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What if GST and payroll tax are unconstitutional?

By Gavin Putland - posted Wednesday, 16 December 2009


Raising the GST rate in order to replace that other broad-based indirect tax, namely payroll tax, would exceed Henry's terms of reference and breach the letter of the Rudd Government's election commitment. But it would more than satisfy the spirit of that commitment, because consolidating indirect taxes would reduce compliance costs, hence the cost of living (which is inflated not only by indirect taxes but also by their compliance costs). Besides, the Government's hand might be forced by s.90 of the Constitution, which forbids the States to impose excise taxes.

In the last relevant High Court case, namely Ha v. NSW (1997), the majority held that an excise is "an inland tax on a step in production, manufacture, sale or distribution of goods". If paying the workers is such a "step", that definition would sink payroll tax.

(The same definition, by the way, would also scuttle the existing State stamp duties on new cars and sales of livestock. The States like to live dangerously.)

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The three dissenting judges preferred a narrower definition of excises. In their view the purpose of s.90 was to "prevent impairment by the States of the common external tariff," so that "A State tax which fell selectively upon goods manufactured or produced in that State would be an excise duty ..." They added: "Whether a tax which falls upon locally produced goods discriminates against those goods in favour of imported goods is a question of substance, not form." In substance, domestic payroll tax on labour embodied in goods manifestly discriminates against locally produced goods because it is not levied on the corresponding labour embodied in equivalent imported goods.

Does it matter that payroll tax affects services as well as goods?

Not under the majority definition, because the GST also affects services, and nobody is suggesting that the States could have imposed the GST; that's why the Commonwealth imposed it and handed over the revenue. Under the minority definition, the question is whether a law forbidding discrimination against local goods can be circumvented by discriminating against local services as well. One should hope not. (But I'm not a lawyer and this article is not advice!)

Admirers of payroll tax are keen to point out that it is "shifted" downstream in higher prices, like the GST. They are not so keen to admit that both taxes are also shifted upstream, where GST affects production in general whereas payroll tax affects employment in particular.

In an appendix to the Treasury paper "Architecture of Australia's Tax and Transfer System", it is shown mathematically that an all-in payroll tax is equivalent to an all-in consumption tax under the following unrealistic conditions: (i) no initial savings or capital; (ii) no returns on investment above the discounting rate; and (iii) no exports or imports.

The corresponding realities are: (i) pre-existing assets add to the consumption base; (ii) so do super-normal returns on investment; and (iii) a consumption tax exempts exports and hence the local labour embodied therein, whereas a payroll tax exempts foreign labour embodied in imports (although the Treasury paper is a bit coy on this point).

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Consequently a payroll tax has a narrower base and, lo and behold, does more damage to local employment.

But what if payroll tax really were a consumption tax? A GST also taxes consumption. So if a State GST would be unconstitutional, where does that leave payroll tax?

If State payroll taxes were struck down, the Commonwealth could of course impose its own payroll tax and distribute the revenue to the States. But that would be political madness, because it would waste the best-ever opportunity to eradicate the hated payroll taxes (think of the kudos!), and because it would worsen vertical fiscal imbalance, so that the States could more easily blame Canberra for underfunded services.

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About the Author

Gavin R. Putland is the director of the Land Values Research Group at Prosper Australia.

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