Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 555

The mixed fortunes of tax reform in Australia, part 1

This article is based on edited extracts from Paul Tilley’s book, Mixed Fortunes: A History of Tax Reform in Australia, published by MUP https://www.mup.com.au/books/mixed-fortunes-paperback-softback.

-----

A country’s tax system has a quasi-constitutional character in that it establishes how a community shares the burden of funding government services and substantially remains in force over long periods. Major tax reform exercises, therefore, should be few and far between. On occasion, though, a government needs to fundamentally rethink aspects of its tax structure which have become flawed or outdated. We now face one of those occasions.

Australia’s tax reform fortunes, though, have been mixed. While there have been numerous tax reviews at the Commonwealth and state levels, most have not resulted directly in substantive tax reforms. This two-part series looks at that history and explores the pathway forward. Part one will look at the history of the Australian tax system and the issues it now confronts. Part two will look at specific tax reform episodes and contemplate ‘where to from here’.

Development of the Australian tax system since Federation

At Federation in 1901, the newly formed Commonwealth Government was given exclusive constitutional access to customs and excise. The Commonwealth subsequently used its dominant constitutional and economic position to also monopolise broad-based income and consumption taxes, leaving the states and territories with an eclectic mix of taxes, including payroll tax, stamp duties and land tax, most of which suffer from design flaws accentuated by interstate competition.

The development of the Australian tax system has featured a ratcheting up of the tax take in times of crisis. As Chart 1 shows, from around 5% of GDP at Federation, the tax burden stepped up in WW1, the Great Depression, and WW2. It then increased steadily in the post-war period to 25-30% by the 1980s, and has been around that level since.

Chart 1: Tax/GDP since Federation

Commonwealth tax mix

The main driver of these changes has been income tax. Chart 2 shows the transition at the Commonwealth level from an initial reliance on customs and excise duties to income taxes. A striking feature of this chart is that individuals' income tax has been broadly steady at around half of total Commonwealth tax revenue for the past 50 years.

Chart 2: Tax Mix since Federation (Commonwealth)

State tax mix

The Commonwealth dominance of income taxes and broad-based consumption taxes left the states and territories with an eclectic mix of other taxes. As Chart 3 shows, after the Commonwealth forced the states out of income tax, they have been reliant on a collection of limited tax bases. Payroll tax and stamp duties now dominate, with royalties also important for some states.

Chart 3: Tax Mix since Federation (States and Territories)

International comparison

As Chart 4 shows, Australia’s overall tax burden is lower than the OECD average. This observation needs to be tempered, though, by the nature of Australia’s Superannuation Guarantee payments which are private, but given the compulsory contribution and preservation requirements they have some similarity to the European-style social security payments which are classified as taxes.

Chart 4: Total Tax Revenue as a Proportion of GDP, OECD Countries, 2020

Australia has a higher proportion of income taxes in its tax mix than most OECD countries, although this observation also needs to be tempered by the non-inclusion of social security contributions in that measure which make up a quarter of total tax revenue on average in OECD countries.

Assessment of the Australian tax system

Aspects of Australia’s taxes remain arcane and sorely in need of reform. A real estate agent would describe the Australian tax system as a renovator’s delight. We are not well positioned for the challenges that lie ahead, including the possible need to increase the overall tax burden in the face of large spending pressures in areas such as disability support, age care, health and defence.

At the Commonwealth level, the heavy reliance on personal income tax is problematic as an aging population means future generations of workers will need to shoulder an increased burden, with worrying intergenerational equity consequences. Ken Henry refers to this as an intergenerational tragedy of our own making. Likewise, the future of the company income tax system warrants reconsideration in a world where the cost of capital is set in international markets.

At the state level, the continued use of outdated and inefficient transaction taxes creates economic disincentives and impediments, while potentially efficient tax bases, such as land and payrolls, are in need of repair.

Income taxes

Individuals' income tax remains Australia’s largest tax and the one that most fully meets the general tax policy criteria of revenue adequacy, efficiency, equity and simplicity. That said, there are several potential reform issues.

Individuals' income tax is broadly based for labour income but provides some significant concessions and inconsistencies in the taxation of savings vehicles, such as superannuation, housing and capital gains generally. These tax concessions generally favour higher income individuals with concerning equity implications. Other issues include the work disincentive effects of high effective marginal tax rates that result from the interactions with the transfer system, and the ever-present bracket creep.

Company income tax is vulnerable in the global economy in which large businesses substantially operate. Australia’s company tax rate of 30% is high by international standards, raising questions about the implications for attracting internationally mobile foreign capital. However, it is also significantly below the top individuals' income tax rate of 47% (even more so for smaller companies with a 25% rate), creating opportunities for tax avoidance practices.

Going forward, with company income tax vulnerable and other tax bases either inefficient or constrained in various ways, increased weight will likely fall on personal income tax levied on future generations of workers. Thus, the intergenerational inequity on a large scale.

Rent taxes

Taxes on economic rents are relatively efficient, as by only applying above the normal rate of return they should not influence investment decisions. While resource rent taxes have a difficult history in Australia, more consistent resource rent tax arrangement in the Federation, possibly replacing existing royalty arrangements, is an obvious area of focus for a future tax reform exercise.

Goods and services tax

Australia’s GST is levied by the Commonwealth using its constitutional power, but with the revenue passed to the states. The Australian GST, though, applies to only half of consumption and operates at a significantly lower rate than most OECD countries, presenting obvious reform opportunities.

While GST reform options are constrained by equity considerations, an increased GST rate could replace further inefficient state taxes such as the remaining stamp duties. The requirement for all nine governments to agree on any changes to the GST, though, makes reform politically difficult.

Excise duties

Australia’s system of excise duties applies additional taxation to areas of consumption with substantial externalities or other public good characteristics, in particular the so-called ‘sin’ taxes on tobacco, alcohol and petrol.

Fuel excise warrants consideration, though, with the switch to electric vehicles requiring consideration of how to charge for congestion and road use/damage aspects. A broad system of road-user charges may ultimately be necessary.

Payroll tax

A broad-based payroll tax is relatively efficient, with similar incidence to a broad-based consumption tax. The state payroll taxes, though, have substantial exemptions for smaller businesses which narrow the bases, compromising their efficiency. While governments have not been prepared to extend payroll tax to smaller businesses, there have been successful efforts to harmonise aspects of the payroll tax bases and definitions between jurisdictions.

Stamp duties

Stamp duties are generally considered to be relatively inefficient transaction taxes and considerable efforts have been made to remove them over recent decades. The remaining stamp duties continue to raise substantial revenue, however, and so further reductions or removal will require the identification of alternative revenue sources.

The largest, and most contentious, remaining stamp duty is on property conveyances. It is a volatile source of revenue and a disincentive to housing turnover, thus acting as a restraint on mobility and an inequitable impost on individuals who do need to move more often. A tax mix switch from conveyance duty to land tax, preferably broad-based, is therefore an obvious reform direction.

Land tax

A broad-based land tax is a potentially efficient tax given the immobility of land. The existing state land taxes are generally levied at progressive rates on unimproved land values, but with exemptions for owner-occupied housing and primary production land. Levying the taxes on unimproved land avoids creating a disincentive for development, but the progressive rates discriminate against larger parcels of land.

Property rates

Property rates are applied by local governments, under delegated authority from state governments, as a broad-based land tax. They have been assessed as Australia’s most efficient tax and are well suited to funding local government services.

Where to?

With so many fundamental tax reform issues across the federation to address it is hard to know where to start. Incremental reform efforts have failed to make major in-roads, and indeed at times have gone backwards.

A major tax reform exercise would require the commissioning of a formal tax review. This approach has underpinned the major tax reform packages that Australia has achieved in the past. The three most notable of those are the Curtin government’s 1942 income tax unification, the Hawke government’s 1985 income tax base–broadening package, and the Howard government’s 2000 consumption tax base–broadening package. Sadly, though, many other tax reviews have only delivered partial reforms, at best.

Part two of this series will look at the main tax reviews Australia has undertaken and explore the question of what are the key ingredients that make a tax reform exercise work, or not.

 

This article is based on edited extracts from Paul Tilley’s book, Mixed Fortunes: A History of Tax Reform in Australia, published by MUP https://www.mup.com.au/books/mixed-fortunes-paperback-softback.

Paul Tilley was an economic policy adviser to governments for thirty years, working mainly in Treasury but also the Department of the Prime Minister and Cabinet, the Treasurer’s Office, and the Organisation for Economic Co-operation and Development. He is a Visiting Fellow at the Australian National University’s Tax and Transfer Policy Institute, and a Senior Fellow at the Melbourne Law School.

 

9 Comments
Laurie
April 17, 2024

Instead of continuing current taxation practices, or thinking of new ways to tax the public (as if taxing every purchase we make using our post-tax income isn't enough, you then need to pay rates on the property you purchased that had stamp duty applied in the first place AND was bought with post-tax income, etc, etc) perhaps the government should open itself to an unbiased, 3rd party review in order to increase efficiencies and manage the significant revenues they generate from Joe Public in the first place.

Algynon
April 17, 2024

The most telling data about the tax reform issue is the first graph: Tax/GDP since Federation.
For the 50 years between 71-72 and 21-22 that figure has been between 25 and 30%.
Governments of either persuasion are unable or unwilling to radically reduce that. Citizens demand ever increasing government services or handouts, whichever term you prefer. And powerful rent-seeking groups will always prevail in getting subsidies.
So, tax "reform" is usually a mixture of redressing bracket creep and robbing Peter to pay Pauline.
Given that income inequality appears to be on an uptrend, then for social cohesion it probably will result in a continuation of a progressive income tax scale with higher income earners paying higher marginal tax rates.
And given that high income earners pay a disproportionate amount of total income tax, it is unlikely that Federal budgets will not bear a significant reduction in the top rates.
GST increases are possible, but politically problematic with small parties and independents often having veto power.

Algynon
April 18, 2024

Erratum: “ … it is LIKELY that Federal budgets … “
The old double negative. :)

Lyn
April 17, 2024

It's interesting on Chart 4 that Switzerland and Australia are in similar positions, and Switzerland & Austria which are similar countries with similar population (approx 9mill) are so dissimilar on the chart yet both provide free tuition at University to their nationals. With almost 3 times population and its' natural resources, one would think Australia could match Swizerland with free Uni. Maybe we could ask the Swiss government nicely for their blueprint instead of future, costly tax reform Inquiries.
Many may say the Swiss need less schools, hospitals and roads due to land and population size but it's possible it costs much more to maintain their services, roads, railways and mountain passes when wholly snow covered so much of the year re safety and engineering with renowned precision of time and efficiency.

Greg
April 11, 2024

Rather than just a comment about the different treatment of social security / pension contributions between Australia and Europe, how about attempting to adjust for this difference. The table is completely misleading as presented.

Kevin
April 11, 2024

I'm baffled Greg,it is easy.Why do you need a table. The UK is NICS. A %age of your wages is taken out.When you retire everybody gets the same amount.A pooled fund.As long as you retired after 2016 and have 35 years of contributions you get the full pension ~ £221 per week. If you don't have 35 years in you get 1/35 of the pension for each full year of contributions.Obviously you will work longer than 35 years,you still get the same £221 per week or whatever the rate is in the future. You die before you reach pension age the money is lost,it stays in the pool. The workers now paying NICS are paying for the old people,same as ever.

Super in Australia,exactly the same thing,a %age of your wages is taken out to pay your future pension.This money is yours,still pooled for the investments,but still yours,you can't lose it.Well you might,super funds aren't very keen to give it back to you.Loss of fees and a %age of your money.

For the rest of your life people will demand their fair share of my super.I want money,why can I not get it from the super fund.I don't want to pay market rates for money I want it cheaper.It just isn't complicated. What needs adjusting for the difference of taking a %age of your wages in one country,to taking a %age of your wages in a country on the other side of the world.

CC
April 11, 2024

the top individual income tax rate is more like 49% when you add in the Medicare levy surcharge ( that is applied to high income earners who don't instead pay expensive private health insurance ) plus other levies that are added in from time to time such as Budget Repair Levy and disaster levies ( Fire / Floods ).
In my opinion it is absurdly high for someone earning over only $180K as currently stands. Try telling someone in Sydney or Melbourne on that income that they are extremely rich.....
It should either be lowered to 40% plus Medicare levies ( which means at least 42% anyway ) or the threshold should be raised well above the $190K that has been set for next financial year onwards

Peter B
April 12, 2024

Even at 40% it means that you are working for the government for two days out of five in a working week and only get to take home the rewards of your labour in the middle of the week. At some stage we also need to stop demanding that the government do everything for everybody to lessen the tax burden.

Ralph
April 15, 2024

Not sure if you are working for the government. Your taxes also pay for schools, hospitals, roads, defence and the plethora of public servants. They all need to be paid for and as the tables show, many countries pay more.

 

Leave a Comment:

     

RELATED ARTICLES

The mixed fortunes of tax reform in Australia, part 2

For the younger generation, we need to get real on tax

Meg on SMSFs: negative earnings and the $3 million tax

banner

Most viewed in recent weeks

Where Baby Boomer wealth will end up

By 2028, all Baby Boomers will be eligible for retirement and the Baby Boomer bubble will have all but deflated. Where will this generation's money end up, and what are the implications for the wealth management industry?

Are term deposits attractive right now?

If you’re like me, you may have put money into term deposits over the past year and it’s time to decide whether to roll them over or look elsewhere. Here are the pros and cons of cash versus other assets right now.

Uncomfortable truths: The real cost of living in retirement

How useful are the retirement savings and spending targets put out by various groups such as ASFA? Not very, and it's reducing the ability of ordinary retirees to fully understand their retirement income options.

How retiree spending plummets as we age

There's been little debate on how spending changes as people progress through retirement. Yet, it's a critical issue as it can have a significant impact on the level of savings required at the point of retirement.

Meg on SMSFs: $3 million super tax coming whether we’re ready or not

A Senate Committee reported back last week with a majority recommendation to pass the $3 million super tax unaltered. It seems that the tax is coming, and this is what those affected should be doing now to prepare for it.

How much do you need to retire comfortably?

Two commonly asked questions are: 'How much do I need to retire' and 'How much can I afford to spend in retirement'? This is a guide to help you come up with your own numbers to suit your goals and needs.

Latest Updates

Economy

Is 'The Great Australian Dream' a sham?

Peter Dutton has made housing a key issue for the next election, pledging to “restore the Australian dream” of home ownership. It got me thinking about what this dream represents, how it originated, and whether it’s still relevant today.

Superannuation

Clime time: Taxing unrealised capital gains – is there a better idea?

The efficacy and fairness of establishing an unrealised gains tax regime will hopefully be hotly debated at the next election. We need better ideas on how to use the strategic and unique benefits of our massive super funds.

Retirement

How long will you live?

We are often quoted life expectancy at birth but what matters most is how long we should live as we grow older. It is surprising how short this can be for people born last century, so make the most of it.

Investment strategies

What poker can teach us about investing

So-called ‘resulting’ is what poker players call the tendency to judge a decision based on its outcome rather than its quality. It's something that happens a lot in investing, though should be avoided at all costs.

Latest from Morningstar

Should you buy and hold an Artificial Intelligence portfolio?

For those with the patience to own an investment as volatile as the AI sector, buying and holding a stock basket might make sense. However, based on internet stocks’ history, you need not rush to do so.

Strategy

The bull market in commodities may be just starting

The world is entering a higher cost environment which will hit the profits of companies in many sectors. A key beneficiary will be commodities, where supply shortages are meeting increasing demand from AI and green energy.

Shares

The challenges facing electric vehicles

Slowing demand and profit warnings from the EV manufacturers has seen analysts revise down their EV penetration forecasts. What's behind the slowdown, and are the issues a blip or something more serious?

Sponsors

Alliances

© 2024 Morningstar, Inc. All rights reserved.

Disclaimer
The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third-party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use. To the extent any content is general advice, it has been prepared for clients of Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892), without reference to your financial objectives, situation or needs. For more information refer to our Financial Services Guide. You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.