Australian tax system Essay Example

Australian tax system

Introduction

The culmination of the Henry Tax Review in 2010 was seen as solution in Australian tax system. However, recent global financial market developments have helped in highlighting the significance of preparing Australia’s economy so that it can hold pressures from the rigours of the 21st century. Putting this statement differently, few years after the Henry Tax Review, researchers are agreeing that Australia needs comprehensive tax reform. As a matter of fact, the recently concluded 2020 Summit highlighted the Australian tax system and in particular, the Prime Minister Kevin Rudd pointed that reformation of some Australian tax system is not only a priority but also ‘root and branch’ (Eccleston & Marsh2013 p. 21). While researchers are still divided on the aspects of the Australian tax system that need reformation, the agreement among these scholars is that the tax system should be geared towards satisfying principles of both efficiency and equity (Spies-Butcher & Stebbing 2011; Auriol & Warlters 2012). This essay critically assesses aspects of the Australian tax system that needs reformation. In particular, provide research based guidelines that can help in the review and reformation of the Australian tax system, including state, federal and local taxes. While this will be a broader approach of the essay, aspects which will need to be addressed will include ways of creating simpler and fairer systems that consider interaction with the social security system. In a snapshot, the aspects or principles of tax reform that should be considered include transparency, efficiency, equity and flexibility.

After the Henry Tax Review in 2010 people have always been tempted to think of fairness in the system but these thoughts are quickly eluded by principles of vertical equity. That is, financially able citizens should be subjected to heavier taxes with regard to their income. The question that arises from this principle is whether there is strategy of taxing individuals who have the ability to be classed as ‘financially superior.’ Rosengard (2012) adds that current taxation system has failed to provide guidelines on how people with capacity can be taxed perhaps at the same aggregate so that we have what the system can term as horizontal equity. While the idea sounds relatively easier to implement, its practicability is a challenge especially in the current Australia’s complex economy. This is even complicated further owing to the inconsistency and complex household structures when it comes to numbers of mixes of work, dependents and income earned.

Secondly, there is need for a reformation that will create efficiency in the system. According to Atwood et al. (2012), efficiency is needed as it is a process through which there will be minimization of distortion of people’s behavior. When there is lower administrative costs and compliance it means the regime will be experiencing scarce resources that are released for more productive uses. Therefore flexibility is desirable as it will change tax rates especially when people witness changes in economic circumstance. The design of Australia’s tax system even after the Henry Tax Review in 2010 does not satisfy the principle of efficiency. With the deductions, exemptions, inconsistent treatment of income depending on its source and concessions, there are more that need to be done. Contextualizing this argument, the system could remove the numerous special exemptions and deductions, many of which are documented in the annual Tax Expenditure Statement as prepared by Australian Treasury (Woellner et al. 2012). When this is done there could be expansion of base to collect in excess of about $10 billion annually in foregone revenue (Woellner et al. 2012). This view has been supported by Evans & Tran-Nam (2013) who found that the figure could be around $30 billion annually. In as much as these exemptions and deductions are currently owned by different taxpayers, they are actually valuable to higher income earners. According to Bell & Hindmoor (2014) what this statement means is that vertical equity neutral reform package and an aggregate revenue-neutral would offer huge tax rate reductions but at higher income levels.

The next issue that has been widely given attention by researchers is the fairness of capital tax gains after the Henry Tax Review in 2010 (Bell & Hindmoor 2014). This is yet another area that needs reform because its fairness has raised a number of concerns. Providing an overview of the situation, a concessional rate is supposed to be applicable with only fifty (50) per cent of the capital gain being subjected to tax (Doran 2013). On the other hand, debt interests that have been incurred in investment funding that earn capital gains should be tax deductible—negative gearing. The challenges with these provisions is that those who are owning small businesses continue to receive different capital gains tax concessions when it is clear that there is no proper efficiency justifications. Recent studies by Bell & Hindmoor (2014) has even indicated that in totality, these small business capital tax concessions in Australia are having a tax revenue costing close to $1200 million in 2013-2014.

The question that needs to be asked is whether the capital gains are fair. Literatures reviewed on the issue are that indeed it is not fair and needs reformation (Bell & Hindmoor 2014; Doran 2013; Agnew 2013). Taking a case study of Bell & Hindmoor (2014), capital gains are not fair as they are largely enjoyed by individuals in higher cadre or those with higher income. Doran (2013) on the other hand found that capital gains needs reformation since the concessions has incorporated essential element of horizontal inequity where households or individuals using other investment and savings options have been receiving little or no tax favours or favourable tax treatment. Agnew (2013) has researched on the efficiency of capital gains and found that the aspect is in need of urgent reformation since the combination of negative gearing and Capital Gain Tax (CGT) discount means that investors will be given an opportunity to arbitrage early periods of deductions of the expenses especially if they are faced with those which are against concessional taxation of the capital gains—both the deferral benefits and the half rate. It is for this reason that Australia has reported instances of encouraged speculators who have been entering the property markets which in turn has proved unhealthy as there is overinvestment in equipment and plant, development, human capital and research.

Another issue that needs complete overhaul is the tax system in the investment in superannuation. Beginning with the current state of fair after the Henry Tax Review, most superannuation attract a flat rate of tax of 15 per cent on funds at the entry as well as 15% on the annual income that has been earned. Agnew (2013) explains this point further arguing that these contributions are from pre-tax income. In total, Eccleston & Marsh (2013) reported that Treasury put estimation to a tax expenditure of close to $30 billion for 2013-2014. What needs to be ascertained is whether this process is actually fair. By any standards, this practice is not fair and needs reform. Burkhauser et al. (2013) find this as a system of flat rate taxation. In addition, individuals on higher incomes are forced to contribute more when they are compared with the compulsory levy to superannuation. Apparently, this is much relative when compared with those on lower incomes. The conclusion that can be made is that the two factors discussed ascertain the fact that superannuation tax concessions are based on regressive approaches as well as in their incidence compared with the benchmark of what is supposed to be progressive income tax.

Furthermore, another concern is whether the investment in superannuation is fair. The fairness is important in this study as it forms basis on how the process of reformation should be carried out. As it stands, the investment in superannuation is very unclear. What is happening in the pattern of investment by the super funds is not unique to cases where savers can decide to place their savings, especially in the context of a general equilibrium model of investment or saving. According to Burkhauser et al (2013), this is a tax system where the super tax concessions are not having the needed net effect on the composition of investment. The most complicated part is the fact that Australia is still growing (a small net capital borrower). That is, since there is possibility of offsetting substitution effects and income, the super tax concessions are in most cases likely to bring limited impacts on aggregate domestic savings. It means that the super tax concessions are by any standards, an unfair redistribution as it only favours individuals with a tax rate that are above 15%.

Thirdly, there is need to address the fiscal drag. Generally, there is a problem with indexing the tax rate schedule. The current state of affair in Australia operates on the premis that personal income tax thresholds of Australian are not indexed. The consequence of this is that as people are exposed to increasing living standards and tax, a larger share of peoples’ income is paid in tax in as much as their actual pre-tax purchasing abilities may not have been altered. Studies have referred to this scenario as fiscal drag, since higher nominal incomes are causing higher average tax rates. This system is basically not fair as there is failure in accounting for the fiscal drag especially when the system is not indexing the thresholds, more so the lower income related thresholds. This in turn affects low-income groups especially in relative terms than the ones with higher incomes. The efficiency of this system has also been researched. Studies such as Bell & Hindmoor (2014) have ascertained that the process of indexing the tax rate is not efficient since in totality, these taxes are invoking certain level of deadweight cost. The resultant effect is that it increases the average tax share when Australians’ actual financial position is yet to change exacerbates this inefficiency.

The point of investment in superannuation is related to the tax treatment of owner occupied housing. The tax system is supposed to exempt owner-occupied housing from capital gains tax besides, imputed rents are not supposed to be taxed. Assessing the fairness of tax treatment of owner occupied housing, data presented from HILDA survey by Headey, Marks and Wooden noted that indeed it is not a fair practice since the distribution of household related wealth that comes inform of owner occupied homes is generally unequal when compared to distribution of income. The resultant effect of this is that household or wealthier people are likely to benefit from the favouring tax treatment of both the other forms of housing and owner occupied. The tax treatment of owner occupied housing is equally not efficient. The favourable tax treatment process of owner occupied housing possibly distorts certain behaviours. Individuals are able to invest more in housing, more so in their own home when compared with other investment alternatives that may have a higher social return to the country as an economy as well as society.

Lastly, fringe benefits as well as work-related deductions is another area where reforms are required. The current situation in Australia is that there are different special exemptions as well as deductions regarding remunerations that come in form of lump sums and fringe benefits. Other than this, there are different work related expenses that are tax deductible. The resultant effect of this process is that fringe benefit tax concession on products such as motor vehicles will surely be skewed to favour high and middle income earners. Besides, the process favours the element of horizontal inequity between individuals who take some of their remuneration as concessionally taxed motor vehicles and those that take as wages.

Conclusion

The conclusion that can be made from the assessments above is that the review and reformation and Australia’s future tax system needs to pursue research and consultations that stretches beyond the Henry Tax Review in 2010. Issues that have been mentioned above are exhaustive but act as a blueprint of the current issues that need attention. Australia has continuously pursued elaborate tax reforms and on that basis it is possible that a comprehensive review is necessary now since there are also tax as well as transfer systems that have not been reviewed in the past reformation processes.

References

Agnew, J. (2013). Australia’s retirement system: Strengths, weaknesses, and reforms. Center for Retirement Research Issue Brief, 13-5.

Atwood, T. J., Drake, M. S., Myers, J. N., & Myers, L. A. (2012). Home country tax system characteristics and corporate tax avoidance: International evidence. The Accounting Review, 87(6), 1831-1860.

Auriol, E., & Warlters, M. (2012). The marginal cost of public funds and tax reform in Africa. Journal of Development Economics, 97(1), 58-72.

Bell, S., & Hindmoor, A. (2014). The structural power of business and the power of ideas: The strange case of the Australian mining tax. New Political Economy, 19(3), 470-486.

Burkhauser, R. V., Hahn, M. H., & Wilkins, R. (2013). Measuring top incomes using tax record data: A cautionary tale from Australia. The Journal of Economic Inequality, 13(2), 181-205.

Doran, C., Byrnes, J. M., Cobiac, L. J., Vandenberg, B., & Vos, T. (2013). Estimated impacts of alternative Australian alcohol taxation structures on consumption, public health and government revenues. Med J Aust, 199(9), 619-622.

Eccleston, R., & Marsh, I. (2013). The Henry Tax Review, cartel parties and the reform capacity of the Australian state. Australian journal of political science, 46(3), 437-451.

Evans, C., & Tran-Nam, B. (2013). Towards the development of a tax system complexity index. UNSW Australian School of Business Research Paper, (2013).

Rosengard, J. K. (2012). Property tax reform in developing countries. Springer Science & Business Media.

Spies-Butcher, B., & Stebbing, A. (2011). Population ageing and tax reform in a dual welfare state. The Economic and Labour Relations Review, 22(3), 45-64.

Woellner, R., Barkoczy, S., Murphy, S., Evans, C., & Pinto, D. (2012). Australian taxation law. CCH Australia.