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By Patrick Flannery
Labour’s confirmation this week that it would increase the top marginal tax rate to 36 per cent for income over $150,000 suggests that the party’s thinking on the workings of the tax system is stuck somewhere back in the 1960s. Back then disparities in tax rates were seen as being an inevitable or even desirable feature of the tax framework.
However New Zealand’s modern tax system is a much more complex beast than was once the case. There has been an increasing recognition in tax policy terms that creating discrepancies in tax rates (including different categories of taxpayer and increased marginal rates applying to individual taxpayers) simply results in taxpayers spending time and money attempting to structure their tax affairs so as to avoid the higher rate applying.
Perhaps the most striking recent example of this was the large number of family trusts established following the introduction of the 39 per cent marginal tax rate in 2000 by the last Labour government. There seems little doubt that a prime driver for this was the attempt by taxpayers to have income taxed in a trust at either the trustee rate of 33 per cent or, if possible, as beneficiary income on lower marginal tax rates.
From that point there was also an increased incentive to use entities such as loss attributing qualifying companies to reduce an individual’s tax bill to a level below the $60,000 cut-in for the 39 per cent rate. It would be interesting to compare the revenue lost in those years via the use of trusts and the LAQC regime with that arising from the introduction of the 39 per cent rate.
While lawyers and accountants certainly benefitted from clients’ endeavours to avoid the top marginal rate, the benefit to the nation’s coffers in real terms may be more difficult to quantify. A six per cent tax saving is worth pursuing, and even more so if the disparity is eight per cent, as would be the case when comparing Labour’s proposed top marginal rate with the present corporate flat rate of 28 per cent.
Not only is this not a good use of time and effort, it also tends to negate the anticipated revenue gains from the increased tax burden. The simple fact is, as candidly noted by the Prime Minister, the majority of taxpayers who would be subject to the proposed top rate tend to structure their tax affairs accordingly. They also frequently have the ability to go elsewhere.
Unsurprisingly, National was quick to condemn the proposal, with Finance Minister Bill English describing it as “Labour’s failed old policy of taxing more and spending more”. Using taxation as a form of wealth redistribution is certainly nothing new, but Labour’s claimed revenue gain of $200m in the 2015-16 income year alone from the proposed increase may be somewhat optimistic, if not simply unrealistic.
According to Mr Cunliffe, this figure will be bolstered by an additional $200m raised by aligning the trustee rate with the top marginal rate, and further by cracking down on apparent tax avoidance by large multinationals such as Google and Facebook. This last achievement would indeed be impressive given the current resources of the Inland Revenue Department and the fact that the OECD continues to grapple with the best means of taxing cross-border income flows in what is an extremely complex international tax area.
Along with increased top-end marginal tax rates, Labour will introduce a capital gains tax . While there are policy arguments for and against a general capital gains tax, the experience of jurisdictions such as Australia or the United Kingdom, where a a capital gains tax has been in place for some time, indicate that it is not a tax that generates a substantial amount of revenue for the state, and especially in comparison to broad-based consumption taxes such as our GST.
In broad terms, governments only make money from a capital gains tax when there is an ‘event’ giving rise to a liability for the tax and a capital ‘gain’ arising from that event or transaction. Both of these may be subject to some degree of manipulation by taxpayers.
Labour acknowledges only a small number of New Zealanders will pay any capital gains tax. Nevertheless, Mr Cunliffe envisages it providing part of the increased revenue that will see a Labour government running operating surpluses. These surpluses would be used to pay off government debt and then fund a range of policies.
This may all sound good, but relying on a ‘tax the rich’ approach based on increasing the top marginal rate and introducing a general capital gains tax makes one wonder how much homework Labour have really done here. Of course it is music to the ears of Labour’s left wing supporters, but as a basis for tax policy, let alone fiscal policy, it should be open to serious question.
Patrick Flannery is a lawyer with over 20 year’s experience in the taxation field and a lecturer in taxation at Massey University.
Created: 27/06/2014 | Last updated: 13/08/2014
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