The International Monetary Fund (IMF) last year released a report estimating that Australia has the highest tax expenditures in the OECD when measured against GDP (see next chart).
According to the report, tax expenditures are:
…government revenues foregone as a result of differential, or preferential, treatment of specific sectors, activities, regions, or agents. They can take many forms, including allowances (deductions from the base), exemptions (exclusions from the base), rate relief (lower rates), credits (reductions in liability) and tax deferrals (postponing payments).
The IMF also believes that tax expenditures should be reformed since they:
…can have major consequences for the fairness, complexity, efficiency, and effectiveness of not only the tax system itself but, since they often serve purposes that might be (or are also) pursued through public spending, of the wider fiscal system.
On Friday, the Australian Treasury released its 2014 Tax Expenditures Statement, which lists 297 tax expenditures and, where possible, provides an estimate of the dollar value or order of magnitude of the benefit to taxpayers.
The largest tax expenditures are presented below:
Where possible, the Australian Treasury has included two types of calculations:
- Revenue foregone, which estimates what Budget revenue is lost from the tax concession; and
- Revenue gain, which estimates how much revenue would be gained if the tax concession was closed.
The revenue gain estimate is typically smaller than the revenue foregone, since Treasury has attempted to take account of behavoural changes by taxpayers.
As shown above, capital gains tax (CGT) exemptions on the family home are said to cost the Budget some $46 billion this year. However, Treasury was unable to estimate how much revenue would be gained if sales on one’s principal place of residence were made subject to tax, since it would discourage many people from selling their homes.
And herein lies the reason why I believe that CGT should not be applied to one’s principal place of residence. Removing it would have the same deleterious impacts as stamp duty. It would discourage housing turnover and unnecessarily penalise people that move to homes that better suit their needs. Obvious examples include baby boomers downsizing from large family homes and young growing families upsizing to bigger family-friendly homes. In turn, such disincentives would encourage a less efficient use of the housing stock, such as empty nesters occupying large homes with multiple spare bedrooms. Applying a capital gains tax on one’s home would also hinder labour mobility, since it would discourage workers from relocating closer to employment.
Rather than closing the capital gains tax exemption, it would make far more sense to apply a broad-based land tax (preferably in place of stamp duties). Such a reform would encourage a more efficient use of the housing stock and improve labour mobility, penalise land banking and vagrancy (increasing effective land supply in the process), and help to make infrastructure investments self-funding for governments (since any land value uplift brought about through increased infrastructure investment would be partly captured by the government via increased land tax receipts).
Superannuation concessions are estimated to cost the Budget a total of $29,700 in revenue foregone, and would raise $27,300 if the concession was eliminated.
Critics of this type of Budget analysis, such as Paul Keating, argue that Treasury’s tax expenditures measurement is wrong, and that it is incorrect to simply add the costs of the two types of super tax concessions together (i.e. C3 and C6 above).
Keating has a point: if employer contributions were taxed more heavily then there would be less in the super funds to create earnings that would be taxed.
However, these complexities of measurement are besides the point. The fact is superannuation concessions are costing the Budget many billions of dollars of revenue foregone. They are also growing rapidly. Even if their true cost is half the amount forecast by Treasury above, their cost to the Budget would still be a ginormous $15 billion this year!
Even worse, these superannuation concessions are skewed towards high income earners. As noted by former Liberal leader, John Hewson, recently:
Those at the bottom of the income scales actually have to pay to get a superannuation benefit, while those at the top enjoy almost obscene benefits. For example, somebody earning $20,000 has to pay about $118 to get a $100 benefit, while somebody earning $250,000 pays only about $62.50.
The reason for this inequity is the way in which superannuation concessions are distributed via the 15% flat tax. As shown below, under this flat tax system, the amount of tax concession received grows as one moves up the income tax scale. For example, a very low income earner earning up to $18,200 effectively pays 15% for their superannuation concession, whereas a high income earner earning $300,000 enjoys a 30% tax benefit.
The bottom line is that superannuation concessions in their current form are both highly inequitable and inefficient, costing the Federal Budget many billions in foregone revenue whilst reducing the progressiveness of the tax system. They have increasingly become a mechanism for richer older people to avoid paying tax, rather than a genuine means for Australians to pay for their own retirement and avoid drawing on the Aged Pension.
Any attempt at Budget reform, therefore, must place superannuation concessions front-and-centre, along with quarantine negative gearing losses, so that they can only be applied against income from the same asset, as well as removing the capital gains tax concession on investments (why should they be taxed at a lower rate than income?).
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