When the rich get richer they pay less tax

Cross posted from The Conversation:

Senior Research Fellow, Tax and Transfer Policy Institute, Crawford School of Public Policy, Australian National University

Should we tax the capital income people receive from their investments or property? This may seem a strange question – don’t we already?

But the answer is that due to exemptions, we collect virtually nothing when people make a gain on investment or owner-occupied property. Of total net household assets of A$8 trillion, almost 45% is tied up in owner-occupied dwellings attracting no tax, despite the benefit of imputed rent and capital gains.

In theory, we could collect around A$180 billion a year by taxing all capital income, but we only collect around A$60 billion, mainly through company tax. Large exemptions make the economic costs of raising necessary revenues far higher than they ought to be and make the tax system less fair.

Where the income is

Of the A$8 trillion asset total, 15% is invested in real property which, after deductions for expenses such as interest costs, pays negative net tax. Owner and investment property in Australia yields an estimated total annual income of A$300 billion, which is pretty much untaxed except for rates and property tax. These fit uneasily in the list of capital taxes since they have a one-off impact by reducing the value of the land.

Some A$2 trillion or 25% of household wealth is in superannuation, which also pays virtually no – or negative – tax. About 10% is in personal use assets such as cars and boats. The great bulk of household capital assets – over 80% – yield virtually no tax.

In general, large business pays tax on a reasonable approximation of a comprehensive income tax basis, once corporate income tax is imputed at the personal level. Small business is a different story, with notable concessions in the area of capital gains and depreciation allowances.

An income tax in theory taxes yields from capital. But the yields are exempted by what’s known as an expenditure tax. This includes deductions or exclusions that reduce the amount of tax owed. Our hybrid system of capital income taxation, which comprehensively taxes a sub-set of assets but offers exemptions for the bulk of assets, is known to add to inequity and resource misallocation.

Investments are pushed into tax-favoured forms, despite the economic benefits being higher in taxed forms. In particular our system favours excessive spending on homes and inadequate spending on business investment.

How to fix it

There are generally thought to be two possible directions for reform: either move to a more consistent income tax treatment, or give up the goal of taxing annual income comprehensively and move to a full-fledged expenditure tax or its pre-paid equivalent, a wages tax. The defining feature of an expenditure tax is that there is no effective tax on savings yield.

Economists have increasingly favoured expenditure tax options, based at least in part on the practical and political difficulties in administering a fully comprehensive income tax.

There is also an increasing view that annual income is not theoretically appropriate as a tax base, partly reflecting “optimal tax” methodologies developed over the past 40 years. On this view the expenditure tax is favoured as it does not double tax savings and drive a wedge between the economic returns to investments and the yield to investors.

The problem with the “optimal tax” view is that its practical effect, if implemented, would be to worsen the dispersal of incomes and to increase disparities in wealth and living standards.

Removing taxes on capital incomes is likely to foster a widening gap between rich and poor, despite the economist’s prediction that it would foster capital accumulation, and this would enhance wages. However reducing some capital taxes while increasing others can provide options to “level the playing field” which make sense irrespective of decisions about what the aggregate weight of capital income taxation should be.

Image sourced from Shutterstock.com

As French economist Thomas Piketty has argued, there needs to be some check on the tendency for wealth concentrations to grow dynastically. Some taxation of capital income or its equivalent, annual wealth taxation, can provide such a check. Ultimately some taxation of capital incomes is necessary and appropriate for achievement of a “just” society.

It may be that the degree of taxation of such income should not be dictated by the norms of the comprehensive income tax. But it is clear that we should not allow the personal tax system to move gradually into a simple wage tax. Nor is a cash-flow expenditure tax ideal, as it also exempts most capital income.

Another option

A cousin of the expenditure tax is the rate of return allowance (RRA) favoured by the UK’s Mirrlees tax review committee. This approach exempts the risk-free part of capital return (approximated by the bond rate) from tax. The tax base is then economic “rent”, being the return to capital in excess of the risk-free rate. I estimate that this might tax around 2/3 of the total return to capital.

A strong case can be made for at least taxing economic rent. While the RRA does this, it is administratively cumbersome. A similar approach (which I call the Z-tax) could be applied to all assets including housing and superannuation accumulations.

Though politically difficult, it would dramatically enhance the economic efficiency of the tax system and make measures such as GST increases less compelling from an economic perspective. Like the RRA it could – if comprehensive – raise an additional A$60 billion per annum, making it an important option for tax reform.

Reducing the tax burden on capital income might seem a great idea in theory but its practical consequence is to make for a more unequal society. Moreover, this inequality can persist across generations. Capital taxes should be made more even, however. If the political difficulties can be overcome, there is significant revenue potential.

The full paper is available on the website of the Tax and Transfer Policy Institute, ANU.

Comments

  1. speaking of crooks …

    http://www.news.com.au/finance/business/breaking-news/chile-reveals-nz-to-host-tpp-ceremony/news-story/c9326a11cf17b79fb2b020254f11cdbd

    “Chile reveals NZ to host TPP ceremony

    The director of Chile’s economic relations bureau has said New Zealand will host the signing ceremony for the controversial Trans Pacific Partnership next month.

    A second country, Peru, has told Bloomberg that its Deputy Trade Minister and TPP negotiator, Edgar Vasquez, will attend the ceremony in NZ on February 4.”

  2. “Of the A$8 trillion asset total, 15% is invested in real property which, after deductions for expenses such as interest costs, pays negative net tax”

    So people who work and pay tax are benefactors to land owners?

    Well done boomers.

    • Nay well done corporatism and lobbyists… spectator voters are like equity holders…. residual…

      Skippy…. haters are going to hate thingy…. saying boomers is about the same level saying the demons flew into the pigs…

    • 90% of tax law was organised well before boomers took over. I can assure you that gen x and y are lined up to take their place and carry on with unfair tax policies filling the pockets of the rich. Joe Hockey was ‘THE’ poster boy example of a gen X pig. Pigs are pigs, they don’t have organised generations.

  3. “In general, large business pays tax on a reasonable approximation of a comprehensive income tax basis, once corporate income tax is imputed at the personal level. ” What?

    I read the article on the Conversation this morning and enjoyed the well deserved pasting the author got on his summation paper. He answered a commentator by expanding on his Z-tax theory which reflects an Orwellian mindset best consigned to the dusty shelves of academia. Anyone with too much time on their hands should read it – or order a latte’. I recommend the latte’ which is more informative. But he gives it away in the last sentence which contains “there is significant revenue potential” ……… FFS Prof, taxation ‘aint revenue you schmuck!

  4. Can’t you write original content without cross-posting the socialist garbage from The Conversation ?

    • Jeez jono, give Chris a break – he’s holding the fort down on his lonesome while everyone else are drinking cruisers around a pool somewhere.
      The conversation socialist? This article is so far right it’s given me a crick in my neck!

    • FiftiesFibroShack

      There seems to be a positive correlation between the willingness to whinge online and the ability to see socialism around every corner.

      • Though those same people inevitably expect a policeman to arrive posthaste when they call 000.

    • Here we go again, language is the first victim in politics.

      Tax expenditures are not spending by government. They are a failure to confiscate other peoples property. Socialists do not like private property, so they bang on about this drivel.

      The entire article advocates new taxes and presumes the revenue is ‘needed’ and use ‘we’ to represent the political class and public servants. Therefore money and taxes that is taken from ‘them’ is considered benign and having no opportunity cost whatsoever.

      • Wow John Birch Society and Koch industry’s are in the house and anything not – them – is bloody commie socialists…. sad tho… that for all the crankery about collectives they fail to look into the mirror or may be there is no reflection… anyway…

        skippy…. deep end of the loon pond….

  5. Oh dear. David Ingles reveals his naivety with a false premise:
    “Ultimately some taxation of capital incomes is necessary and appropriate for achievement of a “just” society.

    Is true if you think there are two factors of production: Labour + Capital.

    But there are in fact three: Labour + Capital + Land

    The pursuit of a “just” society – and an economically efficent one – requires we tax labour lightly, capital not at all and land as heavily as government revenues require. Capital, when the factors of production are divided in this way, is savings.

    Dr Ingles is sort of onto the answer:

    “A strong case can be made for at least taxing economic rent.”

    Economic rents are derived for monopoly. The exclusive ownership of land is the oldest and largest of these. Economic rents can also be derived from government licenses – banks, taxis, mining and radio spectrum are clear examples.

    This is the natural tax base. If any government anywhere were to migrate their taxes to these monopolies, their economy would take off like a January bushfire with a wind change.

    • It’s a pretty sad attempt from a learned person I agree David. I think the problem he and many commentators make it they don’t understand the fundamental reasons for taxation in a modern economy. By viewing tax as revenue (aka income) they start the conversation with a misguided premise so the narrative tends to circulate around a “need” to raise revenue for services, when it has been understood for decades now that taxation is an economic stabiliser in the macro economy. I get quite frustrated with these pseudo economic commentators from academia, usually from distant and unrelated disciplines who accept the misguided “pop” theories of mainstream economics and comment accordingly as though they, themselves are all knowing. He got wacked all over the park on the conversation this morning so hopefully he’ll stick to the knitting in future..

    • From another report in October is was 42% – can’t find the report, sorry. But point taken angry.

      Umm, AF check your demographics. Many of the parents are boomers.

    • Before we start frothing at the mouth, do some research. Malcolm and other assorted lesser mind start and stop their analysis at the headline, digesting sentence of information is they’re capable of.

      Analysis needs less Malcolm’s, and more inquisitive, adult minds.

      The definition here in this report is nowhere near the universally accepted definition of poverty. The definition is something like less than 50% of mean income. $32,000 p.a. is this study’s benchmark.

      At least 80% of the planet would be insulted to here this is poverty, and this report has been commissioned for no other reason than to have boomers, about to enter retirement, the gravitas to spend yet more of other peoples money.

      • Exactly and what percentage of these apparently aluminium can collecting destitutes lives in an asset worth $500,000 or more?

      • Except we have some of the most expensive shelter in the world. Comparing our income needs to theirs makes no sense.

      • Stop talking rubbish. $32,000 p.a. is over $600 per week.

        How much does one need to spend on food, petrol and utilities to avert poverty? Not ‘how much do I want’, but to get one out of pain inducing, indignant poverty.

        The problem is to fix the price of shelter, not impose greater transfer payments out of the mouths and education of our young.

        If they need shelter in addition to $600 p.w in income support, put some 55 sqm, 2br weatherboard homes on government land (i.e. land the government doesn’t have to pay for).

        But f*ck me, a retiree should have no mortgage no dependents. Alleviating poverty is the troika of food, petrol and utilities described above. ->THIS IS<- entitlement is they think $600 p.w. can't escape it, even in Australia.

      • Were not talking about the entire planet…. duh… that is unless you want to make it even stevens globally… with a one size fits all totalitarian template…

        Skippy…. yeah in the good old days the master clothed, fed, and provided shelter for his slaves…

      • Then go ahead, after food, petrol and utilities… do you think there’s a possibility of a surplus still?

        What in addition can this possible surplus afford?

        Also, a transfer payment designed as a welfare payment, a safety net… what else should be provisioned for in excess of food, petrol and utilities to ‘alleviate poverty’?

        I think it was the ‘liberty’ thing that we decry slavery.

      • Liberty and Freedom are vacuous tropes used by sophist philosophers Penney, completely ambiguous without reconciling positive and negative freedoms… as environmental conditions change…

        Skippy… the words freedom and liberty were in the preamble of the Constitution when slavery was everywhere… so much for that…

      • Liberty is a trope when one anchors themselves to claims like “there’s no such thing as free will”, and then makes conflicting statements.

        Liberty at the time of the founding fathers was intertwined with Calvinist views. Come half a century later, views had changed, ergo the Wilmot provisio.

        Extending liberty to peoples in the 1850s that wasn’t extended in the 1770s. The Missouri compromise created friction over liberty skip, not how sufficient the food and shelter provisions of southern plantation owners.

        So, back to the relevance of the topic at hand, Age Pension recipients aren’t being denied agency, nor are they denieds the means to acquire sufficient food, or for automobile transportation fuel or household utilities. They may be denied sufficient means for shelter, which draws away from the above described food, petrol and utilities functionality as described above, and I’ve already asserted its an issue to resolve independent from income support.

        What we’re left with is your assertion that Age Pension recipients deserve to be provided with a level of income that provides the means to extend beyond food, fuel, utilities and shelter (once fixed).

        This base level, asserted by some based on Masliw, is deemed insufficient because of what… a Pantene ad?…. “I’m a boomer, I’m worth it!”.

        A safety net provisioning basic and dignified survival, versus your assertion an entitlement to more?

        Chronology is not in your favour skip.

      • Prove free will penney….

        I have no time nor inclination to be compelled by people that make esoteric proclamations the corner stone of – their – ideological beliefs.

        That said I have no drama with you embracing and living your – own – life in accordance with said beliefs in your – own – personal time. Albeit I will stand my ground when you try to force that opinion on me and mine and others arbitrarily.

        Skippy… I pointed out your moniker is esoteric in origin way back mate, don’t try to play games with me. Maybe you would be better suited to a brethren compound.

      • BTW don’t try playing fast and loose with American history with me or I’ll rip you a new one which will put you back to the stone age and diminish any thing else you say…

        Skippy… fair warning… I’ll be taking head shots for keeps….

      • You cant head shoot anyone skip, you’re an Aspergers suffering with a fetish for one or more naked capitalism contributors.

        Go ahead and ‘play for keeps’

      • It’s not just food, transport, utilities and shelter, a lot of older people also have out of pocket medication and medical costs too. Admittedly I don’t know what the ideal amount is, but I believe the pension is a little over $400 a week, plus rent assistance. So around $500 a week? From my limited experience most people on the aged pension seem to live pretty frugal lives. I don’t know, $600 might not be wildly off the mark moving forward, especially if health and utility costs keep rising.

      • Asperger’s – Delayed social maturity and social reasoning.

        OK your invective is based on myself not agreeing in with your esoteric beliefs[?] and an inference to blind faith in some NC contributors…. whooooh… how adroit. Just another case of flinging ones own mental perfidious nature and pointing at it like they have super natural powers…

        Hay fun boy try pinging YS her self and reconciling that bias before making statements of fact, its commonly called the discovery process, the one that happens before forming an opinion.

        Anywho Rusted one….

        The Dark Side of Thomas Jefferson

        A new portrait of the founding father challenges the long-held perception of Thomas Jefferson as a benevolent slaveholder

        “With five simple words in the Declaration of Independence—“all men are created equal”—Thomas Jefferson undid Aristotle’s ancient formula, which had governed human affairs until 1776: “From the hour of their birth, some men are marked out for subjection, others for rule.” In his original draft of the Declaration, in soaring, damning, fiery prose, Jefferson denounced the slave trade as an “execrable commerce …this assemblage of horrors,” a “cruel war against human nature itself, violating its most sacred rights of life & liberties.” As historian John Chester Miller put it, “The inclusion of Jefferson’s strictures on slavery and the slave trade would have committed the United States to the abolition of slavery.

        That was the way it was interpreted by some of those who read it at the time as well. Massachusetts freed its slaves on the strength of the Declaration of Independence, weaving Jefferson’s language into the state constitution of 1780. The meaning of “all men” sounded equally clear, and so disturbing to the authors of the constitutions of six Southern states that they emended Jefferson’s wording. “All freemen,” they wrote in their founding documents, “are equal.” The authors of those state constitutions knew what Jefferson meant, and could not accept it. The Continental Congress ultimately struck the passage because South Carolina and Georgia, crying out for more slaves, would not abide shutting down the market.

        “One cannot question the genuineness of Jefferson’s liberal dreams,” writes historian David Brion Davis. “He was one of the first statesmen in any part of the world to advocate concrete measures for restricting and eradicating Negro slavery.”

        But in the 1790s, Davis continues, “the most remarkable thing about Jefferson’s stand on slavery is his immense silence.” And later, Davis finds, Jefferson’s emancipation efforts “virtually ceased.”

        Somewhere in a short span of years during the 1780s and into the early 1790s, a transformation came over Jefferson.

        The very existence of slavery in the era of the American Revolution presents a paradox, and we have largely been content to leave it at that, since a paradox can offer a comforting state of moral suspended animation. Jefferson animates the paradox. And by looking closely at Monticello, we can see the process by which he rationalized an abomination to the point where an absolute moral reversal was reached and he made slavery fit into America’s national enterprise.”

        http://www.smithsonianmag.com/history/the-dark-side-of-thomas-jefferson-35976004/?no-ist

        Skippy… the problem with you wing nuts is you embrace the narrative or fall into it without ever doing your home work…. articles of faith… religious dicta… Kantian rigidity… without reflection…

      • That’s just taking a bit off the sideburns kid, wanna continue or are you going to regale me with your burning bushes to repudiate historical accuracy… intellectual honesty… academically honest pursuit for facts…

        Skippy… orthodoxy is not to be confused with reality….

      • Dance with the Devil
        The good news in 1929 for young MIT chemical engineer Fred Koch was that he had successfully developed a superior oil refinement process with a business partner. The bad news is that he had a bitter lesson to learn about his laissez-faire competitors when virtually every major US oil company gobsmacked him with 15 year’s worth of patent infringement lawsuits. The net effect was that one cease-and-desist order after another was issued from the judge’s bench, and until the legal process could sort itself out, Fred Koch was – for all practical purposes – aced out of the US oil market. And the bills still needed to be paid.

        So what to do? Fortunately, the Unseen Hand pointed the way to Soviet Moscow, where totalitarian dictator Josef Stalin was rolling out his first Five Year Plan for sweeping industrialization. And he was especially interested in oil engineers.

        “We are the world’s greatest market, and we are prepared to order a large amount of goods and pay for them,” – Josef Stalin, 1932

        Fred Koch answered the call, and signed a $5 million deal in 1929 to build 15 refineries in the Soviet Socialistic Republic, thus providing a substantial wet kiss to the cause of worldwide socialism everywhere. Koch and his partner provided equipment and oversaw construction and installation, and quickly became Comrade Stalin’s number one go-to refinery contractor.

        Skippy…. was grandpa a bit of an opportunist that warped* himself in a flag -???? – IMWLTK… for profit – ???? – so much for ev’bal…

      • OK Musty, here is the OECD report – have a read http://www.keepeek.com/Digital-Asset-Management/oecd/social-issues-migration-health/pensions-at-a-glance-2015_pension_glance-2015-en#page1
        “A report released by the Organisation for Economic Co-operation and Development (OECD) has confirmed what we already know – Australian pensioners don’t have enough money to live on.

        Pensions at a Glance 2015 compared Australia to 33 other countries and found that it ranks second last when it comes to social equity. A whopping 36 per cent of pensioners live below the poverty line, which is defined in the report as being half of a country’s median household income. The OECD average is 12.6 per cent.

        Of course, the findings won’t come as a surprise to those trying to live on the Age Pension. The Australian Government contributes less to pensioner benefits, just 3.5 per cent of GDP, than any other OECD country, with the average spent in such countries 7.9 per cent.

        The findings mirror those of the Global Age Watch Index 2015, which ranks 96 countries in total and found that 33 per cent of Australians over 60 were living in poverty.”

        But forget the circa $32000 your rattling on about. The current rate of a full single Age Pension, including the Pension Supplement and Clean Energy Supplement is $22,542 per annum. In another report https://www.yourlifechoices.com.au/age-pension 41% of pensioners are on the full rate with no other income.

        Which means that 41% are living not just below the poverty line, but $10,0000 pa below the $32,000 identified in the OECD report.

        So stop talking out of your anus.

      • “Which means that 41% are living not just below the poverty line, but $10,0000 pa below the $32,000 identified in the OECD report.

        So stop talking out of your anus.”

        My poor, simple minded friend.

        Again you’re displaying the inability to think, and can only form opinion over headlines. You’re a simple pleb that destroys nations and the argument that we shouldn’t have democracy, because allowing you to vote is an abuse of freedom.

        That report repeats everything I’ve said, and we’ve left with tropes about ‘poverty’, without examing if it is poverty. At the moment there are two competing groups trying to compete to define ‘poverty’, to win the victim Olympics.

        * The Smith family researchers “added up all the pay packets in Australia and divided them by the number of wage earners. That average is then halved to find the poverty line” (the Mean).

        * The CIS “ranks all the pay packets in descending order, finds the wage in the very middle of that range and then halves that… wage to find the poverty line” (the Median).

        No other than being a nice, simple algorithm, how in any way shape or form does this describe ‘poverty’?

        Apply this to places like Luxembourg or Qatar, that’d make $60,000 p.a. as ‘poverty’,

        We had a Henderson report in 1975 use a different calculation of ‘poverty’, and the figure adjusted for inflation would be around $22-24,000. But again, how is this performing an actual assessment, rather than an appeal to emotion… which works on those unable to comprehend beyond headlines… hey Malcolm.

        Once someone has paid off their house, once their kids have moved out, what do they need?

        A single age pension has a full rate around $800 per fortnight, a couple is around $1,300 per fortnight. Funny, this and the dole used to be the same amount, then Johnny decided it best to increase it for oldies, and give it the optimal choice for indexation between AWOTE and CPI.

        Outside of shelter, which is a measure punishing a lot of people. The young, industry, and is something that needs to be corrected outside the prism of free handouts to old aged leaners.

    • Does this poverty calculation include wealth that is not returning rents? Eg. the pensioners home, now worth 3x what it was 10 years ago?

      Also 50% of the mean wage isn’t that bad, $32k per year. When I was a student living out of home on Youth Allowance I made half that and still had a great life.

    • Well this thread devolved into pompousness and childish namecalling rather fast, not to mention the disgustingly pseudo-intellectual slant.

      “Prove free will”

      Well, it is neither provable nor unprovable – it is a worthlessly moot assertion.

      Also why the hell do some of you feel the need to engage in this ridiculous idiosyncratic means of communication? This is less a trade of facts and more a trade of attempted blows against egos. Wasting my time reading this was an expenditure of calories I could have saved for something more productive, like reading something of value – which this isn’t.

  6. ceteris paribusMEMBER

    Title: “when the rich get richer they pay less tax”. Well yes, of course they do. Why else do we have a court and police system, media empires, private education systems, banking and financial systems and Parliamentary legislatures.

  7. Exempting the risk-free component is very similar to the system we had in Australia prior to 1999. The CPI component was exempted, and 35% CGT applied to the rest.

    • Yeah, but speculation needs to be rewarded, especially when you have inside information.

      Hedge this by ‘donating’ to those that maximise the reward component of speculation and everyone’s a winner….

      Except those that labour, the young, civilisation…..

  8. “In general, large business pays tax on a reasonable approximation of a comprehensive income tax basis, once corporate income tax is imputed at the personal level. ”

    This is absolutely untrue as shown by the ATO release of information which showed that “Out of 1539 corporate entities, 38 per cent did not pay any tax in 2013-14”.

    If this article has such a fundamental flaw, which parts if any can I be sure don’t have such a major inaccuracy?