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Can Australia devise a fairer taxation system?

By Chris Lewis - posted Thursday, 10 December 2009


Truth is there are no easy taxation solutions based on recent trends.

Sure, we can promote greater taxation efficiency and fairer targeting, but further reform is unlikely to prevent a greater struggle to meet new and old policy needs, including for an ageing population, infrastructure and the environment. Just recently, government data revealed that the proportion of pensioners now getting the maximum rate of assistance had increased to 64 per cent in 2008-09, up from 56 per cent a year earlier. (“Financial crisis hits seniors”, Nine News, November 29, 2009).

We either keep supporting freer trade and accept further difficulties against competition from developing nations, or we become more protectionist and increase taxation levels, although the latter option will also have enormous consequences.

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As Ken Henry indicated in his October 15 Treasury address to the Committee for Economic Development of Australia, one’s individual views are not immune from the dominant policy attitudes of the day. For instance, Henry noted that a consumption tax base “can quickly evaporate when it is concluded that compensation is required for certain groups”. And that more resources for public housing (rather than rent assistance) “can harm a person’s wellbeing” as “people have an incentive not to take on jobs that make their income exceed the eligibility threshold”.

Truth is that Australian governments since the early 1980s have committed to taxation reform (and lower income and company rates) to uphold the national interest because of much greater international economic pressure.

It is equally true that Australia would have been worse off if had not made such taxation reform: it helps explain why Australia still ranked 13th in the OECD in terms of FDI (foreign direct investment) inflows during 1996-2007, although just 18th in terms of FDI outflows.

And such reform helped generate many well-paid jobs in Australia’s service sector. The 2007 World Investment Report ranked Australia 6th in terms of hosting foreign affiliates to the top 50 global financial TNCs (trans national corporations), and 7th in regard to hosting foreign affiliates for the top 100 corporations from developing countries.

Taxation reform also allowed taxation revenue to remain similar (28.3 to 30.6 per cent of GDP between 1985 and 2006).

Australia’s recent taxation reforms are consistent with other developed societies. For example, the top income tax rate has been reduced in every OECD nation with the average declining from 68 to 42 per cent between 1980 and 2007: Australia from 62 to 45, Britain 83 to 40, Sweden 87 to 56, Norway 75 to 40 per cent in Norway, and 73 to 39 per cent in the US.

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And though Australia’s company tax rate declined from 46 to 30 per cent between 1979 and 2001, typical of cuts by OECD nations, Australian corporate tax receipts as a proportion of GDP actually increased from less than 4 to more than 5 per cent of GDP between 1988 and 2005 after being relatively stable for the period 1965-1988.

In comparative terms, Australia’s overall tax burden has been amongst the bottom third of OECD countries since 1965. Australia’s 2006 level was 30.6 per cent of GDP, the 8th lowest in the OECD (average 35.9 per cent) with Denmark and Sweden the highest with 48.9 and 48.2 per cent respectively.

Though Australia’s individual income tax burden is relatively high compared to the OECD average, it has one of the lowest levels if social security contributions and payroll taxes are included. In 2007, Australia ranked 5th lowest in terms of taxes on average wages. Further, Australia’s average effective income tax rate on a range of household types is among the lowest eight OECD countries, notwithstanding the increase in the proportion of personal income tax paid by lower income quintiles (Report of the International Comparison of Australia’s Taxes 2006). For those families with higher tax rates, most benefit from Australia’s relatively highly targeted social security system.

Australia’s indirect tax mix also differs with a lower reliance on value-added and sales taxes and a higher reliance on property and transaction taxes.

In 2007-08, 59.9 per cent of Australian’s total government taxation revenue came from income, 24.4 per cent from goods and services, 8.9 per cent from property, and 4.5 per cent from payroll taxes. The most obvious change in Australian taxation has been the increasing importance of consumption taxes (8 to 13.4 per cent of GDP between 1990 and 2005).

But assuming that policy trends will remain the same in terms of an ongoing commitment to freer trade, where can taxation reform come from if we decide to keep taxation receipts at a similar proportion of GDP?

Australia could make its income tax system more progressive by indexing income tax thresholds to inflation each year as is the case in Canada, the Netherlands and the US.

Australia could also increase its GST rate (10 per cent) on many goods and services to offset or eliminate other forms of taxation, given that it is well below the OECD average of 17.6 per cent (range 5-25 per cent). However, this possibility is not on Australia’s political agenda and an increase would have the greatest burden on lower income earners.

Excise tax, which is deemed efficient because it can be applied without creating undue distortions to consumption decisions and the production of such goods is concentrated at a few production points, does have potential to raise more revenue from petroleum, tobacco and alcohol consumption. But again, Australians can prove reluctant to embrace such an option with public pressure encouraging the Howard government to freeze Australia’s excise duty rate on unleaded petrol at 38.143 cents per litre, already the fourth lowest level in the OECD in 2005. The petrol example alone suggests some difficulty in regards to Australians supporting environmental taxes given that an emissions trading scheme will increase prices for a variety of products.

In terms of company taxation, there will be further calls for a lower rate to address the reality that Australia has one of the highest corporate tax burdens as a percentage of GDP. In 2008, Australia’s rate of 30 per cent was higher than 19 OECD nations (range 12.5-28 per cent), including Sweden (28), Finland (26), Austria (25), Denmark (25) and Switzerland (21).

Henry has also noted that a higher corporate tax rate would have little impact on foreign investment in some local resource companies, but would potentially cause suffering in manufacturing and “businesses wanting to attract foreign equity capital” (Liam Walsh, “Company tax rate matters, says Ken Henry”, The Courier-Mail, September 23, 2009).

However, the tax review is likely to retain Australia’s system of dividend imputation with companies still able to issue dividends to domestic shareholders to allow them to avoid paying a second round of company tax on them. This promotes a bias towards raising money from Australian shareholders (as opposed to overseas), but offers protection “against transfer pricing, or multinational companies siphoning profits back to foreign parents” (Jacob Saulwick, “Fundamental changes ahead in tax review”, Sydney Morning Herald, September 7, 2009).

One area where Henry may increase revenue could be a higher resource tax given that resource royalties as a share of the mining sector’s operating profits dropped from about 30 to 10 per cent between 2001-02 and 2006-07. With such a tax not kicking in until above-average profits in order to promote exploratory projects, it is argued that greater taxation from such a source makes sense given the current resources boom (Saulwick).

At the state level, there are also few possibilities for substantive reform, although the evidence indicates that state governments are struggling to meet their many policy needs with health services alone suffering.

While Henry suggested on August 19, 2009 that stamp duty (on conveyances, insurance premiums etcetera) should be abolished with the revenue loss of $20 billion a year offset by a broadening of land or payroll taxes (Quentin Dempster, “The Henry tax review: is this is end of states?”, ABC News August 21, 2009), competition between the states in regard to payroll tax may limit the scope of such a tax. In 2007-08, payroll tax accounted for 30 per cent of state government revenue, while property tax provided 39.4 per cent.

Other options are suggested by international examples. For instance, some countries have an annual levy on net wealth in respect of movable and immovable property, net of any debt financing (Luxembourg and Switzerland), while Australia is among a minority of OECD countries that does not impose any estate, inheritance and gift duties. Australia also applies the GST to new houses and additional improvements yet the UK does not apply the VAT to new housing. Further, other nations tax family income rather than individual income, including Canada, Spain, Ireland, Switzerland and the US.

Reforms can also be made to existing taxation policies to encourage greater equity given that higher income earners benefitted most from the top tax threshold being increased from a wage of $50,000 in 1999-00 to $180,000 by 2008-09.

For instance, superannuation can be made fairer. With Spies-Butcher and Stebbing noting how those earning over $180,000 per annum can reduce their tax through contributions from 45 to 15 per cent while those earning $34,000 or less got no benefit, they propose a couple of solutions that are neutral in their budgetary impact. One option, after employers deducted tax from superannuation contributions in the same manner as other pay, would provide a flat rate rebate of 20 per cent support for those earning up to $80,000 per annum with the rebate reduced by 1 percentage point for each additional $1,000 of earnings until phased out completely for those earning over $100,000 per annum. If applied in 2005-06, 85 per cent of wage earners would be better off with minimum wage workers $509 better off per annum and full-time males on average weekly earnings (including overtime) receiving an extra $303 (Reforming Australia’s Hidden Welfare State, Centre for Independent Studies, February 2009).

But no solution is ever foolproof or likely to lead to full agreement. Robert Gottliebsen argues that Labor’s 2009 decision to limit those under 50 to just $25,000 for superannuation each year may have a further adverse impact upon home ownership opportunities. In addition to the likelihood that higher interest rates will slow the rate of building construction at a time when the population is rising dramatically, thus adding further to the long-term housing shortage, he suggests that the re-entry of high income earners into the housing market may lead to further price rises. While Gottliebsen notes that the government will curb the interest deductibility rules once it wakes up, this will create even greater housing shortages (“The end of the Australian dream”, Business Spectator, November 4, 2009).

Taxation reform, in this era of freer trade, is seldom a win-win situation despite any sincere effort seeking to reward effort and investment while compensating lower-income earners or meeting important needs.

Henry has suggested some good ideas, but there is always some resistance. For instance, Henry suggests that a tax on road use would help ease congestion (costing the economy about $9 billion a year), yet the Australian Automobile Association will only support such a tax if fuel excise is abolished (Ken Henry, October 15, 2009).

Australia will make ongoing taxation reform, but just who wins and who loses remains to be seen. It may well be that Australia taxes all food products in the future, a policy that will place a greater burden on low income earners.

It has even been suggested that Australia end its tradition of fiscal equalisation that ensures a very high level of fiscal equality between the states when compared with other federal systems, although one has only to look at the US to view the social consequences of a political system that does not provide a similar level of services.

I live in hope. I look forward to the Henry Report but I am not expecting any magical solutions. The competitive nature of the international economy will limit the impact of any taxation reform, unless of course support for freer trade ends. All we can do is make our taxation system fairer, although a greater struggle for resources is likely to occur in regard to addressing old and new policy needs.

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About the Author

Chris Lewis, who completed a First Class Honours degree and PhD (Commonwealth scholarship) at Monash University, has an interest in all economic, social and environmental issues, but believes that the struggle for the ‘right’ policy mix remains an elusive goal in such a complex and competitive world.

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