Indexation - A cure for bracket creep
By Nico Louw
First published in the MRC’s Watercooler newsletter. Sign up to our mailing list to receive Watercooler directly in your inbox.
With less than a fortnight until Jim Chalmers’ Economic Reform Roundtable, there has been a flood of businesses, industry associations, and vested interests coming forward with ideas for reform. More often than not, the ideas they put forward just so happen to be particularly beneficial to their specific sector or interest.
This is unfortunately how advocacy in Canberra tends to work. And it’s made worse by Chalmers’ edict that any reform must be revenue-neutral, and ideally revenue-positive. This pre-emptively rules out a lower national tax burden and forces anyone with an idea for lower taxes to suggest increasing them elsewhere.
The great irony is that had Chalmers taken the same revenue-neutral approach to spending over the past three years, the Budget would have more than enough capacity to deliver substantial tax cuts.
The impact of Chalmers’ edict was clear when the Productivity Commission (PC) released its landmark interim report last week into Creating a more dynamic and resilient economy. Even though the PC is independent, it imposed a constraint on itself to limit its recommendations to ones that are revenue-neutral to satisfy Chalmers’ roundtable rule.
The result was a surprise proposal to increase taxes for companies with a turnover over $1 billion per year, with a new 5% cash flow tax used to fund a lower company tax rate of 20% for other companies. It is obvious that, without the revenue-neutral constraint, the PC would have preferred to recommend lower taxes for all companies.
The PC has also decided that personal income tax reform is out of scope for its inquiry. This is disappointing because, while the inquiry terms of reference don’t directly task the PC with reviewing personal income tax settings, they don’t rule it out either.
Unfortunately, most of the hand-picked roundtable attendees are also highly unlikely to make the case for income tax cuts. Almost all those invited represent big business or the Government. Most of the remaining seats are filled by the union movement, whose idea of productivity policy is to abolish the Productivity Commission.
That’s why the Menzies Research Centre made a submission to the Roundtable on behalf of the Australian taxpayer. We make the case for a reform that has been talked about but ignored for too long: that income tax thresholds should be indexed to inflation in order to eliminate bracket creep.
By allowing Australians to keep more of what they earn, indexation would increase the incentive to work, especially for lower and middle income earners, young people starting their careers and women. This would encourage aspiration, improve workforce participation and increase the incentive to invest in skills and education and training.
This week, we released a detailed report outlining why this reform should be a priority and how it could be achieved.
We show how, without indexation, the average tax rate paid by full-time workers will climb back to where it was before the combined Stage 1 to Stage 3 tax cuts in just five years’ time. The average earner will hit the second-highest 37 per cent tax bracket by 2031-32 – precisely where they were before any of the Stage 1 to Stage 3 tax changes started.
The benefits of tax cuts that parliament spent six years debating will be entirely undone by bracket creep.
Our report includes modelling showing that indexation would reduce the budget balance by between $19.8 billion and $33.8 billion over the forward estimates, depending on how it is phased in. For the Commonwealth Budget, this is affordable. It’s as little as a fifth of the cost of the Stage 3 tax cuts, while locking in the impact of those tax cuts permanently.
Critical to our case is the fact that the political conditions for action are in place. Following the implementation of the Albanese Government’s amended Stage 3 tax cuts, for the first time in a generation, we have a bipartisan income tax schedule, taking effect in an election year, that is well aligned with average earnings.
This is a unique opportunity. With a bipartisan tax schedule taking effect in an election year, the Government has a window—just as Hawke and Keating once did—to deliver lasting, cross-party reform.
The Menzies Research Centre will continue making the case for this and other critical reforms, on behalf of the Australian taxpayers too often forgotten in Canberra’s political games.
📘You can read the full report here: Stop the Creep - Restoring Fairness to Australia’s Tax System
