Beware of business people seeking a simpler and fairer tax system. Invariably, they mean a tax system in which they pay less tax. In short, a less fair tax system.
Tax systems are a bit like voting systems. Simplicity does not necessarily go hand in hand with fairness. Fairness often requires complexity. For example, a simple first-past-the-post, single-member electoral system rarely results in an accurate portrayal of the popular will.
The report handed down by the head of Treasury Ken Hendry this week revealed that Australia has 125 taxes. It reveals a complicated system of cash transfers through the tax system to an array of people who have special needs. It says that 90 percent of the revenue is raised by just 10 of the 125 taxes.
The report also revealed that Australia has a higher reliance on taxes on capital rather than labour compared to other countries in the Organisation of Economic Co-operation and Development.
These points have led to a lot of hand-wringing in the business community and for calls to remove of a lot of so-called “inefficient” taxes.
However, efficiency and simplicity do not always go hand in hand, either. I daresay that an intricately engineered BMW is far more efficient than the simple Morris Minor of old.
The trouble with a simple tax system is that it provides too many opportunities for avoidance. Former Treasurer and Prime Minister Paul Keating may well have added to the complexity of the tax system when he introduced the fringe benefits tax and that the capital gains tax, be he made the system fairer.
Before those taxes were introduced it was a fairly simple matter for the wealthy to give themselves tax-free cars and school fees and to convert taxable income into non-taxable capital gains.
As to the number of taxes, you have to consider that taxation is more than merely raking in revenue to pay for government services. Taxes also play a role in changing behaviour. Some of the minor 115 taxes fall into this category. Gaming taxes, tobacco taxes, fuel taxes and stamp duty on cars help discourage what governments see as bad spending.
Sure, it may well be that the revenue from some of these taxes only tempts governments to rejoice in the bad behaviour and even encourage it. We have seen that in the way state governments hand out a poker machine licences.
Nonetheless, the general principle that taxation can be used to discourage certain behaviour holds true.
On the other hand, where taxes discourage sensible behaviour they are inefficient. The review pointed out that stamp duty acted as a deterrent against people moving to more suitable accommodation, either up-sizing as their family grew or downsizing when it contracted. This resulted in people living in houses that were too big for them or extending houses rather than moving to larger ones — — both resulting in inefficiencies.
The $70 billion of cash transfers through the tax system is inefficient not because of its complexity, but because of its size. There is nothing wrong with having a complex system of cash transfers to various categories of needy people. However, when the system grows too large (based upon the political imperative of buying votes), you end up with a large inefficient churn in which people pay taxes to the government on one hand and receive cash payments back from the government on the other.
To the extent that capital gains tax discourages long-term capital investment some changes could be made to it. Former Treasurer Peter Costello’s so-called halving of the tax is another example of simplicity defeating fairness and efficiency. It would have been far better to have had a tapering capital gains tax. The trouble with Costello’s approach is that in a higher inflation environment someone could incur a liability for tax even though there was no real capital gain. This would be the case where the inflation rate exceeded the notional increase in the price of the capital item. Moreover, Costello’s “reform” did not eliminate the owner is task of keeping records for decades and even generations.
A tapering capital gains tax, cutting out at, say, 10 per cent a year might have been more complex, but it would have been fairer and more efficient. It is often the case that fairness and efficiency go with complexity rather than simplicity.
These days, it is easier for taxpayers to deal with a complex tax system because of computerisation. The Australian Tax Office’s work on such things as e-tax and the electronic gathering of data has made the filling out of a quite complex tax form reasonably straightforward. It may well be that it is a reasonable trade to have greater complexity in return for greater fairness.
The sad thing about this tax review is that the GST was put off the agenda — largely out of short-term political fear. The GST has been an extremely efficient and fair tax. The more you spend the more you pay. It is difficult to avoid. If the wealthy want to enjoy their wealth they have to pay the tax. Sure, it is fairly complex for the people who collected the tax on behalf of the government. However, after initial teething problems most people seem to have settled in to a system of collecting the GST and offsetting their inputs.
Indeed, there is an argument that the quarterly business activity statement has done much to improve the overall efficiency and monitoring of Australian business.
If anything, there is a case for both increasing the rate and the spread of the GST. Some of the exemptions are quite illogical — a GST on cooked chook but not raw chook, a GST on a milkshake but not on milk, for example.
But it is not to be.
By all means make some adjustments, but we should be wary of wholesale changes in the cause of simplicity which might result overall in less fairness.