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Sangkuhl, Elfriede --- "An inequitable, complex and inefficient taxation system" [2003] AltLawJl 70; (2003) 28(5) Alternative Law Journal 225

An inequitable, complex and inefficient taxation system

Elfriede Sangkuhl[*]

Some proposals for reform of the Australian tax system.

A good tax system would promote equity, be cheap to administer, easy to understand and not lead to gross distortion of resources. The Australian taxation system fails all of the above.

Even so, debate about tax is mainly limited to times when the government is proposing changes to the tax system and at the end of each tax year. The discussion of taxation issues takes place between legislators and a small group of professionals, accountants, employer and industry lobby groups and occasionally, welfare groups. This article attempts to put the discussion of taxation issues on the agenda for all academics, social reformers and members of the community. How a country taxes its citizens is a reflection of how a country values its citizens; therefore the discussion about taxation should be ongoing and wide ranging.

Taxation is the system of direct and indirect taxes that are levied by all three levels of the Australian government. The Commonwealth Government levies 77%[1] of the total taxes in Australia, the state governments 18.8% and local governments 3.5%.[2] State and local governments only levy indirect taxes, for example, payroll tax, stamp duties, financial transaction taxes and rates.

Direct taxes are imposed by the Commonwealth and consist of taxes on individuals' incomes and corporate profit taxes. Taxes on individuals are progressive taxes, that is, the higher the income, the higher the rate of tax payable. These taxes are intended to reflect an ability to pay and are good taxes from a perspective of social justice.

Indirect taxes are levied on goods and transactions. These taxes are generally levied at a flat rate, for example, the GST and are generally regressive taxes, that is, they are levied at the same rate no matter what the person's income. The effect of these indirect taxes is that poorer taxpayers pay a higher proportion of their incomes on the tax. They are bad taxes from a social justice perspective.

The Australian taxation system is complex. There are 22 broad categories of taxes levied by the three levels of government and some categories of taxes are levied by more that one level of government.[3] The reliance on income and profitability for assessing tax payable provides some taxpayers with opportunities for minimising taxes by minimising incomes and profits, while others -such as wage and salary earners -cannot minimise their level of taxation. This makes the system inequitable. All the indirect regressive taxes, such as the GST and gambling taxes are also inequitable because regressive taxes by their nature affect people on lower incomes more than those on higher incomes.

Many of the taxes levied are at odds with government policies, for example, taxes on gambling, tobacco, alcohol and fossil fuels. These taxes put the government in a conflict of interest situation. While governments are keen to increase revenue from these sources, the effects of gambling, tobacco use and road use instead of rail, for example, increase costs in other areas such as welfare, health and the environment.

This article reviews the Australian tax system to determine whether it meets the criteria of 'good' taxes that have the characteristics of equity, simplicity and efficiency. Suggestions are advanced for the reform of the tax system so that it becomes a system of 'good' taxes. ·

The three main sources of taxation revenue for governments are those based on: income, consumption and wealth.

The Australian taxation system taxes income and consumption. Taxes on wealth are limited to land taxes levied by some states and local government rates.

How equitable is the Australian taxation system?

The taxation system that Australia has is a reflection of what levels of equity or inequity that it, as a society finds, tolerable. Wealth and income disparities are not caused by the taxation system. The taxation system can, however, be a powerful tool in redressing wealth and income disparities or in entrenching them.

The first and arguably most important test of a good tax is equity. Fairness, or equity, is of two types:

1. Horizontal equity, namely, people in similar economic cirCumstances are similarly treated.

2. Vertical equity, namely, people who are better off should bear a greater part of the tax burden.[4]

Horizontal equity

The ranges of indirect, regressive taxes purport to provide horizontal equity because they appear to treat people in similar circumstances similarly. For example, a fuel excise of 50 cents a litre and a GST of 10% on most goods and services affect everyone paying the tax in exactly the same way in theory. However, this is not the case in practice.

The GST and other indirect taxes fail the test of horizontal equity because they impact more heavily on regional and remote communities in Australia, than on urban communities. High transport costs to regional and remote Australia mean purchase prices are normally higher than in urban centres. The effect of the GST, for example, will be more adverse for people in high cost areas. ATSIC commissioned a survey that estimated after the imposition of the GST an average household in Mount Isa would pay $458.12 per annum and on Thursday Island pay $1,302.60 per annum more than the same household in Brisbane[5] for the same basic goods and services. Urban people in the same economic position will, therefore, fare better than regional people.

Vertical equity

In Australia the gap between incomes of the high paid and the low paid has increased in the 15 years between 1982/83 and 1996/97. In 1982/83, 69% of taxpayers declared incomes below average weekly earnings (AWE). By 1996/97 this had increased to 75% of taxpayers[6] with below AWE incomes. Even more telling is the fact that in 1982/83, 49% of taxpayers declared less than 80% of AWE incomes. By 1996/97 61% of taxpayers[7] declared incomes below 80% of AWE.

The taxation system is not responsible for the increased inequality of incomes. However, because one of the stated aims of Australia's taxation system is 'increased fairness'[8] one could expect that this income disparity would be redressed by the most obvious tool available to government, the taxation system. What has happened is that people on lower incomes are paying more tax than they were 20 years ago and those on higher income are paying less. People declaring very high incomes have, despite progressive income taxes, substantially reduced the rate of taxation they paid in the 15 years to 1996/97.

Income taxes levied on individuals in Australia are levied at progressive rates by the Income Tax Rates Act 1986 (Cth). However, despite being progressive, these taxes have not effectively contributed to a more equitable distribution of the tax burden because the rules for allowable deductions favour those taxpayers with the flexibility to 'package' their salaries so that they can maximise deductions and reduce their taxable income. The rules for deductions also allow businesses more flexibility to include a range of 'expenses' as deductible compared to a wage and salary earner.

The progressive rates of taxation, which should redress income inequalities, are not working. The basis of Australian income tax legislation is the concept of assessable income'[9] less allowable deductions[10] which gives taxable income. [11] Both measures are artificial constructs that allow ample opportunity for people not earning a wage to reduce their assessable income.

Legal (usually) tax avoidance industry

The complex and artificial nature of the taxation system has led to the growth of the tax avoidance industry. Because taxation is so complex there are numerous loopholes in the legislation that allow taxpayers to legally avoid paying tax. The most common forms of tax avoidance are:

• the formation of trusts; and

• tax minimisation schemes.

The formation of trusts

Trusts are legal entities that sit between a company and a partnership. Trusts own property and earn income on behalf of beneficiaries. Trusts pay no tax. When the income from trusts is distributed, then the beneficiaries pay tax.[12] The income of trusts is normally distributed so that it attracts the least amount of tax by the beneficiaries. For example, the income can be accumulated in the trust and paid out when the beneficiary has a tax loss from another source, or the income can be 'split' between family members so that low levels of tax are paid. When the GST was being introduced the intention was to 'tax trusts as companies'. [13]

This idea was dropped with very little fanfare in early 2001. It is estimated that the use of trusts leads to a loss of approximately $2b in taxes annually.[14]

Tax minimisation schemes

Every autumn the letterboxes of accountants throughout Australia fill with tax minimisation schemes promoted by 'specialists' selling schemes that will save the accountant and their clients from having to pay tax. The schemes all have the same mode of operation. The taxpayer outlays say, $10,000 borrows $30,000 and 'invests' in a scheme to either make a film or grow nuts, grapes, olives, alpacas etc. The taxpayer gets an immediate tax deduction of $40,000. The tax office has approved some of these schemes.[15] However many of the more blatant schemes, that is, those that can't demonstrate they will ever earn assessable income, are not approved. Recently, one of the promoters of such schemes, Saxby Bridge, has had 10 of 15 schemes disallowed by the. tax office. The tax office has estimated that as little as 10% of funds invested in some schemes are actually invested in the project. The remainder goes to the promoters and financiers.[16] The tax office estimates that it will collect up to $4.3b in back taxes from people who invested in these non-approved schemes.[17]

Tax evasion

Tax evasion is the illegal way of not paying taxes. Because it is illegal there are no statistics on how much tax is 'evaded'. Some forms of tax evasion are not declaring income, the cash economy, overstating expenses.

How efficient is the Australian taxation system?

An efficient tax system is one that does not distort the allocation of resources from where 'they .will generate the largest economic gains to the nation'[18] to where 'they will yield the largest tax gains to investors'.[19]

Some of the distortions in our taxation system are:

• The lack of wealth and inheritance taxes. This encourages investment in low income yielding assets as opposed to high income yielding assets. Even though there is land tax in NSW this is not a comprehensive wealth tax.

• The fringe benefits tax (FBT) attempted to address tax minimisation by wage and salary earners. However, the FBT also introduced distortions. For example, the formula for assessing the taxable value of car fringe benefits[20] gives a financial advantage to a wage and salary earner in taking a car as a fringe benefit. This distortion means that many wage and salary earners choose to take a car rather than salary when packaging their remuneration. This is at the expense of using either public transport or a smaller car. This distortion will increase greenhouse gas emissions by encouraging the use of cars over the use of public transport. It also encourages the purchase of more expensive imported cars over the purchase of cheaper locally manufactured cars (the more expensive the car, the bigger the tax advantage). The resulting increased imports are also bad for Australia's balance of payments.

• Another example of distortions in the FBT legislation is the inclusion of arguably doubtful 'work-related' expenses as exempt from FBT.[21]

• The FBT legislation also gives a rebate from the tax to certain non-profit employers.[22] This distorts the employment market because non-profit organisations can offer fringe benefits at less cost than commercial organisations. For example, church schools can offer teachers tax-effective salaries at a lower cost than the Department of Education.

• The capital gains tax (CGT) legislation distorts the way people invest. Instead of making investment decisions on the basis of expected returns and capital growth investors are making investment decisions based on minimising CGT. CGT is inefficient because investors may be unwilling to sell under performing assets to reinvest in better performing assets in order to avoid paying CGT.[23]

Individual investors only pay tax on half of the capital gain made in any one year.[24] This may lead investors to time the realisation of a capital gain for a year when their marginal tax rate is low. This distortion would lead to decisions to sell being made for tax reasons not for optimal investment reasons.

How simple is the Australian taxation system?

Simplicity in taxation means transparency, that is, taxation law should be understood by the people it affects and it should not be expensive to administer. The aim is to reduce the resources devoted to unproductive activities such as tax administration and collection.[25]

The Income Tax Assessment Act I 997 (Cth) is so unwieldy that it is no longer published in book form in its entirety. A 'summary' of the most important legislation is published annually in book form and a computer disc of the details accompanies it. The recently enacted GST did not address this complexity either, as this legislation consists of at least 36[26] pieces of new legislation. The GST Act is large and complex; the table of provisions, alone, runs to nine pages and refers to over 450 sections.[27]

The GST is not a simple tax to understand. It fails the second condition for simplicity; that is, administration costs are high. The New Zealand experience shows that for small business the compliance costs of the tax are disproportionately high. Small businesses were defined as those NZ businesses with a turnover of between NZ$30,000 and NZ$100,000. It was found that these businesses pay NZ$1 of compliance costs for every NZ$3.53 in GST revenue collected.[28] The compliance costs for the largest turnover businesses is NZ$1 for every NZ$330 of GST collected.[29]

Most other indirect taxes, such as taxes on fuel, alcohol, tobacco and gambling are relatively simple and easy to administer. This is because of the relatively few organisations collecting the tax for the government, for example, fuel, alcohol and tobacco wholesalers and licensed gambling premises. Also, the taxes are easy to administer because they are set at a flat rate and levied on volumes or sales turnover with no deductions.

Australian income tax legislation is the most complex and the most often changed legislation on the statute books. The thriving tax minimisation industry is indicative of how complex the tax legislation is.

Proposals for reform

Wealth taxes

The only two developed nations that do not have a form of wealth taxes are Australia and Canada.[30] The imposition of a wealth tax that is levied annually, and an inheritance tax that is levied on the death of the owner of a taxable estate, would contribute to a better tax system.

An annual wealth tax should be imposed on people with a net worth of over $2 million. In 1999 it was estimated that in Australia 208,000 people had a net worth of over $2 million.[31] This represents about 1% of Australia's adult population, which it is estimated owns about 20% of the country's private wealth.[32] This is a relatively small number of taxpayers and the tax office should therefore easily administer such a tax. The first year of the tax would be difficult, like the GST was. Values would need to be obtained for all assets. However, most assets, shares, government securities and real estate, have readily obtainable market values. The small base of taxpayers means that the tax office could put in place a system of auditing wealth returns on a periodic rotation.

An inheritance tax should be imposed to ameliorate the effects of inherited inequality. An inheritance tax could be levied on all estates with a net worth of over $2 million. This tax would have to be a Commonwealth tax to 'overcome the interstate race to the bottom'.[33]

The annual wealth tax should be set at a small percentage of net wealth. The inheritance taxes should be far more substantial.

Individual receipts taxes

The concept of assessable income, less allowable deductions, as a basis of calculating taxable income has two major flaws:

• inequity, as high-income earners have a greater opportunity to manipulate deductions, via tax minimisation schemes etc and so turn what is intended to be a progressive tax into a regressive tax;

• inefficiency because taxing income and not capital receipts distorts investment patterns and leads to receipts of capital being preferred to receipts of income.

In order to avoid distortions of expenditure via tax minimisation schemes and artificial distinctions being made between income and capital I suggest that taxes be levied on gross individual receipts each year. This means that all the receipts that an individual gets during the income tax year, irrespective of whether they are wages, dividends, interest, profit distributions, gifts etc are taxable. All receipts are also taxable in the hands of the person who did the work, that is the employee, or had the beneficial ownership of the asset that earned the income, that is the shares or investments. The use of trusts would be abolished. The tax could be progressive, with for example, the first $10,000 of receipts being tax exempt. The rates of taxation would be considerably lower than the current rates of personal income taxation.

Tobin tax

Since the deregulation of Australia's currency market in the 1980s, currency speculation has grown so that now 49 out of every 50 foreign currency transactions are purely speculative.[34] This level of gambling with the foreign exchange makes the currency, and therefore the underlying 'real' transactions, vulnerable to artificial fluctuations in currency values. The imposition of a very small tax of 0.1% on currency transactions would have a trivial effect on commodity trade and long-term foreign investment. The impact on currency speculation of the 0.1% tax would be an effective rate of24% per annum if the currency trades were daily trades and therefore obviously speculative. This tax would make currency speculation unprofitable. A Tobin tax has been resisted because of the fear that such a tax would push currency transactions into tax havens.[35] However, currency transactions that are based on a 'real' sale or purchase could not move offshore because the good or service is either being sold from Australia or to Australia. The only people who would object to such a tax are currency speculators who are economically unproductive.

Targeted indirect taxes

Australia's newest tax, the GST, is expensive to administer. The GST is a very blunt taxation instrument because it taxes most goods and services and is therefore highly regressive, unfair to low income earners. The GST should be replaced with a wholesale sales tax that targets luxury goods and services and leaves essentials and export industries untaxed. This tax would be easier to administer with fewer taxpayers than the current GST. This tax would also be able to be adjusted simply and quickly as the need arose. The effect would be that the government would gain a tax that is highly responsive and individual goods and services could be taxed at different rates. For example, all six-cylinder cars could be taxed at, say 15% of their wholesale value and eight-cylinder cars and larger taxed at 25% of their wholesale value if it were government policy to encourage people into smaller cars.

At present many of the states' indirect taxes are at odds with government areas of concern and spending in health, the environment and social welfare. Taxes on gambling, tobacco and alcohol are important sources of states' incomes. The states, therefore, promote the activities that provide them with revenues. These activities should not be encouraged by advertising or easy accessibility.

So that state governments are less able to be influenced by these lobby groups, their reliance on these taxes should be reduced.

Indirect tax equalisation schemes

Most indirect taxes fail the test of vertical equity because Australians living in country and regional Australia have a much higher cost base for most of the products taxed. Goods that are taxed on the basis of their retail prices, such as fuel, should have their tax adjusted so that the price of the product is the same throughout Australia.

A new look at corporations tax

None of the above proposals are revolutionary, new or original. They can be found operating in other countries and some of them were used in Australia in the past, for example, wealth taxes. However, none of the proposals address the race to the bottom in corporations and business taxes. Multi-national and trans-national corporations have the power to influence the economies of nation states. Nations are competing against each other to attract global corporations. This competition leads to nations offering these firms tax breaks, tax holidays and lower taxes.

Australian corporation and enterprise taxes tax profits. Profits can be easily manipulated and taken offshore. Taxing profits also leads to the absurdity of efficient, profitable companies paying taxes and subsidising inefficient, loss-making companies. Also the current system of taxing the profits of corporations leads to firms minimising their profits.

As an alternative I suggest that the receipts of corporations and businesses be taxed. This means that all receipts of a corporation including their sales, dividends, interest, royalties, proceeds from asset sales etc are taxable. The current Pay As You Go system for provisional taxpayers, which includes most business taxpayers, assesses taxes quarterly on the basis of a fixed percentage of receipts. The tax department has the statistics for average tax payable as a percentage of receipts for all Australian businesses. It could simply apply a percentage payable for each different type of business. Businesses or corporations that gain. receipts from different activities would pay a different rate of 'tax for different types of receipts. Those businesses that are in a unique situation could call in tax department officers to determine an appropriate rate of turnover tax. BHP for example, values its assets in a unique way and negotiates with the tax office each year on the appropriate tax payable by the company.

Taxing receipts limits opportunities for tax minimisation. Sales figures cannot be manipulated as easily as profits. Sales cannot be moved offshore as easily as expenses can, for example, transfer pricing and inter-company charges would become a thing of the past.


Personal interest based on current economic status and 'aspirational' personal interest based on expected or desired economic status governs discussion of tax. While governments, for short-term political reasons, are unwilling to engage with issues of social justice and equity and put these issues on their political platform, the present system or its like will continue. The lobby groups that influence Australian politics are precisely the groups that would have to pay more tax under an improved tax system. I therefore believe that the taxation system will only ever change in a piecemeal fashion and at the behest of the lobby groups that influence the legislators of the day, and as a result, continue to be inequitable, inefficient and complex.

[*] Elfriede Sangkuhl is a retired chartered accountant and a graduate law student at the University of Western Sydney. email:

©2003 Elfriede Sangkuhl (text)

© 2003 Stuart Roth (cartoon)

[1] Australian Bureau of Statistics, 2001 Year Book Australia (2001) 936.

[2] Ibid 938. The total percentages do not add to 100% because of the effect of inter-governmental taxes.

[3] Ibid 936.

[4] G S Cooper, R E Krever and R J Vann, Income Taxation, Commentary and Materials (3rd ed 1999) 8.

[5] Ibid.

[6] L Aarons, Casino Oz. Winners and Losers in Global Capitalism (1999) 61.

[7] Ibid.

[8] Commonwealth, Parliamentary Debates, House of Representatives, 2 December 1998, I,091 (Mr Peter Costello, second reading speech of the GST legislation).

[9] Income Tax Assessment Act 1997 (Cth) s 6-5.

[10] Ibid s 8-1.

[11] Ibid s 4-15.

[12] G S Cooper, R E Krever and R J Vann, above n 4, 815-6.

[13] Parliament of Australia, Senate Committee, GST Main Report, (1999) Chapter I, Background, and 2 <


[14] F Stilwell, Changing Track (2000) 218.

[15] J O'Rouke, D Dasey and F Cumming, 'Taxman hooks sports stars in $4.3bn sting', The Sun Herald (Melbourne), 3 June 2001, 10.

[16] Ibid.

[17] Ibid.

[18] G S Cooper, R E Krever and R J Vann, above n 4, 8.

[19] Ibid.

[20] Fringe Benefits Tax Assessment Act 1986 (Cth) s 9.

[21] Fringe Benefits Tax Assessment Act 1986 (Cth) s 58X(2) exempts from FBT mobile and car 'phones, protective clothing, tools of trade, briefcases, calculators, electronic diaries and notebook computers. While some of these items are certainly work-related others could fall into the category of executive toys.

[22] Fringe Benefits Tax Assessment Act 1986 (Cth) s 65J.

[23] G S Cooper, R E Krever and R J Vann, above n 4, 153.

[24] Income Tax Assessment Act 1997 (Cth), s 115-100.

[25] G S Cooper, R E Krever and R J Vann, above n 4, 8.

[26] Halliday v Commonwealth of Australia [2000] FCA 950 para 1 (Sondberg J) referred to 33 pieces of GST legislation and three regulations that were being challenged.

[27] A New Tax System (Goods and Services Tax) Act 1999 (Cth), Table of Provisions.

[28] Parliament of Australia, Senate Committee, above, n.13, Chapter 6, Impact on Australian Business, 5.

[29] Ibid.

[30] G S Cooper, R E Krever and R J Vann, above n 4, 31.

[31] L Aarons, above n 6, 16.

[32] Ibid 14.

[33] F Stilwell, above n 14, 224.

[34] Ibid 226.

[35] Ibid 227.

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