Relying, as Australia currently is, on personal income tax to provide almost half of our revenue is a high-risk strategy for a deeply indebted country facing the prospect of rising world interest rates. We, moreover, are shooting ourselves in the foot by ruling out or making it extremely difficult to change the composition of the tax mix.
The combined burden of State payroll tax and 12% compulsory private super contributions rules out the possibility of raising revenue from social security taxes such as those widely used by other governments. Similarly, handing all the indirect tax revenue from the GST to the States reduces the scope to rely more on indirect taxes to raise revenue.
Amongst other things, these constraints explain why the latest budget focused on increasing income tax collections from trusts, capital gains and geared investments. By legislating to apply minimum tax rates of 30% and taxing more income at higher rates up to 45%, the government is focusing on the advantages of income splitting and tax deferral.
So far, the overall reaction has been unfavourable, especially because more income will be subject to higher marginal tax rates than previously. Raising more revenue from the changes may, moreover, not be as successful as the government hopes because of lower asset prices and changes in investment strategies, particularly to make greater use of low superannuation fund tax rates and generous withdrawal rules.
Combined with the forced reduction of 8.2% or more of wage income by compulsory super rules, the increasing income tax burden places, in many cases, extreme pressure on private-market renters and home purchasers not eligible to claim mortgage interest tax deductions. Adding to the burden, past financial deregulation decisions and growing pressure from government and AI debt requirements ensure that the full cost of higher interest rates falls on borrowers.
Adding to these pressures, the more favourable treatment of interest payments on investment borrowings results in financial institutions favouring investment borrowers in distributing loans. Long gone are the days when financial regulations forced banks to give priority to owner-occupied homebuyers. More worrying is that the recent changes to negative gearing rules remove the opportunity to gain access to the existing property market through buying an existing property as an investment.
Amongst other things, this change favours better-off existing property investors who will still be able to write their gearing losses off against their investment income from other properties. The new tax arrangements give these geared investors two deductions for inflation, one for the interest part of their investment cost and the other when realising the gain. This favours fully geared purchases using existing assets as collateral.
Clearly, any legislation taxing only real capital gains should only cover the actual money invested, including borrowed money not generating a current tax deduction. As far as helping first-home buyers into the property market is concerned, a flat-rate income tax at a 25% rate with no allowance for inflation would level up the playing field.
Alternatively, if the government keeps the current discriminatory structure, an alternative balancing mechanism would be to keep the existing negative gearing arrangements for taxpayers not currently owning a property. Apart from helping non-homeowners to save by buying a future residence, major changes to compulsory super arrangements are essential to ease the pressure of personal income tax on the living standards of renters and heavily geared homebuyers.
Controlling the rapidly growing cost of the superannuation tax concessions would help reduce the pressure on income taxpayers and lower marginal tax rates. Currently, for top marginal tax rate payers, with no exit tax on withdrawals of benefits, the compounded annual tax benefit of investing using this structure is a reduction in the effective income tax rate of 32%. A flat-rate 25% personal income tax rate would reduce this benefit to only 10% annually, dramatically reducing the tax attractions of investing in superannuation, especially before the age of 60.
Similarly, reducing the current ability of homeowners to gain access to the age pension, even by extending the official government reverse mortgage scheme to help those losing their pension, would aid reform of the personal income tax system. Amongst other things, a bold approach to reform, particularly focusing on the groups penalised most by the current structure and compulsory super arrangements, would simplify life and tax compliance for millions of taxpayers.
This is why I am now concentrating on explaining in my next publication just how compulsory super is ruining both the structure of our tax system and the financial prospects and situation of many people. This is, of course, in the context of a deeply indebted government forcing its residents to pay higher interest rates through competition in the local and world financial markets.