the Tax White Paper process.”
The tax issues paper adds little to the discussion of the low-value threshold, however does list “GST and the digital economy” as one of the current pressures on the GST base. It seems likely that the through the tax white paper process, the government will look at ways to increase GST revenue, whether it is through increasing the GST rate or expanding the base through removal of exemptions. The removal or lowering of the low-value threshold would make the tax system fairer, by putting international retailers on equal footing with Australian suppliers, and it is therefore possible that this change to the GST system would receive political support from the federal opposition and the State governments. However, it makes no sense to do this unless a more efficient method of collecting GST on imported goods is proposed.
The issues paper notes that both the OECD Global Forum on VAT and the OECD Committee on Fiscal Affairs are investigating the taxation on imported services and low-value goods, and it may be a case of the Australian government looking to the OECD for suggested solutions to the issue. However, unless the states agree on an approach to lower the threshold, with associated change in the collection mechanism, I do not see the threshold lowering anytime in the foreseeable future. While it may put Australian retailers at a disadvantage, the additional GST revenue that would be collected is only a fraction of the GST revenue foregone through the exemptions on food, health, and education.
Roman Lanis, Associate Professor, Accounting at University of Technology, Sydney
One of the key points in the issues paper relates to the dividend imputation system introduced in Australia in 1987. It states that:
“dividend imputation ensures there is no double taxation on income from Australian shares owned by Australian resident shareholders and supports the integrity of the business tax system. However, it makes little contribution to attracting foreign investment to Australia other than eliminating dividend withholding tax for franked dividends paid to foreign shareholders. It also involves a significant cost to revenue and may impose more compliance costs to achieve similar outcomes to other jurisdictions.”
In general the discussion surrounding dividend imputation is negative, pointing out the complexities of the system, perceived unfairness and effect on foreign investment. The discussion paper then raises the question:
Is the dividend imputation system continuing to serve Australia well as our economy becomes increasingly open? Could the taxation of dividends be improved?
With respect to foreign investment, no evidence is provided that dividend imputation decreases foreign investment nor is there evidence in the academic literature which indicates that the elimination of dividend imputation increases foreign investment. Only one academic study, using Taiwanese companies suggests that certain companies with higher imputation credits have lower foreign ownership, but the results were vague in relation to the overall impact of dividend imputation on foreign investment. No such evidence exists in Australia.
One major positive effect left out of the discussion paper is that dividend imputation can reduce tax avoidance. Ad hoc evidence suggests some of the largest companies in Australia, the four major banks, Telstra and Wesfarmers pay some the highest effective tax rates. More importantly, they pay fully-franked dividends. This motivates the hypothesis that dividend imputation in Australia contributes to minimising tax avoidance amongst the largest firms. This view is supported by the evidence, which suggests firms in countries with imputation systems have lower tax avoidance than other firms and once they switch to a classical system they experience an increase in corporate tax avoidance. Research from New Zealand, which has a similar dividend imputation system to Australia, also found the imputation system reduces the incentive of certain New Zealand companies, those that pay franked dividends in particular, to minimize tax.
Corporate tax and tax avoidance
Antony Ting, Associate Professor at University of Sydney
According to Australian Treasurer Joe Hockey one of the policy objectives of the tax discussion paper is to “create a tax system that … improves our international competitiveness …”. This is not new or unique to Australia. Many countries have been reducing their corporate tax rates over the last couple of decades.
The average OECD corporate tax rate has been reduced from over 30% in 2000 to 25%. Australia’s corporate tax rate has remained at 30% since 2001. In this context, there appears to be a case to argue for a reduction of the corporate tax rate for the policy objective of international competitiveness.
In considering this move, the UK serves as a telling example. In the past few years, its government has been actively introducing measures to make its tax system “the most competitive tax regime in the G20”. In particular, its corporate tax rate was reduced from 30% in 2007 gradually down to 21% this year and ultimately 20% next year.
However, an internationally competitive corporate tax system does not mean companies should be allowed to engage in aggressive tax avoidance structures. This principle is nicely summarised in the speech of the UK Chancellor when he announced the introduction of the diverted profits tax (commonly known as the Google Tax):
“My message is consistent and clear. Low taxes; but taxes that will be paid.”
The tax discussion paper states that:
“Australia already has some robust and sophisticated laws that deal with tax avoidance by multinational companies. These include comprehensive thin capitalisation rules, tough transfer pricing … rules and an extensive general anti-avoidance rule.”
However, the use of the adjectives “comprehensive”, “tough” and “extensive” can not deny the fact that the rules are not very effective, as evidenced by the “successful” tax avoidance stories of Apple, Google, etc.
In fact, in an ATO internal document that was disclosed under Freedom of Information Act [Senate Enquiry on corporate tax avoidance, Submission 74, Attachment 3, p.7], the ATO admitted that the “extensive” general anti-avoidance rule “is likely to be ineffective in many cases”.
The tax discussion paper argued that:
“lowering our corporate tax rate would also reduce the underlying incentive for companies to engage in profit shifting, debt loading and tax avoidance.”
The argument is questionable on two fronts. First, tax avoidance structures of Apple and Google etc. revealed that many multinational enterprises could achieve zero tax rate on their income. It means that the incentive to engage in aggressive tax avoidance will remain strong even if the corporate tax rate is reduced to 25%. In other words, it is doubtful if lowering the corporate tax rate could be justified on this ground.
Second, it may be politically unacceptable if the government decides to cut the corporate tax rate while increasing the tax burden of the general public.
A tax system should be perceived by the public at large to be fair. As the discussion paper acknowledges:
“Confidence in the tax system can be eroded when people think others are not paying their fair share of tax.”
The current government should have learnt a good political lesson regarding the importance of fairness from its last budget.
If the government intends to cut the corporate tax rate, it must be prepared to strengthen the tax law to effectively deal with tax avoidance by multinationals.
Bryan Vandenberg, PhD Candidate - Centre for Health Economics at Monash University
In a country where three-quarters of the population are drinkers, and many drink too much, taxing alcohol makes dollars, and sense. This is an inescapable fact for a federal government looking for opportunities to help the budget bottom line, in a way that can also curb heavy drinking and the tide of harm from alcohol across the nation.
Probably one of the biggest understatements in the government’s tax discussion paper is that current alcohol taxation is “complex”. Previous commentators’ assessments have been much less flattering and more truthful, with former Treasurer Peter Costello labelling the system a “dog’s breakfast”, and former Treasury head Ken Henry describing it as “incoherent and contradictory”. One thing that is universally agreed is that the system is broken, and it’s more a matter of when not if reforms should start.
As the discussion paper explains, the main cause of disparities and inequalities in the way alcohol is taxed at present is the muddled approach to, on the one hand, taxing wine according to its wholesale value (known as the Wine Equalisation Tax), but on the other hand, taxing beer and spirits according to their alcohol content. The latter is a fairer and simpler approach, and is the way most OECD countries tax wine, beer and spirits products.
From a health perspective, shifting to taxing wine tax according to its alcohol content is the best way of ensuring prices reflect a product’s toxicity and propensity to cause harm. Under the current WET system, the cheaper the wine, the less it is taxed, regardless of its alcohol content. As a result, one standard drink (12.5ml of alcohol) of cask wine (12.5% alcohol) is taxed only 4 cents, whereas mid-strength beer (3.5% alcohol) is taxed 37 cents.
These contradictions don’t assist government revenue, nor do they sustain the industry, with the largest wine producers themselves also calling for reform. International and Australian research shows that modifying the price of alcohol, through taxation, is one of the most cost effective ways for government to discourage heavy drinking and harm in the population. It’s very pleasing to see that discussion about alcohol tax reform will be part of the white paper process and I’m hopeful that sensible and evidence based reform in this area will prevail, eventually.