'Root and branch' tax reform

needs decisions, not a review

Business Age,

24th April 2008

(Square brackets omitted by Ed)

Some quick action on changes to taxation would enhance the Government's image and improve the economy, writes Des Moore

Before the election Labor had little to say about taxation policy other than (mainly) to adopt the "me too" approach of income tax cuts of $31 billion out of the $35 billion already announced by the Coalition.

Arising out of the Summit, however, one of the policy discoveries made by Prime Minister Rudd is that a "root and branch reform of Australia's tax system" is needed, although when the review (yet another one to add to the long list) will occur he has not decided. In the meantime, the Coalition has started a review by distinguished economist Professor Henry Ergas, who is to report later this year.

The case being made for major tax reform by the Government is two fold.

First, it is alleged that the last major review was [a long while ago] in 1985, under the Hawke government. But while there was a major review by Treasury leading up to the tax summit in July of that year, it is relevant to recall that under pressure from the ACTU, Prime Minister Hawke knocked on the head the principal proposal then advanced by his Treasurer Paul Keating, for a general consumption tax.

By contrast, the Howard Coalition undertook successful major reviews. On a revenue neutral basis, the Ralph review allowed a reduction in company tax and, with Labor's agreement, in the excessive capital gains tax imposed as one of the survivors of the 1985 review (the other main one being the franked credits company tax arrangements).

The other main review allowed the introduction in 2000 of the GST, with offsetting reductions in income tax and the provision of sufficient revenue to compensate the states for their removal of financial institutions duty, bank account debits tax, stamp duties on shares and even the NSW bed tax.

But note that despite his assessment of a "root and branch" need, Rudd has reaffirmed his statement when Opposition leader that he will never increase the GST rate. Will this rule out what would seem desirable - a review and correction of the unwarranted and distorting GST exemptions, notably on food, forced on the Coalition by Democrats who are now disappearing electorally? Such exemptions could be removed without increasing the average GST rate.

Although it seems strange that the Prime Minister has apparently already ruled out what could be a major structural change in the taxation system, I welcome that. Many favour reducing the relative burden of income tax, but there is much to be said for a tax system that confronts individuals with their contribution to government rather than the hidden indirect taxes most are scarcely aware of paying.

The second part of the case for a major review relates to the wide acceptance that we have an inefficient and highly complex tax structure, as reflected in the 8,000- plus pages of federal legislation and the exemption regimes applying to both federal and state taxes.

Federal Treasury's annual Tax Expenditures Statement now runs to nearly 200 pages of tax concessions costing $50 billion (a large chunk relating to superannuation), or nearly 5% of GDP. But identifying such inefficiences and distortions is one thing. It is quite another to recognise the many difficulties that root and branch tax reviews experience. Our summiteers were sadly lacking in political realism.

Even though most experts advocate comprehensiveness in tax reform, it would be better to have a more focussed aim. A start could be made by recognizing what those at the summit overlooked - the ample scope to reduce the overall tax burden, an objective included for examination in the Ergas review. As I have pointed out in various [CIS and IPA] publications, the reality is that, despite the announcement of many tax 'cuts', the Coalition handed over to Labor a tax take that is 2.5 percentage points of GDP higher than when it took office in 1995-96.

Given the savage criticism of excessive Coalition spending by Prime Minister Rudd, he should surely be expected to do more than guarantee that Labor won't increase the burden of taxation relative to GDP. The same reform path is open to the Labor states: all could find budget savings to reduce state taxes.

Without any root and branch review of taxation there should be scope to immediately take the obvious step towards a flatter tax scale –already foreshadowed by Labor for 2013-14 if still in government - that would have significant incentive effects. Given appropriate expenditure reductions in higher income welfare, the composition of the budget would also be more equitable.

In short, instead of having another review, the Rudd government should make some actual decisions that would both enhance its own image and improve the economy.