Why the super debate is a Liberal flashpoint

Casual observers might be confused why what appears to be a technical legal debate – what counts as retrospectivity for the purposes of superannuation policy – has been so emotive within Liberal circles over the last fortnight.

The answer is historical and philosophical.

For the last two years Labor has been beating the Coalition up on “fairness”, arguing that its economic policy favours the rich. The superannuation changes are intended to counter this attack, hitting the Coalition’s own supporters in their retirement accounts.

But with the retrospectivity debate the Government just dropped itself into another fairness debacle.

Retrospective law changes the legal status of actions that were performed before the law was passed. The issue here is that the new lifetime cap of $500,000 on after-tax concessional superannuation contributions is backdated to 2007.

That means there are Australians who have been planning their retirements on the basis of the law of the day and who have suddenly been informed that the law was, in retrospect, different, and that they were working towards a contributions cap that they never knew existed.

That retrospectivity feels unfair, in the sense that it is unjust to rewrite the past in a way that negatively affects the future.

(Retrospectivity is not inherently unfair or unjust. No one could object to posthumous pardons of men convicted of homosexual offenses in the 20th century. And no one should object to the post-war convictions of Nazi war criminals, even though, given they had not violated German law, their offenses had been retrospectively created and applied. But people planning for retirement are neither of those.)

As much as Bill Shorten has tried to suggest otherwise, fairness is not just a question of how heavily the rich are taxed. It encompasses the feeling that a citizenry acting in good faith will be reciprocated with good faith actions by the state.

Particularly since the Howard government, Australians have been told to put superannuation at the centre of their future planning – to contribute as much and as often as they can. Making superannuation the central pillar of retirement income has been a deliberate policy and political position of government after government.

It is hard to exaggerate how much pushback the Coalition is getting from its own supporters on the unfairness of retrospectivity.

There are a lot of people – and many Liberal Party supporters – who are quietly sceptical about the whole idea of compulsory superannuation.

In part this is because retrospective law has a particularly sensitive history in the Liberal Party. The Fraser government’s 1982 legislative volley against the bottom-of-the-harbour tax minimisation schemes (where companies stripped all their assets just before their tax was liable) included a provision that required these companies to pay all the tax that would have been due between the years 1972 and 1980, when the bottom-of-the-harbour schemes were believed to be legally sound.

This created a firestorm among the business community. The issue wasn’t so much that the loophole was being closed. It was that people who had made decisions under the law as it was were suddenly being told that they had actually been acting unlawfully. It was, fundamentally, a fairness battle fought against the government’s supporters.

In his autobiography, John Howard spends a big chunk of his account of his time as Malcolm Fraser’s treasurer detailing the political havoc that the legislation created. Fourteen Coalition members crossed the floor against the bill. Howard told a radio interview in 2006 that he still carried a few scars from the debate. As prime minister he regularly made hostility to retrospective law a basic liberal value.

Twenty-four years after it was introduced, compulsory superannuation is still a policy experiment vulnerable to tax grabs and policy change. While this has been obvious from a theoretical perspective for a long time, the 2016 budget confirms the uncomfortable fact: superannuation is an unreliable store of our retirement money.

Retirement savings are unique in that they constitute fixed investments made with a time horizon of 40 or 50 years. The Coalition Government seems determined to demonstrate that they can fiddle apparently unhindered and consequence-free with the tax treatment of this long-term asset.

Are we supposed to believe that this will be the last change to superannuation? Under the Turnbull Government’s new policy, the accumulation accounts that are supposed to hold super balances above the $1.6 million lifetime cap will be taxed at 15 per cent. It is virtually certain that here will be a government soon that decides that 15 per cent is too low. That it ought to be equivalent to the company tax rate (30 per cent) or the top marginal income rate (45 per cent). Or decides that the money should be taxed when withdrawn at the equivalent marginal income rate.

If it was any other investment, of course, we would be free to move out of this now provably unreliable asset and put our money elsewhere. But that is against the rules.

There are a lot of people – and many Liberal Party supporters – who are quietly sceptical about the whole idea of compulsory superannuation for this reason. It is fundamentally unfair to prevent people by law from accessing until retirement money they have legitimately earned.

And as Labor knows, once people have it in their mind that a policy is unfair, that impression is hard to budge.

Are The Panama Papers Really Such A Scandal?

What, exactly, is the scandal with the Panama Papers?

You might have read in Time that it “could lead to capitalism’s great crisis” and the Guardian that it depicts “the corruption of our democracy”.

It’s easy to draw political conclusions from the leak of 11.5 million files from the Panamanian law firm Mossack Fonseca – even take a guess how it will play out in Australian domestic politics, which we will come to shortly – but put aside the hyperbole for a moment.

Is the scandal that Vladimir Putin’s inner circle has extracted billions of dollars of the wealth of the Russian citizenry and state? Or is it that they are trying to avoid paying the Russian statutory income tax rate of 13 per cent?

Is the scandal that you can accumulate incredible wealth as a member of the Chinese government? Or, then again, is the scandal that some of that fortune isn’t being taxed domestically?

Twenty-nine per cent of all active companies represented by Mossack Fonseca were set up by its Chinese offices. But this doesn’t inherently suggest criminality. Wealth in China risks expropriation by the state. Investing offshore is good risk management.

Indeed, most of the foreign leaders named in or connected to the Panama Papers come from countries that are high on corruption and low on the rule of law.

Scan your eyes over the nationalities of the “power players” in the Panama Papers. Georgia, Iraq, Jordan, Qatar, Sudan, Saudi Arabia, the United Arab Emirates, Ukraine, Azerbaijan, Syria, Egypt, Pakistan, Ghana, Morocco, the Palestinian Authority, Cambodia, Kazakhstan. This is not a list of the world’s liberal democracies.

Some are, though. The prime minister of squeaky-clean Iceland, Sigmundur Davíð Gunnlaugsson, stood down last week after he was named in the Panama Papers. When his wife invested the proceeds of a sale of her father’s business offshore, Gunnlaugsson failed to declare his interest in the company. The company also held bonds in the very same Icelandic banks that the government was responsible for winding up after the Global Financial Crisis.

But Gunnlaugsson’s true crime is hypocrisy. Having professed an Iceland-first economic policy of capital controls, retaining businesses in Iceland and protecting the Icelandic króna, it understandably galls to see his own wife utilising global offshoring to – legally – maximise her wealth.

David Cameron is having similar trouble after his father was named in the papers. All evidence suggests that Ian and David Cameron paid all taxes on the dividends they received in Britainfrom this offshore investment. But the British government has spent the last few years trying to whip up a frenzy about complex tax arrangements. Not a great look.

Still, hypocrisy is a moral violation, not a legal one.

Tax havens perform an important function by putting downwards pressure on domestic tax rates. They are the global economy’s escape valve – preventing sclerotic Western welfare states from pushing taxes up and up.

As the Cato Institute’s Dan Mitchell wrote last week, the fact that law firms like Mossack Fonseca create corporate structures is no scandal. Even though what they do is completely legal, they are now being tagged with a vague sense of criminality. But Mossack Fonseca does not acquire the money, hold the money, or invest the money. And it is required to do due-diligence on its clients.

Most importantly, for all the impressive scale of the Panama Papers (11.5 million files comes to 2.6 terabytes of data) it tells us little about the extent to which offshoring erodes the tax base of non-haven countries. It is remarkably hard to identify any serious detriment to the revenue from offshoring, as even the OECD, the multinational body pushing the crackdown on tax avoidance, admits.

This is where the politics of the Panama Papers and their actual policy significance sharply diverge.

In Australia, Bill Shorten has made a crackdown on corporate tax avoidance the pillar of his economic policy. As Lenore Taylor writes in the Guardian, Shorten is relying on the revenue gained from closing tax loopholes to fund new social spending, and close the budget deficit.

Labor thinks it can squeeze another $2 billion in revenue from a crackdown on tax avoidance, but won’t release Parliamentary Budget Office estimates it says shows this. My Institute of Public Affairs colleague Sinclair Davidson has often pointed out that the Australian government is much better at writing press releases announcing how much extra revenue it will collect from a crackdown than actually collecting that revenue.

The Panama Papers helps Shorten keep the Turnbull Government on the back foot. Even though the Coalition has tried to beat up the tax avoidance issue itself, economic populism is not a game that nominally market-oriented parties can win. As the prime ministers of Britain and Iceland have learned, the politics of offshore investments is about impressions not policy.

To be mentioned in the Panama Papers looks bad. That the Panama Papers exist looks bad. It’s the vibe. It’s the optics of the thing.

Every article on the leak has a sentence saying something like, “There are legitimate uses for offshore companies”, but who reads the fine print? And in the middle of a frenzy about the super-rich and what they do in foreign, exotic countries, who would want to?

Submission to the House of Representatives Standing Committee on Tax and Revenue Inquiry into the External Scrutiny of the Australian Taxation Office

With Sinclair Davidson

Introduction: The parliament should unequivocally reject any reduction in the level of scrutiny applied to the Australian Taxation Office (ATO).

The ATO lists five separate bodies which it considers as external scrutineers: the Australian National Audit Office, the Commonwealth Ombudsman, the Inspector-General of Taxation, Office of the Australian Information Commissioner, and the Productivity Commission. However, with the transfer of responsibility for individual complaints about taxation from the Commonwealth Ombudsman to the Inspector-General of Taxation, four of these five oversight agencies have oversight of the ATO only insofar as the ATO is a statutory agency, rather than unique oversight of the ATO.

This system of a single dedicated inspector of the Commonwealth revenue collecting agency is the bare minimum one would require for a liberal democratic tax system. There is a strong case for increased monitoring and scrutiny of the ATO. We believe that this inquiry has been established under a dangerous assumption that the most important independent statutory authority in the Australian government should be freed from the current level of external monitoring. However, the inquiry presents parliament with an opportunity to tighten that monitoring. From both a liberal perspective and a democratic perspective, the ATO needs more scrutiny.

Available in PDF here.

Negative gearing changes aren’t bold or courageous

Why are we talking about negative gearing?

The simple answer is Bill Shorten released Labor’s negative gearing policy. (For better or worse, this is how you control the media cycle. Release policies.)

The more complicated, more worrying answer is that the economic debate is so empty – that the range of acceptable discussion is so narrow, that big picture ideas are so thin on the ground – that changing negative gearing is the boldest economic reform the political class can reckon with.

Removing negative gearing has been done before. Where in 2016 negative gearing changes counts as a courageous barbecue stopper, the Hawke government’s abolition of negative gearing barely rates a mention among the great regulatory upheavals of the era. It’s a sad illustration of how our vision of the range of possibilities has shrunk in three decades.

An even more depressing thought is how disconnected the negative gearing discussion is from the big economic challenges we face. There are two reasons one might consider negative gearing changes. We might want to gather more revenue for the Commonwealth budget. And we might want to ease pressure on the housing market.

That Labor has a more-tax-revenue approach to budget repair and favours negative gearing as an explanation for high house prices is well-known.

But it’s a worry that the Treasurer, Scott Morrison, while defending negative gearing in general,believes that the “excesses” of negative gearing need to be tackled.

First, this goes against Morrison’s apparently rock-solid belief that spending needs to be reduced, rather than revenue increased.

Second, it implicitly concedes the view that the house price boom is caused by demand – too many investors – rather than supply – restrictions on land release and NIMBYism.

Third, and most importantly, changes to negative gearing have nothing to do with economic growth. Nothing.

It’s true that you could make a creative, complicated, multi-stage argument that lower house prices might eventually lead to growth benefits. But all else being equal, it is hard to see why removing money from the economy – as any proposal that increases government revenue would – might help the economy, rather than hinder it.

The unfortunate conclusion is that both the Government and the Opposition are talking about negative gearing because they have so few ideas of what to do next.

Just look at Morrison’s speech to the National Press Club last week. As a generic political speech it was perfectly adequate – an outline of the economic climate and reiteration of previously announced policy positions. But as an attempt to articulate the economic direction of the Turnbull Government it was empty.

On the question of budget balance Morrison only managed to demonstrate that very little had been done to reduce the deficit – as his 7.30 interview made perfectly clear, the Coalition has spent $70 billion of the $80 billion it has saved.

Perhaps the problem is that the bank of reform ideas is empty. Property commentators have been hyperventilating about negative gearing for ages. Maybe it’s only being talked about because the political class has run out of other things to talk about.

Yet the Australian policy community is rich with ideas: big bang ideas and small marginal ideas. The Abbott government commissioned the production of many of them. We’ve had the Harper review into competition policy, the Murray inquiry into the financial system, and the encyclopaedic audit commission report. These reports offer hundreds and hundreds of pages of policy discussion, recommending everything from intellectual property law changes to returning some income tax powers to the states. So where is the shadow of that formidable ideas production in our federal parliament?

Morrison has given a partial answer. From a growth point of view, cutting the company tax rate could get the biggest bang for our reform buck. This would be hard politics, especially if the revenue loss was compensated with a GST rise. As the Treasurer explained, “the proposition that you tax mums and dads more so companies can have a tax cut has an obvious problem.” Yet that problem has been surmounted before. Company taxes were cut in 2000, and again in 2001, at the same time as the GST was introduced.

It seems clear that politicians feel more hemmed in than they were in the past. That’s either because they lack courage – or because they lack the stable foundations on which to be courageous. Australian politics has now experienced half a decade of leadership instability, brought about by the fractious decision to roll Kevin Rudd in 2010.

Our policy debate is more shallow, limited and parochial than it has been for decades. Yet at the same time the need for major changes – changes that would spark economic growth – is as pressing as it has been since the 1970s. That changing negative gearing is the best that Labor and the Coalition can come up with is a condemnation of their failure to lead.

How We’re Getting The Whole GST Debate So Wrong

The GST reform debate is a complete mess. If this was in doubt, the Council of Australian Governments meeting last week made it unambiguous: the Government is pushing ahead with a solution to a problem that it has not yet defined. The solution is a 15 per cent GST. Does anybody know what the problem is?

Most economists have a good, clean answer to that question. Basic tax theory tells us that consumption taxes are more efficient than most alternatives. Taxes that are easy to evade or substantially alter our behaviour are less efficient. Yet consumption taxes play only a small part of Australia’s overall tax mix. The ideal tax from an efficiency perspective is low, broad, simple and does not encourage people to avoid saving.

Hence the Henry Review’s position that “a broad-based consumption tax is one of the most efficient taxes available”, and why lots of serious people these days talk about raising the GST and expanding it to fresh food and financial services.

But theory and practice are very different things. At last week’s COAG meeting the state and commonwealth governments were discussing a complicated tax bargain, where two levels of government would trade off fiscal favours with each other. In the Australian Financial Review, Phillip Coorey has a good run down of the proposals.

Jay Weatherill’s plan is that the Commonwealth Government would keep the revenue from a GST increase, which could be used to finance income tax cuts and compensation to low income households, while the states would be allocated a fixed percentage of the commonwealth’s income tax take to spend at their discretion.

An alternative model is that proposed by Mike Baird, where the states would receive $5 billion between now and 2020 to recover some of the funding increases cut from the 2014 budget. After that, the states would be allocated the revenue from income tax bracket creep – the steady tax increase that occurs thanks to inflation every year.

Neither of these plans have much to recommend them. They would further entrench the fiscal imbalance in the federation – the distorted political incentives that arise from the fact that the states do not raise the money they spend. But Baird’s plan is particularly awful. Not only does it rely on maintaining bracket creep as a fixture of the Australian tax system, it would create a constituency – the states – that would lobby hard against any future income tax relief.

The states are obviously clamouring for money. Having lost any real revenue base of their own, they’ve been reduced to begging the commonwealth for scraps.

The real question is why the Commonwealth Government is indulging any of this. The efficiency gains from replacing income tax with a consumption tax are unlikely to be realised once the Government starts compensating low income holders and bargaining with the states. Those compromises will impose their own efficiency costs – costs that do not get captured in the blackboard modelling that informs the debate – but those costs might swamp the benefits from tax reform.

There is a vast gap between an ideal, perfectly implemented tax system and the necessarily compromised and complicated system that emerges from the process of democratic bargaining.

The Government is correct to say that our tax system comes from an older era, and correct to point out that many of our tax rates are punitively high – particularly the income and corporate tax rates. But piecemeal changes could tackle these problems. Every budget includes its own minor changes to the tax system. Why not work through the normal budget process? Why the need for big-bang reform?

When the GST was first introduced by the Howard government, it was designed to replace the wildly inefficient, complicated and obscure wholesale sales tax, as well as stamp duties, taxes on financial institutions, and bed taxes. The one fell swoop approach suited our tax reform needs then. It does not anymore.

The flaws of the existing system have been created by the same political dynamic that makes a revolutionary jump to a substantially better system unlikely. And if the trade-off for a higher GST is to lock in bracket creep forever, as the Baird plan would, tax reform will have been worse than pointless: it will have been genuinely harmful.

The Turnbull Government can’t even convince its own economic elders about the desirability of reform. Peter Costello (who brought in the GST in 2000) warns that a GST debate “will swamp everything”. Peter Reith (shadow treasurer when John Hewson presented his GST plan) urges the Government to “shut down this discussion before Christmas”. Neither of these two are the sole founts of wisdom on tax, of course, but something has obviously gone badly wrong.

On Tuesday the Government will release its Mid-year Economic and Fiscal Outlook, which will reportedly show that government expenditure is around 26.2 per cent of GDP.

This means the Australian government now spends more than it spent when the Rudd government was trying to pump-prime the economy during the Global Financial Crisis (“just” 26.0 per cent of GDP was spent in the 2009-10 financial year). We are at permanent emergency levels of spending. This – not marginal changes to the efficiency of the tax system – is what Malcolm Turnbull should be spending his political capital on.

Tax Reform A False Start In Pursuit Of Economic Growth

The new Turnbull government should stop talking about tax reform.

Tax reform is a poor use of its political capital. It is a waste of the goodwill Malcolm Turnbull brings to the prime ministership. The challenge Turnbull faces is not to make our tax system slightly more efficient. The challenge he faces is how to make the economy grow.

When he became Treasurer, Scott Morrison stated that the Commonwealth has a spending problem, not a revenue problem. That is, the government wants to focus on spending cuts rather than tax increases.

This is excellent, as far as it goes. But in truth our real problem is growth.

The International Monetary Fund estimates that the Australian economy is going to grow just 2.5 per cent this year. Back in the Howard years, growth averaged 3.7 per cent a year. The Reserve Bank governor has publicly speculated that our lower growth might be the new normal.

If you want to blame the stubborn budget deficit on anything, blame it on this. John Howard, Kevin Rudd, Julia Gillard, Tony Abbott, Malcolm Turnbull: they’ve all been riding the waves of our growth figures.

Some governments have made the problem better and some have made it worse, but the simple fact is that policymakers can no longer rely on the same level of growth that once delivered windfalls to the Commonwealth budget.

The focus on tax is a distraction. Ever since Kevin Rudd commissioned his own Treasury Secretary to conduct a “root and branch” investigation of Australia’s tax system in 2008, tax reform has been an obsession of governments. Joe Hockey was only following Labor’s lead when he launched the Coalition’s tax reform process.

It is true that the tax system could be made more economically efficient. It would be more efficient for taxes on income to be further replaced by taxes on consumption. This is why many economists have said that the GST should be raised and personal and company tax reduced. Morrison has been talking about this possible trade-off already.

But it’s hard to see why this is a national priority. Efficiency isn’t the only thing we want from a tax system. Indeed, a theoretical insistence on efficiency was what gave us the Rudd government’s mining tax; a tax which was understood by a tiny fraction of the population but was the inexplicable and unhappy centrepiece of Labor’s economic agenda.

And while efficiency makes it easier for governments to extract more money out of us, is that really such a virtue? We ought to know when we are being taxed. Voters need to know what their government is doing. They need to know how taxes are raising the prices of the goods they buy and reducing the money they have to buy those goods.

A budget emergency is the worst time to conduct tax reform. There’s not a person in the country who believes the economy will escape this round of tax reform with a lower total tax burden.

Every incentive in the Treasury department is to edge taxes up. That’s why Joe Hockey cracked down on so-called corporate tax “avoidance”. That’s why the GST is now to be levied on online purchases. And anybody who thinks eliminating superannuation “concessions” will help the economy has rocks in their head.

It’s all incredibly counterproductive because the fixation on revenue and tax increases actually holds back the growth we need to encourage. Taxes take money out of the productive parts of the economy. Perhaps the government thinks it might be able to use its revenue to lay the foundations of growth – by investing in infrastructure and private education. In practice, too much of this investment goes to white elephants and degree mills.

Governments – directed as they are by professional politicians with their eyes on marginal seats and swinging voters – aren’t that good at spending our money wisely. Turnbull needs to be careful his interest in innovation doesn’t become a stream of taxpayer-funded boondoggles. Much better to revitalise the Coalition’s flagging deregulation agenda, refocus on industrial relations, and eliminate any regulatory burdens holding back employment and production.

Even the constant drumbeat of tax reform is likely to be harming growth. We’ve been talking about tax reform for nearly a decade. Uncertainty about Australia’s future tax regime makes companies less eager to invest. They know the tax system is probably going to change. They don’t know when, or how.

But there’s a deeper reason Turnbull should fixate on growth rather than taxes. Higher growth means increased living standards. Higher growth means a more prosperous Australia and more prosperous Australians. This – not spending, not revenue – should be what keeps Malcolm Turnbull and Scott Morrison awake at night.

Forcing GST On Imports Doesn’t Stack Up

In opposition the Coalition promised no new taxes or tax increases. On Friday Joe Hockey announced the Coalition’s latest tax increase: eliminating the GST low value threshold on imported goods.

Currently GST is not imposed on imports worth less than the low value threshold of $1000. When you buy books from Amazon or clothes from ASOS, you don’t pay GST. As of July 2017, you will.

Well, you probably will. This is going to be very hard for the Government to implement.

The GST collection won’t be levied when goods are imported. Inspecting packages at the border costs more money than it raises, as the Productivity Commission conclusively found in 2011. (The Assistant Treasurer, Josh Frydenberg, has been saying that “real improvements in technology” make that finding no longer true, but the inspection problem isn’t really a technological one, it is a time and warehousing costs one.)

Instead, Australian Taxation Office officials are going to fly around the world to ask “hundreds” of foreign companies exporting more than $75,000 worth of goods to Australia to levy the GST at their end. Nice work if you can get it.

The politics here is obvious and unflattering.

Friday’s announcement satisfies the retailers who have been lobbying for years to reduce the threshold, claiming it makes domestic goods uncompetitive.

Of course, the GST threshold is a convenient scapegoat for much deeper issues in the Australian retail sector. Even if GST were imposed on all goods, many representative products would still be more expensive sold from Australian shops than foreign ones, as my colleague Mikayla Novak has shown. And international shipping isn’t free.

Friday’s announcement also satisfies Treasury and the state governments who are clamouring for more revenue. Like everything else Hockey has dressed up as a “tax integrity measure”, the elimination of the GST threshold is nothing more than a tax grab.

But, politics aside, let’s look at the low value threshold on its own merits.

Almost nobody in the debate has acknowledged that the threshold has been slowly lowering ever since the introduction of the GST. This is because the $1000 threshold is fixed – it is not indexed to inflation. And a grand isn’t worth as much as it used to.

This is the point the Treasury’s own Tax Board made in 2010, writing that inflation will “reduce over time any potential bias in favour of imported goods over local goods of the same quality and value”.

So Australian retailers have been complaining about a tax distinction that has been constantly and automatically eroding in their favour for the last decade and a half.

And that’s before we consider the fact that the dramatic reversal of the dollar has made domestic retailers much more competitive than foreign ones in the last few years.

The GST is usually described as a consumption tax. It is not a consumption tax because the GST is not levied on consumption. It is levied on sales by firms operating in Australia. In the real world, the GST is a sales tax with an input credit.

That observation might sound pedantic but it has big implications for the import threshold debate. If the GST is in fact an Australian sales tax, then trying to impose it on sales by foreign companies in foreign countries is not a tax integrity measure at all. It is a tax on imports. It is, in other words, a tariff.

Foreign companies do not, and should not, pay Australian taxes – just as companies in foreign countries do not operate under Australia’s regulatory framework or our political institutions.

As the Howard government said when it introduced the GST in 2000, “the government wants to ensure it does not unnecessarily draw non-residents into the GST system”.

And the idea that we need to raise taxes at our border in order to ensure “competitive neutrality” or to “level the playing field” is mercantilist nonsense. In fact, it’s not clear why GST should be levied on any foreign imports at all, apart from a pure protectionism.

In practice, the GST is only going to be levied on foreign companies that a) provide more than $75,000 goods into Australia and b) don’t slam their door in the face of Australian tax officials when they come knocking.

So there’s a non-trivial chance Hockey’s GST move will just encourage Australian consumers to move from bigger websites to smaller websites, trying to avoid the 10 per cent tariff.

On Friday Hockey said he has many “levers” at his disposal to “pressure” companies overseas to collect Australian taxes.

Maybe he does. But if so, that should be recognised for what it is: trying to squeeze money from foreign companies for no other reason than to satisfy retail lobbyists and feed the Government’s apparently unrestrainable spending habit.

Why Multinationals Are Not Avoiding Australian Tax

with Sinclair Davidson

The title of the interim report of the Senate economics committee inquiry into corporate tax avoidance, released this week, is “You cannot tax what you cannot see”.

This is a rather embarrassing admission that the evidence for widespread corporate tax avoidance – the avoidance which has filled so many newspaper columns, so many hyperbolic speeches in parliament – just doesn’t exist.

Imagine being pulled over by the police and told that even though you’ve been observed driving below the speed limit, stopping at stop signs, giving way at give way signs, indicating correctly, wearing your seatbelt, and maintaining a respectable distance from the car in front, the police have a hunch you’re somehow violating community expectations.

While the Senate committee feels sure there are questionable corporate tax practices going on, it doesn’t actually find any.

Rather, it relies very heavily on the political rhetoric of a now-discredited 2014 report by the Tax Justice Network, which claimed that firms were denying the government vast sums of revenue through opaque and confusing tax arrangements.

In fact, what the committee’s interim report shows is that the tax practices of the big tech firms are quite explicable.

For instance, Microsoft and Google have their regional headquarters in Singapore. As the committee admits, these headquarters are not shells, existing solely to avoid giving Joe Hockey money. They’re real. They have real offices, real assets, and real staff doing real work. In Singapore. Not Australia. Just because those Singapore headquarters digitally export some products and services to Australia does not mean they should pay Australian corporate tax on the profits.

Even more explicable is large firms with large research and development costs deducting those costs from their taxable profits. The R&D corporate tax deduction is bipartisan government policy. It seems a bit much for governments to introduce a tax incentive then get angry with firms for using it.

The lack of evidence of tax avoidance makes the committee’s belief that the Australian government should name and shame corporate tax avoiders vaguely comic.

Certainly, the Australian Tax Office should be vigilant ensuring firms are paying what they owe. Firms that fail to do so should face the full consequences of the law. But that already happens. Australia has some of the strongest anti-avoidance laws on the planet. The government has the tools, right now, to deal with illegal tax evasion.

Underpinning this whole debate is the fact that Australia’s corporate tax rate is very high. At 30 per cent, it is substantially above the OECD average of 25.3 per cent. And Australia is one of the most heavily reliant countries on corporate tax revenue in the OECD. The Senate committee admits that this heavy burden puts Australia at a “comparative disadvantage”.

With such a disadvantage, it is no surprise that multinational companies are not lining up to establish their regional headquarters here.

But a failure to establish regional headquarters in Australia – “avoiding permanent establishment” in the lingo of the committee – does not constitute tax avoidance. Australia’s tax and regulatory environment is not competitive. Singapore’s is competitive. This ought to cause some soul-searching by the Parliament. Handwringing about phantom corporate tax avoidance just postpones consideration of the real problem.

Perhaps we might expect the sort of anti-corporate nonsense espoused at the inquiry from Labor and the Greens. What’s really disappointing is the full-throated support of the corporate tax panic from the Coalition.

Government senators on the committee wrote a dissenting minority report. Yet their complaint was that the committee did not fully acknowledge all the exciting work the Abbott government was doing to clamp down on multinationals.

Earlier this year the government released its own proposed legislation to deal with corporate tax avoidance. In effect that legislation would empower the ATO to second-guess where it feels profits should be booked for tax purposes.

The consequences of such an approach would be dire. It would expose multinational firms to double taxation. It would be a huge incentive for those firms to leave Australia all together, taking jobs and economic activity with them.

All this fretting about tax avoidance makes good demagoguery. But it might seriously harm Australia’s economy.

Hockey’s ‘Grand Deal On Tax’ Is Just Wishful Thinking

Joe Hockey is looking for a “grand deal” between government and the community on tax reform. On Wednesday last week he addressed a PricewaterhouseCoopers audience calling for a discussion about big, long-term changes to the tax system that might set us up for coming economic changes.

There’s no reason to doubt his sincerity. Hockey seems genuinely interested in the structure of the tax system. He was recently speculating whether the GST has a future in a global economy, where transactions are digital and borderless. It’s not hard to imagine the blue sky conversations he’s enjoyed with Treasury boffins where they ponder such imponderables.

But his hope for a grand deal on tax is folly. Tax reform is easy to talk about. It’s very hard to implement. It’s even harder to implement in a way that prevents the political system from undermining the virtues of the reform in question. And it’s almost impossible to implement when your government has no political capital.

Australian governments levy more than 100 separate taxes. Each of these interact in complicated ways, introducing incentives for us all to rearrange our affairs, to work, spend and save differently. No real-world tax is perfect, perfectly fair or perfectly efficient. They all bias economic activity somehow. (Sometimes this bias is intentional. So-called “sin” taxes are designed to stop us buying the product that is being taxed.)

Over time, governments have amended the system to reduce the most obvious biases and distortions. Many of those policies that are today fashionably described as tax loopholes or concessions exist because, in their absence, some activity would be penalised.

On The Drum last year, for instance, Alan Kohler criticised dividend imputation for making Australian investors obsessed with collecting dividends. But if we didn’t have it, income earning through corporate investment would be taxed twice – first in corporate tax, then when it is returned to investors through income tax.

The tax system is an evolved formula that reflects decades of lessons, errors and political compromises.

So designing a more efficient tax system than what we have now is relatively easy. Everyone has their own ideas. Yesterday John Daley and Brendan Coates of the Grattan Institute were pushing for property levies. NSW Premier Mike Baird proposed a 50 per cent increase in the GST. Tony Abbott likes that one.

But there’s a big difference between tax design and tax reform, as the Harvard economist Martin Feldstein noted four decades ago. Tax systems can be designed on a blank sheet of paper. But tax reform has to be done in an existing political system, underpinned by existing political institutions, coordinated with existing political compromises, and against the backdrop of a welter of political interest groups with political influence and media friends.

All that politics inevitably leaves its mark. All economic reform is the result of bargaining between the most powerful interest groups. What looks like a beautiful, clean, theoretically-efficient tax on paper is distorted and damaged when the political class try to enact it. Not all laws come out looking like firmly-cased and richly-coloured sausages. Sometimes what falls out of the legislative meat grinder is just a coarse pile of mince and broken pieces of pig intestine.

Hockey should know this. Remember the mining tax? The idea of a resources rent tax was, as so many economists said at the time, an elegant and efficient tax compared to the royalties system. But imposing such a tax on top of the Australian landscape was, it turned out, a hopeless task.

First of all, the mining tax was introduced by the federal government. But state governments owned the resources and charged the royalties. So the designers had to work around that problem by crediting back royalty payments. Second, it had to be introduced into an existing landscape where decisions about mining investments had already been made – hence another round of compromises and transitional arrangements.

And all this happened before the Rudd government learned it was not strong enough to resist a publicity campaign by mining companies. The replacement mining tax, introduced by the new prime minister, Julia Gillard, was even worse.

The last real tax reform success was 15 years ago, when the Howard government introduced the GST. But that success is easy to overstate. Parliamentary negotiations meant that large swathes of consumer products now fall outside the GST net. The original intention was that states would eliminate stamp duties on mortgages and other loans. That didn’t happen. And the way the GST is distributed means states bicker over their share and generally act like mendicant clients of an autocratic Commonwealth.

Hockey wants big picture thinking and long-term reform. It is good we have a Treasurer thinking such thoughts. But Hockey is not a theoretician. He is a parliamentarian. And what can be imagined on paper and what can be negotiated in politics are very, very different.

Submission to Treasury consultation into exposure draft of Tax Laws Amendment (Tax Integrity Multinational Anti-avoidance Law) Bill 2015

With Sinclair Davidson

Introduction: The Tax Laws Amendment (Tax Integrity Multinational Anti-avoidance Law) Bill 2015 exposure draft represents an important and concerning watershed in the practice of Australian corporate tax governance.

The draft bill would base the assessment of Australian tax liabilities on an assessment of tax rules in other countries. It undermines global tax agreements to which Australia is a part that have developed to prevent double taxation, risking the phenomenon that those agreements were designed to avoid. It offers a disincentive for the world’s biggest firms from establishing operations in Australia. It mischaracterises readily understandable business decisions as tax avoidance and penalises firms for normal corporate structural practices.

The scope of this legislation amounts to a substantial, yet entirely unpredictable, increase in corporate tax, and an attendant increase in the regulatory burden faced by large firms operating in Australia. We dispute the claim that this is a “tax integrity” measure. It is very much a tax increase.

Available in PDF here.