COTA's response to Labor's tax reform package

September 1998

CONTENTS

• Overview
• Key elements of the Labor tax package
• COTA's benchmarks for assessing the Labor tax package

OVERVIEW

The Labor tax reform package is fundamentally different from that of the Coalition Government and as such it is difficult to compare them on the same terms.

COTA has criticised the Coalition Government's tax plan because we believe the Government has failed to provide a convincing case that low income older people will not be worse off in the event of the introduction of a GST despite the compensation that is offered. Click here for our response to the Coalition package.

While Labor's package does not hold the same level of immediate risk from a GST for older Australians, COTA questions whether the package will deliver the tax reforms that Australia needs for the long term.

COTA has sought tax reform for a number of years.

Our primary concern is that resources and services for older people are adequate, particularly for those who are disadvantaged for economic reasons or because of frailty, ill-health, disability or any other reasons.

The provision of services and resources for older people is an issue of growing importance to governments with the ageing of the population. There will need to be a strong and sustainable revenue base.

COTA has observed that the revenue base has been leaking for many years due to factors including:

• Loopholes in the present system including the use of trusts and tax havens for the purposes of tax minimisation and the anomalies created by the pre 1985 capital gains tax exemption.
  
• The increase in the number of people claiming to be self-employed (brought about in part by changes in employment practices such as contracting out) leading to a reduction in the number of PAYE payers and an increase in the amounts claimed for expenses.
  
• The wholesale sales tax system which has become anomalous with present consumption patterns.

Factors such as these have meant that Australia's revenue as a proportion of GDP will be on average $15 billion per year less in the 1990s than it was in the 1980s (ACOSS TaxReform Pack, 1997, p2).

As a result federal and state governments have sought to make up the short-fall on the expenditure side of the balance sheet. Programs have been abolished, spending has been cut and user payments have increasingly been applied.

Just as importantly, there is a lack of funds for new and emerging needs and many programs are insufficiently funded to meet existing levels of need.

It is in this context that COTA has looked to tax reform to improve the revenue side of the Commonwealth budget to take the focus off the expenditure side.

Our question about the Labor package is whether or not it will stem the leakages from Australia's revenue base.

COTA is not convinced that the Labor package has seriously addressed this challenge.

In addition, there is a major gap in the package in that it does not address Commonwealth-State financial relations except to say that Labor would consult with the States and Territories about possible improvements. This is not a strong position and is certainly weaker than the Coalition proposal.

The Commonwealth-State financing issues are most serious. While the Commonwealth has primary responsibility for collection of tax revenue, the States have responsibility for the provision of many important services including public hospitals and community care. Older people are suffering as a result of the conflict between the Commonwealth and States. For example, the Commonwealth has withdrawn over $300 million in Hospital Funding Grants between 1996-97 and 1999-00 to offset cost-shifting on the part of the States (1996-97 Budget Paper No. 1, p. 3-95). Such cuts have deep and abiding effects in terms of the quality of and access to public hospitals.

The package fails to present proposals on repairing the revenue base and addressing Commonwealth-State financing issues.

Older people and the Labor tax package

The Labor package largely preserves the status quo for older people in terms of income security because there is no GST and they are largely unaffected by income tax cuts.

COTA has identified a range of strengths and weaknesses in the package:

Strengths

The package does contain some positive measures which many older people will support:

• An additional $500 million per year for public hospitals
  
• Commitment to retaining the Medicare levy and raising extra earmarked health funds through the imposition of an additional 0.2 of a percentage point for people with incomes over $50,000 bringing their Medicare levy up to 1.7 per cent instead of the normal 1.5 per cent of taxable income.
  
• Refundable imputation credits can be cashed out by people without taxable income.
  
• The tax exempt status to allocated pensions will be continued.
  
• The abolition of the additional annual and daily nursing home fees

NB: In its aged care policy announced on 4 September 1998, Labor has made a commitment to put back $520 million over 3 years into aged care. $320 million of this funding will go to upgrading nursing homes with first priority going to those that have failed certification. COTA is not convinced that these funds will be adequate or that Labor has proposals which adequately address the long term sustainability of residential care capital.

Weaknesses

There are also some significant disappointments in the package for older people.

The pension income test

The package has a strong focus on reducing the effective marginal tax rates (poverty traps) caused by the interaction between the taxation and social security system for families. Through a system of tax credits and rebates low to middle income earners in paid employment, are able to keep more of their earned income under the Labor proposals with less lost through withdrawal of social security benefits such as family allowance or through additional taxation.

This is positive, of course, but it does not recognise that many older people reliant on the age pension or other social security income, such as carer or disability pensions, are caught in the same trap.

They fear that if they earn a little additional income from employment, interest or dividends they will rapidly lose their pension income at the rate of 50 cents in the dollar for any income earned over $50 per week for singles and 25 cents in the dollar for any income earned over $88 per week for each member of a couple. The Coalition package, in contrast, reduces the withdrawal rate to 40 cents in the dollar, giving older people an opportunity for improving their standard of living.

2. Pension adequacy

The package does not do anything for the many people reliant on the Age Pension for long periods with little or no private income. This group has been a major concern for COTA in recent years.

In terms of the adequacy of the pension, COTA continues to be of the view that there is a need to increase the rate of the Age Pension. We believe that the Age Pension is insufficient for people who have no other source of income and who must depend on this over a long period of time. While it allows survival on a week to week basis, it is insufficient to allow people any savings for replacement goods and services such as white goods and major repairs or dental care.

ACOSS has noted in its analysis that the Labor package does not provide any relief for low income people not in paid employment and unable to obtain paid employment. This situation applies to many older people on low incomes, especially those either receiving an Age Pension or who may be unemployed, disabled or a full time carer if not yet eligible for an age pension.

3. Private health insurance

COTA is concerned that the package does not abolish the private health insurance incentrebates introduced in July 1997, which are absorbing much needed public funds into the inefficient private health insurance industry. These rebates were immediately absorbed as higher premiums.

The rebates are for singles with taxable income of $35,000 per year or less and couples with combined taxable income of $70,000 or less and an additional $3000 per child. The rebates for hospital only cover are $100 for singles, $200 for couples and $350 for families.

Abolition of the scheme would save around $600 million per year which would make a very substantial contribution to public hospitals.

KEY ELEMENTS OF THE LABOR TAX PACKAGE

In assessing the Labor tax reform package, it is important to understand its key purposes and design features.

1. Income tax cuts for low to middle income wage earners

The heart of the Labor tax package consists of income tax cuts for low to middle income earners with a special focus on families. The tax cuts are delivered as a system of tax credits which can be received as an annual lump sum or can be received in the weekly pay packet.

The tax credit system is quite complex. It is designed to reduce the tax burden on low and middle income families, improve work incentives and assist in the transition from welfare to work. The tax credits only apply to earned income. Families with more than $5000 in annual unearned income will not be eligible for the Credit.

The amount of the credit is linked to gross family earned income. The amount of the Tax Credit rises at the rate of 10 cents for every dollar earned (so if you earn $15,000 your tax credit is $1,500). This continues to a level determined by the number of children and then the Credit is phased out at the rate of 15 cents in the dollar.

The Tax Credits mean that a family with one dependent child can receive $3000 per year or $58 per week with an income between $30,000 and $40,000. The Credit then starts to be withdrawn at the rate of 15 cents for every extra dollar earned between $40,000 and $60,000.

The income range at which the maximum Credit applies increases with the number of children, so for a family with two children the range is $33,000-$43,000 phasing out between $43,0001 and $65,000.

For a family of four, the maximum credit applies between $39,000 and $49,000 phasing out between $49,001 and $75,000.

Families with an income of less than the income tax free threshold of $5,400 would still be able to claim a $540 Tax Credit.

Tax cuts are also available to low and middle income single people and couples without children and in paid employment. They will be eligible for a Tax Rebate of $750 for an individual income of less than $38,000 and $500 for each of a couple, phasing out at a level of individual income of $60,000.

2. Tax relief for business

The Labor tax package delivers a variety of tax benefits to stimulate business and employment.

The measures include:

• 150 per cent Research and Development Concession
  
• A Development Allowance will provide a tax deduction at the rate of 20 per cent on total eligible investment expenditure of $5 billion undertaken after 1 July 1999 and before 30 June 2003
  
• Extension of Infrastructure Rebate
  
• Incentives for Venture Capital of $41 million over 2 years 2000-01 to 2001-02
  
• Review of Business Tax System

3. Ad hoc tax reform measures

• Wholesale sales tax changes
  - removal of WST from fruit and vegetable juice
  - caviar to be taxed at luxury rate of 32 per cent
  - business jets to be taxed at 22 per cent
• Abolish savings rebate
  
• Reform of Fringe Benefits Tax
  
• Abolish pre-1985 exemption from Capital Gains Tax
  
• Taxation of trusts on the same basis as companies
  
• Tax four wheel drives the same as passenger motor vehicles
  
• Improve compliance
  
• Additional Medicare Levy of 0.2 of a percentage point for people earning over $50,000
  
• Refundable imputation credits can be cashed out by low income people
  
• Continuation of tax exempt status to allocated pensions.
  
• Abolition of provisional tax

ASSESSING THE LABOR PACKAGE

COTA applies the same benchmarks to the Labor package as it has to that of the Coalition. A number of COTA's benchmarks are only relevant, however, to a tax package that includes a GST as indicated:

BENCHMARK 1: OLDER PEOPLE IN THE LOW TO MIDDLE INCOME GROUPS SHOULD NOT BE WORSE OFF UNDER ANY TAX REFORM PROPOSAL

There is little risk that older people would experience any change in economic position, at least in the short term, under the Labor package. The package does not hold the risks of the Coalition package that the compensation for a GST may not be adequate, and that low income older people may be worse off as a result.

However, COTA notes that an individual in paid employment with an annual income of $20,000 will receive a tax rebate of $750 per year. Another individual with an annual income of $20,000 from interest on savings or share dividends and a small part pension receives no tax rebate even though the amount of tax paid is the same.

In this sense, low to middle income older people may find themselves worse off under the Labor package compared to people in paid employment on the same level of income who are eligible for income tax cuts delivered as rebates and tax credits.

The GST benchmarks not relevant to the Labor package are as follows.

Benchmark 2:

The compensation for a GST should be fair

Benchmark 3:

Food, health and community services should be GST-free

Benchmark 4:

If food is not zero-rated then the compensation package will need to be adequate.

Benchmark 5:

Older people in rural and remote areas should be given additional compensation for the effects of a GST.

Benchmark 6:

The tax package will need to include guarantees that the compensation package will be sustainable over the long term and that the level of the gst will not rise.

The following benchmarks can be applied to the Labor package.

Benchmark 7:

Any proposal should aim to provide governments with sufficient revenue for necessary social services over the long term

COTA has serious questions about the Labor package in regard to this benchmark. The Labor document, A Fairer Tax System: with no GST, does not specify how the proposals will improve Australia's revenue base over the very long term. COTA is seeking further clarification from the Labor Party on this issue.

The package is conceived as a set of expenditure measures, particularly income tax cuts, offset against another set of measures on the tax collection side to pay for them. However, the package does not demonstrate how the measures will strengthen the revenue base.

Benchmark 8:

The progressive elements of australia's present tax system should be strengthened to ensure that those with the greatest resources make the greatest contribution

The package is structured in such a way as to provide a greater level of benefit to low to middle income wage and salary earners, particularly families, than high income earners and in this respect can be considered to strengthen the progressive elements of the tax system.

However, only working people are eligible for the income tax cuts, delivered as tax credits and rebates. There are no changes to the tax threshold and marginal tax rates that could assist lower income part-pensioners and non-pensioners with taxable incomes.

Benchmark 9:

A priority for tax reform should be on closing loopholes, removing distortions and reducing evasion

The Labor package goes some way in this regard but there seems to be a significant number of problems left.

Wholesale sales tax has largely remained untouched as a system full of anomalies and out-of-touch with current consumption patterns.

ACOSS, in its analysis of the Labor package,has identified several loopholes and tax shelters which remain in place (see website at www.acoss.org.au):

• high income earners can continue to stream their income through companies to take advantage of the gap between the 36 per cent corporate tax rate and the 47 per cent top marginal tax rate for personal income
• negative gearing for investments on investments in property and shares is untouched
• salary sacrificing for high income earners: trading off salary for company cars continues
• salary sacrificing for high income earners to take advantage of the 15 per cent tax rate for super contributions, through employer superannuation contributions continues.

In addition, the package does nothing about the large number of regressive and inefficient state taxes and the problem of the states/territories' excessive reliance on gambling revenues to make up revenue short-falls.

Benchmark 10:

Better revenue sharing between commonwealth and the states without transfer of tax powers is needed

The package fails seriously in this regard offering no progress other than to propose further discussions with the States and Territories.

As noted in the introduction, this is a serious issue given the states/territories role in providing essential social services.

States/territories are forced into the position of excessive reliance on regressive and inefficient state taxes and gambling revenue.

Benchmark 11:

The nature of income tax cuts and how they are paid for

The proposed income tax cuts are less regressive than those proposed by the Coalition.

The income tax promises are also less risky than those proposed by the Coalition because they do not eat into the Budget surplus as much and will be less exposed to the vagaries of an economic downturn.

However, COTA is concerned that the tax package places too much emphasis on income tax cuts although these are directed to low to middle income wage and salary earners, particularly families.

COTA remains to be convinced that large income tax cuts are the most appropriate means of redistribution for the Australian community, although we do agree that the effects of bracket creep should be continuously address to ensure that the system remains progressive.

COTA considers that all sections of the Australian community, including low to middle income wage and salary earners, have suffered from deep expenditure cuts over recent years. Restoration of expenditure levels to meet needs are more important than income tax cuts.

COTA believes all Australians, including those targetted under the Labor tax cut proposals, could benefit more from increased expenditure in important areas including health, education, housing, aged care, child care and infrastructure. Income tax cuts are a poor compensation where individuals and families are:

• paying more for basic public goods such as education, child care and aged care;
• not receiving the services they need such as treatment in public hospitals, community care and legal aid; and
• experiencing greater levels of stress because of the reduction in public sector provision of basic services.

Labor's income tax cuts, like the Coalition tax cuts represent a view that what individuals and families need most is more private income in preference to publicly resourced services. However, this need for more income is generated to a large extent by the failure of the public sector to adequately meet the demands for important public goods including education, health services, aged care and child care.

Benchmark 12:

The extent to which changes to the tax system improve overall economic performance by reducing distortions and enhancing incentives for productive investment

The Labor Tax Package proposes a range of tax incentives and other changes which may serve to improve business prospects and investment.

The Labor Package has a more explicit focus on enhancing incentives for productive investment than the Coalition package. The crucial issue however, will be whether business itself will see the Coaltion package with a GST as the more favourable of the two proposals.

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