Alan Kohler: Good idea to keep the 37% tax rate, but the really rich are laughing at us

The next government will have to raise taxes if it wants to address the pressing issues of our time, writes Alan Kohler.

The next government will have to raise taxes if it wants to address the pressing issues of our time, writes Alan Kohler. Photo: TND

It would have been better for Anthony Albanese and Jim Chalmers to have fiddled with the stage-three tax cuts in their first budget last year, which is when election promises are normally broken.

But here we are on the burning platform of a cost-of-living crisis a year out from another election, so “tax cuts for all” it is (again); that show must go on, but for a new audience of possible Labor voters.

A few things to say about the third in the three-step income tax reforms announced by the Morrison government in 2018:

  • Neither stage-three Mark 1 or – probably – Wednesday’s Mark 2 will result in higher interest rates because the Reserve Bank has included the cuts in its forecast of lower inflation and the economists predicting rate cuts this year have all done that as well, and the changes to it are relatively marginal
  • Retaining the 37 per cent tax rate is good, because it will maintain the tax system’s progressiveness and skew the tax cuts more towards those who need it, although plenty of people on six-figure salaries who lost out are struggling these days
  • Wednesday’s “broken promise” is mostly about tax avoidance although that is not part of the discussion.

Tax avoidance motive

The architect of stage three in 2018 was not Scott Morrison or Treasurer Josh Frydenberg, but Maryanne Mrakovcic, the then head of Treasury’s Revenue Group, who retired last year.

She has never spoken publicly about her thinking, but I understand she thought the personal income tax scales, especially the 37 per cent rate, provided too much incentive for tax avoidance, by shifting income to corporate structures and paying company tax instead of income tax.

She apparently thought that was especially a problem with tradies, who have become adept at setting up company and trust structures.

And doing that is worthwhile: In 2018 the tax rate for companies with less than $25 million in turnover (i.e. tradies) was 26 per cent and now it’s 25 per cent below $50 million turnover. For bigger firms it was, and still is, 30 per cent.

It’s true that when you take cash out of the company to pay for groceries or the mortgage you have to pay personal income tax, but a lot of spending, and savings, can be kept within the company.

Mrakovcic apparently knew she was never going to get an increase in the company tax rate past the Coalition, so she proposed cutting the personal income tax rate for most people to 30 per cent, the same as the company tax rate for big firms, and closer to the 26 per cent that corporatised tradies paid.

As you can imagine, that seed fell on fertile soil in the Coalition and sprouted like mushrooms in May: Scott Morrison was only too happy to spruik that 85 per cent of wage earners would pay just 30 per cent tax after 2024-25.

Scales rebalanced

Many people argued passionately against the abolition of the 37 per cent rate because it handed big tax cuts to the wealthiest 10 per cent, which is true and I agree.

Except that $90,000, where it cuts in, is less than the average wage of $95,581 and with interest rates and house prices where they are, anyone earning that wage is not wealthy – far from it, they’re the ones doing it tough, and they wouldn’t have got much benefit from the original stage three.

But someone on $199,000 would have got a big tax cut – from a 45 per cent marginal rate to 30 per cent, and that’s a big saving, and a problem.

Which is why – even though tax avoidance through company structures will continue – I agree with leaving the tax scales where they are and not abolishing the 37 per cent rate, and instead shifting the thresholds to deal with bracket creep, which is what is now proposed.

Bracket creep has been murder these past three years of high inflation, although wages haven’t gone up quite as much.

There was a couple of years of tax indexation in the 1970s – where the income tax thresholds were adjusted for CPI each year – before Malcolm Fraser realised that you’re much better off having a press conference to announce tax cuts that do the same thing … just before elections of course.

The current income tax thresholds are a decade old, and I’ve worked out what they would be now if Scott Morrison had just announced tax indexation in 2018 instead of the grand Personal Income Tax Plan.

It goes like this:

Tax rateIncome threshold nowIf indexed to CPI since 2018

Stephen Smith of Deloitte Access Economics calculated for me what the total personal income tax revenue would be if those indexed thresholds applied: The answer is $292.5 billion.

The actual figure in the latest budget was $303.2 billion, so five years of hypothetical tax indexation since 2018 would have cost roughly $10 billion – half the annual cost of the old stage-three cuts.

And note, by the way, that stage three only takes the top marginal rate to $200,000, not the $217,323 it would be if all the bracket creep was being was handed back to the top salary earners. Now it’s back to $190,000, so more bracket creep is being allowed to stand.

Flat system gone

So why did stage three Mark 1 cost so much more than indexation of the scales alone?

Because the abolition of the 32.5 per cent and 37 per cent tax rates was far more than just handing back bracket creep – it was a fundamental flattening of the income tax system to deal with tax avoidance.

Anyway, that’s gone now – a broken promise – and the income tax system remains progressive, not flat, as it should be.

Progressive income taxation is the only, inadequate way we deal with inequality, and it needs a few steps in the thresholds to work – putting 85 per cent of taxpayers on a flat rate will worsen inequality by taxing those on subsistence wages the same as those who are doing pretty well. Although let’s face it, Australia’s catastrophic housing mess has ensured that anyone with a mortgage on $200,000 is not rich, not really.

Without wealth and inheritance taxes or a proper land tax or resources tax regime, Australia’s really rich people remain untouched, laughing at the rest of us arguing about small change.

Alan Kohler writes twice a week for The New Daily. He is finance presenter on ABC News and also writes for Intelligent Investor

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