The structure, fairness and balance of the tax system is only going to become more important in the Covid-19 recovery years. Andrea Black argues a good start would be the integrity aspects of the Tax Working Group report.
In the post lockdown world, there are a number of calls for those who have more to contribute more to the recovery. And from that idea – higher personal taxation often quickly follows.
While well-intentioned, it overlooks the existing skew that sees PAYE earners paying full whack with more relaxed treatment elsewhere. All of which is exacerbated by the Government assiduously implementing the business-friendly parts of the Tax Working Group report with no mention of the countervailing recommendations.
To date, the Government has implemented change in loss continuity rules, greater ability to write off small value assets and restored building depreciation on commercial properties. The latter one comes at a fiscal cost of $2.1 billion over four years and is particularly interesting because its original removal was part of the package of changes in 2010 which saw the company tax rate reduced.
It has also introduced a loss carry back scheme for companies to smooth their income over a good and a bad year without any reference to the same impact applying to individuals who lose their jobs at the end of a tax year. In 2019/20 they could have a marginal tax rate at 30 or 33 percent while in 2020/21 it could be closer to 10.5 percent.
So increasing personal taxes, without other changes to the tax system, continues to take for granted the uncomplaining compliant role of the PAYE earner. And the current profile of personal taxation is fascinating – with a serendipitous peak just before the top tax rate threshold.
But assuming a desire for fairness and balance in the tax system didn’t die with taxing more capital gains, the integrity of the personal tax system should be shored up before, or alongside, any increase to personal tax rates or additional thresholds are added. Otherwise the existing discrepancies will be exacerbated.
Before another storey is added to the house – the foundations need fixing first.
There are number of worthy candidates including interest allocation between an individual and their closely-held business as well as income splitting using trusts – but here are two that would be good to start with.
Loans from a company you control can’t be used to avoid paying 33 percent tax rate. Ever since the company tax rate fell to 28 percent and the trustee rate rose to 33 percent, shareholders have been taking loans, rather than taxable dividends, from their companies like never before.
In 2016 the balance was approximately $30 billion. It is true there should be an amount of interest charged but either the benefit of the tax forgone is greater than the interest or there is poor compliance with those rules. Also with increasing balances comes increased risk that the liability will go poof with a spot of tax avoidance.
Other countries have rules to limit or reduce these opportunities. The Tax Working Group called for equivalent rules to be developed for New Zealand so that we could sustainably maintain such a difference in tax rates without too much income shifting.
Landlords need to be fully taxed. Even in March, which had two weeks of lockdown and 1.5 million employees supported by the wage subsidy, rents and house prices rose. Rents are taxed and losses ringfenced but, to date, a significant proportion of the economic return comes in the tax-free capital gain on sale.
Assuming any form of tax on the gain is off the table – it is time to look again at some form of taxation of an imputed return on the equity in residential rental properties. The Final Report of Tax Working Group showed there was significant under-taxation of this asset class.
As the positive revenue figures in the table below shows, landlords are currently taxed as if their return on equity is less than 1.7 percent. Less than a term deposit.
Source: Final Report of Tax Working Group 2019
And once these types of repairs and maintenance are made to the income tax system – then it is reasonable and equitable to raise personal income tax. But of course, they could happen at the same time.
But please only to the higher incomes.
Because people on lower incomes are more likely to be the ones already facing Working for Families abatement of 25 percent, accommodation supplement clawback of 25 percent as well as possibly student loan repayments of 12 percent. And that is all before the child support is paid where the custodial parent is on a benefit. That is also effectively a tax as it goes to the state and not the children.
So for this group, it feels like they are already paying more than their share even if they can stay in paid work.
But the structure, fairness and balance of the tax system – and the social cohesion it reflects – is only going to become more important in the recovery years. And a good start would be the integrity aspects of the Tax Working Group report.