Dr Anne Holmes, Economics
Tax expenditures are concessions—like concessional tax rates and tax exemptions—that apply to particular activities or classes of taxpayer—so that those involved pay less tax than they would normally.
They have the same effect on the budget as expenditure but tend to be not as easily controlled. They do not appear in the budget papers but are reported by the Treasury in the annual tax expenditures statement.
Examples that have recently attracted attention include GST exemptions for food and some superannuation tax concessions.
Tax expenditures arise when the ‘normal’ tax
liability is reduced in order to encourage a particular behaviour or to assist
a particular group. Tax exemptions, tax deductions, tax
offsets, concessional tax rates and deferrals of tax liability are examples.
Specific examples include the capital gains discount
for assets held longer than 12 months, the capital gains tax exemption for the
main residence, the several exemptions from GST (for example, for food, water,
education) and the deductibility of gifts to certain charities.
It is sometimes difficult to identify tax
expenditures. For example, the private health insurance
rebate is classified as a program expense. However, non-taxation of the private
health insurance rebate (which is a form of income) gives rise to a tax
expenditure estimated at $1.5 billion a year.
Another example is negative gearing. This displays
some characteristics of tax expenditure but it is not treated as one. This is
because it is considered by Treasury to be a normal application of the
principle that expenses incurred in earning assessable income are deductible.
It is difficult to measure tax expenditures.
Usually they are expressed as a cost to revenue, compared with the ‘normal’ tax
treatment. But this does not mean that their removal would generate a
corresponding increase in revenue. That is because tax expenditures are often
intended to change behaviour. With their removal, there would be another
corresponding change in behaviour. For example, if the private health insurance
rebate were taxable it may lead to fewer people taking out private health
insurance which would in turn reduce the rebate.
There is also debate about how to define
the benchmark for ‘normal’ tax treatment. For
example, estimates of the tax forgone from not taxing capital gains on the
family home would be irrelevant if that policy were treated as ‘normal’ rather
than a concession.
Treasury Tax expenditures statement
The Treasury publishes an annual Tax expenditures statement. For 2015, it
notes that 140 out of 290 tax expenditures are unquantifiable. This year’s
statement does not publish a total figure, but in previous years Treasury estimated
that the value of total measured tax expenditures was 7.5 per cent of GDP. By
comparison, total Commonwealth revenues recorded in Budget Paper No.1 for
2015–16 were 23.5 per cent of GDP.
The case of superannuation
In the last couple of years some policy makers,
tanks and media commentators have called for concessions to superannuation to
be wound back.
Amongst the reasons given, advocates for reform say
that the concessions are inequitable, as they are worth more to those on higher
marginal tax rates. Further, they are a significant imposition on the Budget and
difficult to control as their magnitude depends on decisions made by individual
tax payers. And it is claimed that they are not meeting their policy
objectives, like increasing savings and taking pressure off the age pension.
The tax expenditure statements show superannuation
tax expenditures are among the biggest. Although well behind the capital gains
tax concessions for the main residence, at $54 billion, they total about $30 billion.
Tax expenditures and programs
Tax expenditures are less transparent than program spending.
They do not require annual appropriation, and are not reported in portfolio budget
statements. Their target groups are often less clearly defined, and the
government has less control over the cost. They are generally not established
with a ‘sunset’ date, and are not regularly reviewed.
Growth in some tax expenditures
The quantum and rate of growth of tax expenditures
tends not to attract the same attention in the media as do expenditures.
For instance, there has been debate in recent years
about the sustainability of Medicare which is projected to increase by 14.4 per
cent to $25.1 billion over the forward estimates. In contrast, the cost of
three major health tax expenditures is projected to increase by 21.6 per cent
to $8.3 billion over the same period. These expenditures are the exemption from
income tax of the private health insurance rebate, the exemption from GST of
medical and health services and the low income medicare levy exemption.
What might be done?
Because tax expenditures are targeted to particular
groups or activities, attempts to end them often meet resistance. Some actions
that could be taken to improve their performance might be to:
- where possible, convert tax expenditures to payments
- convert all deductions (for example, gifts to charities) to
flat-rate rebates, so the benefit is not greater for those on higher incomes
- cap the amount
any individual can claim in tax expenditures at a proportion of total
income or a dollar amount
- introduce a schedule of reviews or sunset dates for large items
- publish information about who benefits from each tax expenditure.
D B Marron and E J Toder, ‘Tax policy and the size of government’, Urban Institute and Urban-Brookings Tax Policy Center, Washington, DC, 2013.
M W Feldstein, ‘Raising revenue by limiting tax expenditures
’ in Tax Policy and the Economy
, National Bureau of Economic Research, Cambridge, Massachusetts, 2015.
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