PBO: Bracket creep to punish middle-income earners

By Leith van Onselen

The Parliamentary Budget Office (PBO) has released a new report claiming that middle-income earners will bear the burden of bracket creep (aka ‘fiscal drag’) as wage rises push 1.8 million Australians into higher tax brackets:

The PBO’s 2017–18 Budget medium-term projections report identified that the projected return to surplus in 2020–21 is predominantly due to a projected increase in personal income tax revenue.

The average tax rate faced by individuals is estimated to increase by 2.3 percentage points over the period from 2017–18 to 2021–22…

The average tax rate for individuals in every income quintile is projected to increase over the period from 2017–18 to 2021–22. The largest increase is expected to be faced by individuals in the middle income quintile, whose taxable income is expected to average $46,000 in 2017–18. This group of taxpayers is projected to face an increase in their average tax rate of 3.2 percentage points by 2021–22, as a higher proportion of their income is taxed at the 32.5 per cent rate. Their average tax rate is expected to increase from 14.9 per cent to 18.2 per cent.

Increases in the average tax rate of between 1.9 and 2.5 percentage points are projected for individuals in the second, fourth and fifth quintiles. The average tax rate for individuals in the lowest quintile is projected to rise by only 0.2 percentage points because most of their income remains below the effective tax free threshold.

Across all quintiles, the largest driver of the increase in average tax rates is expected increases in nominal incomes. This reflects the impact of bracket creep, on account of both inflation and real income growth. In addition to the effect of nominal income growth, average tax rates are projected to increase due to policy changes, most notably the policy decision to increase the Medicare Levy from 2019–20.

Taking a longer term perspective illustrates the net effect of nominal income growth and changes to tax policy on average tax rates over the period since 2000–01. This shows that for all but the lowest quintile, the increases in average tax rates since 2009–10 are offsetting reductions in average tax rates that occurred during the 2000s. By 2021–22, the average tax rate for individuals in the lowest two quintiles is still expected to be below its average in 2000–01, while the most significant increases will have occurred for individuals in the top two income quintiles.

The PBO’s projections around income tax do appear inflated given they incorporate the Federal Budget’s wildly optimistic assumptions of a pending wages boom:

In the face of ongoing mass immigration, along with automation and other factors, wages growth is more likely to limp along at a low level, which necessarily means that the climb up tax brackets will occur much more slowly.

Nevertheless, over the long-run, bracket creep is a nasty phenomenon, particularly for lower-to-middle income earners. This is because low-to-middle income earners’ average tax rates are increased far more by bracket creep than for higher income earners.

Sadly, most of the political discussion around tax reform centers on those at the higher end of the income distribution, rather than those at the lower-to-middle end, where the impacts of bracket creep are worst and incentives to work are most distorted.

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  1. Aussies deserve a pay rise… so that they can move into the next tax bracket and they get a pay cut!! Hurray!!

  2. Disagree that bracket creep is nasty – top MRT aside, it is the only way that governments can effectively increase taxes without a political shitfight.

    • Yeah… but in a nearly stagnating wage environment it’s even less likely that gubmint is going to do something about bracket creep – which I think was one of the ulterior points of this article

    • Bracket creep can occur due to inflation alone without an increase in real inflation-adjusted income. In fact bracket creep can occur even if real incomes fall as long as it’s by an amount less than inflation.

      Many countries have their tax brackets indexed to adjust for inflation, Australia currently does not.

  3. Who is hurting Duncan Storrar? The Greens.

    Tony Abbott’s policy is not a tax on pollution, it’s a tax on families who have no access to public transport,” Greens Leader Christine Milne said.

    Fuel excise should be about moving away from pollution, but Tony Abbott just sees it as a way of raising revenue, taxing people who have no access to public transport

    Yet the Greens passed the fuel excise rise later on with not even a $50 cheque to buy bus tickets with! Oh yeah…the Greens did the same with the carbon tax earlier…no cheque at all.

    The Democrats saved us from having GST on fruits and school uniforms. But we need a targeted save now – actual cheques given to the poorest voters due to the rise and rise of underemployment.

  4. Lack of bracket creep is going to be the problem.

    They’ve always relied on it helping the budget.

    It’s gone.

    They’ve outdone themselves this time.

  5. The low and middle income earners are still paying 2/5 of bugger all in income tax. If that rises to 3/5 of bugger all then so be it.

    • Exactly. How is bracket creep supposed to be a problem when wages aren’t rising and aren’t likely to do so in the foreseeable future?

  6. I’m sorry, but, for those of us old enough to remember the 1984 election (when the marginal tax rates were 15%, 45% and 65%) the bracket creep of 2017-22 is so risible that you would need a microscope to see it. Most people would not even notice if their tax rate increased by 3%. Bracket creep is the stupidest way of reducing the budget deficit, but, if it’s the only way to achieve that goal, then it’s a good thing.

    • yogiman, the budget deficit would be less if they charged $140/day for each work visa and sold PR visas for $250k each.