View from The Hill: A tax cut that will ‘pay your rego’

Michelle Grattan, University of Canberra

The Turnbull government has produced a budget that it hopes it can sell as appealing for voters while appearing fiscally responsible.

Its income tax cuts target lower and middle earners in the early stages, delivering a benefit of up to $530 a year for them. If this seems modest, Scott Morrison was anxious to point out that it could pay your car rego, your quarterly electricity bill or half a dozen tanks of petrol.

In the longer run, the cost is not so modest – $140 billion over a decade. While some relief is delivered in the near term, it’s worth noting the structural change, scrapping the 37% bracket, is not timed until 2024-25 – which is beyond the next two elections.

Asked why the government didn’t prioritise attacking debt and deficit over tax relief, the Treasurer told journalists in the budget lock up that it was because “I respect taxpayers”. This was not “spending” – it was people being able to keep their own money, he said.

But in this budget, it was vital for the government that it be seen to be fair dinkum about fiscal repair. Thus it has brought the return to balance forward by a year – a surplus of $2.2 billion is forecast for 2019-20.
It might be minuscule but the surplus is there, in that year, to make a point, including to the ratings agencies. The budget also has net debt peaking in this financial year, a little sooner than previously predicted.

On the spending side, the budget is restrained, with initiatives targeted. It has an eye to older voters with several measures, including increasing the number of high level home care places by 14,000 at a cost of $1.6 billion over the budget period. This is perhaps less dramatic than it seems, because in part it represents a reconfiguration of aged care – more people want to stay in their own homes, rather than move to residential care facilities.

In seeking savings and revenue, a pre-election budget must tread carefully. There are not swingeing cuts. But there are some familiar and soft targets: “social welfare debt recovery”, “encouraging self-sufficiency for newly arrived migrants”, and “streamlining services for refugees”.

The revenue quest includes combatting illicit tobacco, in yet another crackdown on the black economy. Whether the estimated billions will all be collected remains to be seen.

There are forgotten people in this budget, those without electoral or other clout. Most notably, the Newstart benefit for the unemployed has yet again not been raised despite widespread recognition of its inadequacy.

While the budget will come in for its share of criticism, looked at overall it is designed not to offend an electorate that has already turned off the government.

Though people will be pleased to get a tax cut, they are unlikely to be grateful to the government for it. Rather, they will probably be more inclined to see it as simply their due.

But the budget does reinforce the fact that tax is to be a central battleground for the election.

Labor has plenty of money available for its competing tax package, especially in the longer term, because it has set itself against the government’s expensive tax cuts for big business, and so can use these funds for its tax and spending plans.

On income tax, the most intense competition will be around middle and lower earners, on whom the government has concentrated in the early stage of its package.

More generally, the government is pinning a good deal of hope on being able to brand its opponents as high taxers, with their crackdown on negative gearing, trusts and the like.

Hence Morrison’s tax “speed limit”, set at 23.9% of GDP. It’s not a number that is likely to have much resonance with the ordinary voter – nevertheless Labor will face a challenge to persuade people that the tax hikes it does propose are both fair and justified.

How effective this budget will be in helping shape the election debate won’t become clear until we have a detailed counterpoint to it, in the form of Labor’s pitch to the electorate.

Michelle Grattan, Professorial Fellow, University of Canberra

This article was originally published on The Conversation. Read the original article.

How the government can pay for its proposed company tax cuts

The government is still attempting to lower the corporate tax rate to compete globally.
Ben Rushton/AAP

David Ingles, Crawford School of Public Policy, Australian National University and Miranda Stewart, Crawford School of Public Policy, Australian National University

There are ways the government can pay for a cut in the company tax rate. In a recent working paper, we worked with researcher Chris Murphy to model three different options: reforming Australia’s system of giving shareholders tax credits, allowing less tax deductions on interest for companies, and introducing a tax on the super-profits of banks and miners.

After taking economic growth into account, the budget cost of the tax cut could be net A$5 billion a year.

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Read more:
Race to the bottom on company tax cuts won’t stop tax avoidance

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In the US, a company tax cut to 21% continues an inexorable global trend of cutting rates, making international tax competition even more pressing. As our working paper noted, Australia’s rate is now higher than most other countries, making tax avoidance even more attractive and deterring inbound foreign investment.

A cut in the Australian company tax rate to 25 or even 20% is important because it will attract foreign investment, boosting wages and the economy in Australia.

Remove dividend imputation

Australia has an unusual system of integrated company and personal tax, called dividend imputation. It has been in place since the 1980s.

Australian shareholders receive franking (imputation) credits for company tax. If shareholders are on a personal tax rate less than 30%, they receive a refund.

The company tax cut could be financed by removing dividend imputation. Our modelling indicates a company tax rate of 20% would mean the government breaks even, while halving imputation could finance a 25% rate.

It would be simpler to abolish dividend imputation and replace it with a discount for dividend tax, at the personal level.

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Read more:
Qantas and other big Australian businesses are investing regardless of tax cuts

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Dividend imputation only makes sense if we assume Australia is a closed economy with no foreign investors. In reality, Australia depends on inflows of foreign investment. About one-third of the corporate sector is foreign owned.

The likely source of additional finance, especially for large Australian businesses, is a foreigner who does not benefit from dividend imputation. So the company tax pushes up the cost of capital and domestic investors benefit from franking credits for a tax they don’t actually bear.

But the politics of making a change to the system are difficult, because domestic investors, especially retirees on low incomes and superannuation funds would lose out. But this approach could benefit workers, jobs and Australian businesses.

Broaden company tax by removing interest deductibility for companies

Another approach is to remove or limit deductibility of interest for companies. This can raise the same revenue at a lower rate, by allowing less deductions. Excessive interest deductions are used by multinationals to reduce their Australian tax bill, as shown in the recent Chevron case.

This would be like imposing a withholding tax on interest paid offshore. We explore a comprehensive business income tax on all corporate income. Modelling shows that this tax would finance the rate cut to 25%.

The comprehensive business income tax raises some difficult issues for taxing banks. This is because their profit is interest income less interest expense.

But there are numerous policies to restrict interest deductions already in place, here and around the world. These restrictions could be expanded. For example the thin capitalisation rules limit of the amount of loans a business can have relative to equity.

We still need anti-abuse rules because businesses can use other methods to minimise tax, as canvassed by the OECD in its Base Erosion and Profit Shifting project, including transfer pricing, and deductible payments offshore for intellectual property fees.

A rent tax or allowance for equity

A third option for a company tax cut is to change to a tax with a lower effective marginal rate. This means that the return on a new investment is taxed less heavily than under a company income tax.

We could introduce an allowance for corporate equity, or corporate capital, which provides a deduction for the “normal” or risk-free return for capital investment. This is also called an economic rent tax because it only taxes the above-normal profit.

Modelling shows that the allowance for corporate capital encourages new investment, which helps economic growth, but there is a large budget cost. The extra deduction reduces the overall tax take and so a higher rate is needed for the same revenue.

It is unlikely Australia would want to maintain or increase our company tax rate, as this directly contrary to the global trend and can lead to even more tax planning by businesses.

For Australia, a supplementary rent tax aimed at the financial and mining sectors – where above-normal returns are known to occur – could be combined with a lower company income tax. Modelling this option for the finance sector shows a large welfare gain and sufficient revenue to fund the rate cut to 25%.

The government has a lot of choices

We show that the government has many options available to finance the needed corporate rate cut and improve efficiency of the company tax.

Policymakers could mix and match these options. Dividend imputation could be replaced with a discount and combined with a comprehensive business income tax. Limits on interest deductibility could be combined with a part allowance for corporate capital.

Replacing dividend imputation with a dividend discount at the personal level could be the best initial step. Other options for major reform of Australia’s company tax need to remain on the table, as company taxes drop to a new low and systems are reformed around the world.

David Ingles, Senior Research Fellow, Tax and Transfer Policy Institute, Crawford School of Public Policy, Australian National University and Miranda Stewart, Professor and Director, Tax and Transfer Policy Institute, Crawford School of Public Policy, Australian National University

This article was originally published on The Conversation. Read the original article.

The government’s company tax cut win a triumph of politics over economics

Brett Govendir, University of Technology Sydney and Roman Lanis, University of Technology Sydney

Now that the first stage of a cut to the corporate tax rate has been passed by the Senate it’s clear the benefits are more political than economic. The cut may signal to the world that Australia wants to be competitive on corporate tax, but it won’t make much of a difference to our largest businesses and multinationals.

Company tax cuts have been on the government’s agenda since the 2016 budget, when the cuts were announced. Ultimately, the plan was to reduce the corporate tax rate from 30% to 25% by the 2026-27 financial year for all companies.

The government has secured a cut to businesses with a turnover of under A$50 million, with companies with a turnover of less than A$10 million receiving a reduction in their tax rate (to 27.5%) this financial year. But the second stage of the tax cut is still to be passed, that would give a cut to businesses with a turnover of A$100 million in 2019-20.

The impact is all in Australia’s image

Arms of multinational companies often pay a much lower effective tax rate when compared to their parent company. Until politicians across the globe can agree how to ensure companies pay tax on local earnings, which appears unlikely in the near future, tax rates will remain a signal to multinationals on where to base their business.

The tax cuts have been strongly supported by big companies and even more so by the Business Council of Australia. A major reason put forward by the business community is the need to stay competitive in a global environment.

Our major trading partners such as the United Kingdom and United States are planning to drastically reduce their corporate tax rates and countries such as Ireland (12.5% on corporate trading profit) and Singapore (by 2018 20% capped at $20,000) already have very low corporate tax rates in place. Multinational corporations have the ability to profit shift to lower taxing jurisdictions.

For instance, a multinational can employ tax accountants to structure ownership of intellectual property in a low taxing jurisdiction and reduce gross income by license fees, or via debt loading to a parent company. Tax avoidance is often siphoned through a non-reporting subsidiary, so these accounting tricks occur without the glare of public scrutiny. In other instances multinationals have been able to completely bypass Australian tax by booking revenues overseas.

How it will affect accounting for Australian companies

When you look at what a tax cut might mean to Australian companies, it’s not hard to envisage how a tax cut tied to a specific revenue level creates incentives for accountants and lawyers to exploit new thresholds.

Accounting research from the United States shows companies do take into account tax when considering how to report their profits. For example, a typical strategy is to delay recognising an expense that belongs in the current year, until the next year.

This is usually to make it seem like the company has increased its profits, making it appear better to shareholders. However there have been no studies specifically relating to how companies might do this in relation to revenue (what the Australian government is considering for the tax cut).

At any rate, the net rate of tax on Australian company profits is considerably lower than the current 30% (or the new 27.5%) company tax rate. According to our calculations it should be around 11.3%. This is lower than the company tax rate in other similar economies.

There’s also something unique to Australia which means private companies pay less tax and that’s dividend imputation. This is designed to eliminate the double taxation of dividends in the hands of Australian shareholders.

Since it’s introduction in 1987, dividend imputation has provided strong incentives for firms to pay the full statutory tax rate on all reported profits. The tax paid on dividends flowing to Australian shareholders of Australian companies is reduced by an amount equal to the tax already paid by the corporation, this is known as imputation credits. A shareholder’s marginal tax rate, and the tax rate for the company issuing the dividend, both affect how much tax an individual shareholder owes on what is called a fully franked dividend.

Companies that pay fully franked dividends in Australia, pay on average over 10% additional tax on the same level of earnings than companies not paying franked dividends. Approximately 62.3% of imputation credits are utilised by resident shareholders.

The average effective tax rate of Australia’s largest private companies are much lower than that of the largest public companies (most of which pay fully franked dividends). You can see this in the table below which shows the effective tax rates calculated by two separate studies.

https://datawrapper.dwcdn.net/3Hvfs/2/

One of the studies by the union United Voice looked at the ASX200 companies and the otherby lobby group GetUp examined the largest private companies operated by foreign multinationals.

The corporate tax rate does figure in investment decisions of Australian companies and foreign companies wanting to do business in Australia. However, the rate of corporate tax is at best a second order effect in influencing the decisions of foreign companies. Therefore, the gains from the government win in the Senate appear to be more political than economic.

At best the tax cut may somewhat reduce the burden on smaller Australian companies, albeit at a significant cost to the budget, without impacting the largest Australian and foreign multinationals. Although prospects for further tax cuts for the big end of town (which has a greater impact on the economy) are unlikely in the next five to 10 years without Senate crossbencher support.

Brett Govendir, Lecturer, University of Technology Sydney and Roman Lanis, Associate Professor, Accounting, University of Technology Sydney

This article was originally published on The Conversation. Read the original article.

What economists and tax experts think of the company tax cut

Jenni Henderson, The Conversation

Prime Minister Malcolm Turnbull and the Treasurer Scott Morrison are still trying to sell their plan to cut the company tax rate to 25% by 2026-27. The current rate is 30% and has been since 2001.

The tax cut was introduced in the 2016 federal budget. The government indicated small to medium businesses turning over less than A$10 million would pay a company tax of 27.5% initially. The company turnover threshold for the tax cut would then increase over time from A$10 to $25 million in 2017-18 to A$50 million in 2018-19 and finally A$100 million in 2019-20.

But before any of this happens, the government needs to convince the senate crossbenchers to pass the legislation. It seems the government hasn’t won over tax experts and economists with this policy, here’s some articles that explain why.

Don’t expect an instant wage increase

In a national press club address Malcolm Turnbull justified the tax cut by saying, “company tax is overwhelmingly a tax on workers and their salaries.” It follows that cutting it would increase salaries right?

However there’s a whole lot of decisions businesses need to make before they even consider raising wages. It’s not just as simple as the government makes out, as professor John Freebairn from the University of Melbourne notes:

Individuals benefit from lower corporate tax rates with higher market wages. But the higher wage rates will take some years to materialise, and the magnitude of increase attributed to the lower corporate tax rate, versus other factors, is open to debate.

Businesses would need to consider the savings of international investors, what resources the business might need, what the return for investors would be on these. All of this before it would consider a wage increase for its workers.

The enlarged stock of capital, technology and expertise per worker becomes a key driver of increased worker productivity. In time, more productive workers are able to negotiate higher wages. Via this chain of decision changes, employees benefit from the lower corporate tax rate.

Any modelling on how much a tax cut could be worth to our economy is up for debate

Modelling is sensitive to whatever assumptions the government makes and these assumptions can be oversimplified. ANU principal research fellow Ben Phillips points out that tax reform like this inevitably has winners and losers and is influenced by powerful lobby groups.

In thinking about tax reform it is important to keep in mind that the gains from modest tax reform are not likely to be a revolution in Australia. The models themselves only estimate relatively small gains from tax reform.

Here’s a little something to bear in mind when hearing any figures thrown around on how much a company tax cut could be worth:

Over the past 25 years Australia’s living standards have increased by around 60% whereas the sorts of gains estimated from tax reform are expected to be little more than 1 or 2%. It remains important that in securing such modest gains we don’t ignore fairness.

The benefit to the domestic economy won’t be that big

The idea behind the cut is that companies will be motivated to provide jobs and other economic benefits because they are receiving a tax break. In theory this kind of tax should boost the economy in the long term, but as John Daley and Brendan Coates from the Grattan Institute explain it’s not that simple.

In Australia, the shares of Australian residents in company profits are effectively only taxed once. Investors get franking credits for whatever tax a company has paid, and these credits reduce their personal income tax. Consequently, for Australian investors, the company tax rate doesn’t matter much: they effectively pay tax on corporate profits at their personal rate of income tax.

The Grattan researchers point out that if companies pay less tax then they might reinvest what they save, but in practise most profits are paid out to shareholders. So the tax cut won’t have much of an impact on domestic investment.

They also pick holes in the Treasury’s modelling on the tax cut’s boost to Gross National Income (GNI).

Treasury expects that cutting corporate tax rates to 25% will only increase the incomes of Australians – GNI – by 0.8%. In other words, about a third of the increase in GDP flows out of the country to foreigners as they pay less tax in Australia. And because most of the additional economic activity is financed by foreigners, the profits on much of the additional activity will also tend to flow out of Australia.

It doesn’t make much of a difference

Another argument for cutting Australia’s company tax rate is to deter companies from shifting their profits to other countries where the tax rate is lower. Recently President Trump promised to cut the United States federal corporate tax rate from 35% to 15%.

Antony Ting, associate professor at the University of Sydney notes most countries have been reducing their company tax rates over the past two decades. This hasn’t changed the incentive for multinationals to avoid taxes.

The tax-avoidance “success” stories of multinational enterprises such as Apple, Google and Microsoft suggest this argument is weak. The fact is that the profits these multinationals shift offshore often end up totally tax-free.

A FactCheck by Kevin Davis, research director at the Australian Centre for Financial Studies, reviewed by economist Warwick Smith, says there’s no point to comparing Australia’s company tax rate with other countries anyway.

Australia’s dividend imputation tax system means that any comparison of our current 30% rate with statutory corporate tax rates elsewhere is like comparing apples and oranges.

Small and medium businesses actually lose out

Due to the way the proposed company tax cut is structured, foreign investors get a windfall while local employers including small and medium businesses cop a cost because they remain uncompensated.

Economist Janine Dixon from Victoria University modelled how the cut would play out.

Local owners of unincorporated businesses are taxed at their personal tax rate. Because of Australia’s dividend imputation system, Australian shareholders in incorporated business are also taxed at their personal rate, not the company tax rate.

She explains that 98% of small businesses (employing four or fewer people) are wholly Australian owned and because of this are indifferent to the cut, but 30% of large businesses (employing more than 200 people) have some component of foreign ownership.

An increase in foreign investment is generally understood to be a driver of wage growth. This is the basis for the argument that at least half of the benefit of a cut to company tax flows to workers… We find that benefit to foreign investors will exceed the total increase in GDP. In the domestic economy, benefits to workers will be more than offset with a negative impact on domestic investors and the need to address additional government deficit.

Other things are just as important

Even if some businesses are keen for a tax cut, meaning more money in the kitty, it’s how these businesses spend this money that counts.

Jana Matthews from the Centre for Business Growth at the University of South Australia says many CEOs are uncertain about what to do in order to grow their business and are fearful of making the wrong decisions.

We need to focus as much attention on the management education of founders, CEOs and MDs [managing directors] of medium-sized companies as we do on providing them with more money. Once they learn how to grow their companies, they will definitely need money to become the engines of growth, and they will certainly hire more people, creating the jobs we all want.

Jenni Henderson, Editor, Business and Economy, The Conversation

This article was originally published on The Conversation. Read the original article.