The Australian Taxation System is stupidly, unbelievably, mind-blowingly complicated, for no clear reason. Maybe it is just job security for the accountants that created it? Maybe it is so the Government can confuse and overtax people who fail to find all their eligible claims and exemptions? Maybe it is so wealthy people with good accountants can hide and minimize their tax? I personally think it is less malicious than that, though certainly people with good accountants can exploit it. It is a side effect of our political system and a general tendency for using thresholds and limits, even though ThresholdsAndLimitsAreBad.
At each election, the political parties try to buy the voting public with trinkets in the form of special tax exemptions or benefits. In isolation, each one of these trinkets is pretty simple and harmless... a baby bonus here, a low-income tax rebate there. However, rarely at any election does any party offer to remove any of the special trinkets offered in the past... who gets elected for promising to take away a baby bonus? Also, for each trinket bribe offered, they have to raise taxes elsewhere, often in the form of special taxes targeting things they think they can get away with. Over the years of elections, our taxation system has accumulated a scary number of layers of these "special case" taxes, each with their own limits and thresholds, and now its a mess.
And if you think our taxation system is bad, you should see our welfare system! But more on that later...
Why Law, Tax and Welfare?
Law, Tax, and Welfare are how Governments interact with the economies they govern. Law is used to define and regulate the economic structure. Tax is how governments collect the money they need to operate. Welfare is a more recent addition, and can be considered a type of "negative tax". Over history laws have been added, taxes have evolved, and welfare introduced to counter problems identified in our economies.
The main problem is that it takes money to make money, so the more you have, the easier it is to get more, and the less you have, the harder it is to get some. This means the rich get richer, and the poor get poorer. This is known as positive feedback, which makes a system unstable and destined to crash. Karl Marx saw this as the reason the capitalist system would inevitably collapse and lead to revolution. However, although this happened in some places, this didn't happen everywhere because or the introduction of laws, taxes and welfare systems that added negative feedback into the system to counter this problem. Ironically, the union movement saved the world from becoming communist.
Progressive tax rates were introduced so that people with high incomes would pay higher tax rates than people earning low incomes. Minimum wages and employee protection laws were introduced so that the rich employers couldn't exploit low income workers. Welfare was added to give the extremely poor and unemployed some money. These all added a bit of negative feedback into the system, making it a little harder for the rich, and a little easier for for the poor, so that the gap between rich and poor doesn't grow out of control.
Unfortunately, all the different pieces of the Law, Tax, and Welfare puzzle were introduced and often tuned in isolation, without much thought for how they all interact together. This results in inequalities and discontinuities in the system that cause strange effects or are open to exploitation. The use of tiers, thresholds, and eligibility requirements in attempts to correct these problems usually introduces more little distortions and problems. In particular, because Welfare targets the poor, and progressive Tax targets the rich, there is a welfare trap effect where at certain points earning more reduces your Welfare and increases your Tax enough that you end up with less.
The only way to correctly tune a system is to look at the whole system. Tweaking little pieces in isolation will often interact with other parts of the system to produce surprising results. When you look at a large complex system, you will often find that many of the pieces are redundant or exist to counter other pieces, allowing you to simplify the whole system.
Personal Taxes
Taxes for people in Australia are the most complicated part. People vote, so that's where most of the election promises have accumulated. There are many different types of income, each subject to their own special rates, clauses and exemptions. Check the Australian Tax Office for details.
Income Tax
Income tax in Australia has 5 different tiers, which makes it very progressive, but also rather complicated. ThresholdsAndLimitsAreBad and a simple continuous formula could do a better job than tiers. Since taxation rate depends on total income, it is not possible to calculate and withhold the correct amount of income tax without knowledge of all of a person's annual income. This means employers must withhold a conservative estimated amount of tax based on the employee's witholding declaration, and only at the end of the taxation year can the person's actual tax liability and return be calculated from their total income. This means employees with any income must complete an annual tax return or pay too much tax. The ATO has the attitude; "you have to calculate it, we are not going to tell you the right answer, but you are in big trouble if you get it wrong". These tax returns are a complicated burden for everyone.
Progressive taxes are open to avoidance through income splitting. Higher personal incomes attract higher tax, so you can pay less tax by distributing the income between more people. A common trick among contractors was to register a company to collect and distribute the high contracting income, "employing" your wife as a secretary and sometimes children as assistants. This also had the benefit of being able to avoid GST by having the company buy household items (see below), and some of the income could be distributed to the company where it would attract lower company taxes. In an attempt to close this loophole, special rules were invented for contractors, requiring them to have more than one client per year to register a company... something that can also be worked around by creating companies and relationships with similar organisations for the purpose of being each other's "clients".
Payroll Tax
Payroll Tax is tax paid by an employer for paid employees. It is a sneaky form of extra Income Tax because it's not very visible to employees and often forgotten when looking at total income tax rates.
Australian payroll taxes are state taxes and vary between 4.75% to 5.5%, with a minimum total payroll threshold before they apply between $550K/year and $1.5K/year. As a flat tax they are not progressive, with high income earners paying the same rate as low income earners, except for the threshold which means employees at sufficiently small businesses are exempt. It is regressive because it only applies to salaries, so income from personal investments is exempt, and the poor don't have personal investments.
Payroll Tax could be avoided by fragmenting your business into smaller businesses that stay below the threshold, but is sufficiently low that the administrative overheads of fragmenting your business probably make this unattractive. A more effective way is to shift the income from a salary to an investment return (shares, dividends, etc).
I think Payroll taxes should be dropped in favor more visible higher/fairer income taxes, with states adding their own extra income tax.
Capital Gains Tax
Capital Gains Tax is tax paid on the income made from buying and then selling something for a profit. It is treated as special in Australia, with whole sections of documentation and tax return statements dedicated to it. It has been subject to regular changes with each change of Government, and the changes are typically not applied retro-actively, which means the rules and rates can be different depending on when the asset was purchased. There are multiple different ways to calculate it available depending on how long the asset was held or how it was acquired or disposed. Typically it can be indexed against the CPI to compensate for inflation if it was held for more than 12 months. It is treated as normal income, except that capital losses can be preserved and carried over to following years to offset future capital gains.
As an individual your main residence, car, motorcycle or similar vehicle assets for personal use acquired for $10,000 or less are exempt. Typically a house is considered your main residence if you have lived in it for more than 12 months. This has lead to a whole industry of private builders who purchase a house, live in it while they renovate it for a year, and then sell it CGT exempt.
I think CGT should not be treated as special... income is income no-matter how you come by it. It should always be indexed against the CPI. Either personal losses should be eligible for offsetting against future income, or they should not, and this should not be specific to capital gains income. I'm not sure if any asset like residences or vehicles should be exempt. It may make sense to have items of sufficiently negligible value exempt.
Fringe Benefits Tax
Coming soon...
Goods and Services Tax
The GST is a Consumption Tax, which is paid when money is spent rather than when it is earned. Assuming that all income is eventually spent, it is eventually just another form of income tax, just less obvious to the income earner so it is easy to forget about when comparing countries taxation rates. In Australia the peak taxation rate is actually 45% Income + ~5% Payroll + 10% GST = ~60%. It adds positive feedback, since poor people that live hand-to-mouth and spend every dollar they earn pay GST on every dollar, but people who earn more than they spend don't pay GST on what they save. In an attempt to compensate for this, it is further complicated by not being applied to everything, with "essential items" being GST exempt, requiring complex rules about what requires GST.
It also shifts the burden of calculating and collecting these taxes from the people to the companies providing goods and services, which helps reduce the accounting burden overall, and partly reduces the opportunity for avoiding tax with smart accounting. However, companies are exempt from paying GST, and submit regular Buisiness Activity Statements where they report GST collected and claim GST expenses. This opens an obvious loophole for avoiding GST; get your company to buy stuff for you instead of buying it yourself. Rich people have been known to have expensive cars, artwork, large-screen TVs?, and furniture purchased by their company in their homes.
It also has complications for international purchases, particularly online purchases. Most countries make export sales GST/VAT exempt to encourage and not disadvantage export sales. However, the burden of reporting/collecting GST is on the seller, and it is very hard to make sellers in other countries comply. The only way this can be enforced is by intercepting the items at import and require payment before they are delivered. This is difficult to do, and in Australia imports of items less than $1000 are GST exempt because it is impractical and uneconomical to enforce it for smaller items. This ironically makes it often cheaper to buy items online from overseas than to purchase them locally. The higher GST is, the cheaper it gets to buy online from overseas.
In theory consumption taxes are a convenient way to simplify taxation. However, their regressiveness, special exemption rules, ease of exploitation, and complications with online purchases make them less attractive. I think ideally GST should be abandoned in favor of higher/fairer income taxes, but if not then they should be simplified to apply to everything without exemption and reduced to compensate.
Medicare Payments
Coming soon...
Franking Credits
This applies to divident payments from investments. Some dividends payed by companies to investors have taxes pre-paid against them at company taxation rates. The dividends are described in terms of unfranked (amount without company taxes paid), franked (amount with company taxes paid), and imputed credit amounts (amount of tax paid). In practice the imputed credit is equivalent to tax withheld amounts. The amount withheld never corresponds with an individual's actual tax obligations, so are another minor complication requiring correction in an annual tax return. Note they do match the tax required when the dividend goes to another company.
If individual's tax obligations were simplified so they could be predicted in advance (ie, flat) then dividends could be paid with the correct amount of taxes withheld, reducing the need/complexity of individual's tax returns.
Personal Welfare
Australia has an overwhelming number of different types of welfare payments, each with their own eligibility criteria and payment scales. Trying to find all the payment options you might be eligible for on the Centerlink Website is hard, but luckily they provide a payment finder tool. Unfortunately it looks like even that tool fails to find everything you may be eligible for (for example it doesn't show Special Benefit, Rent Assistance, Telephone Assistance, Education Entry Payment, or JET ChildCare? Fee Assistance).
As a married individual with a child you may be eligible for at least 23 different benefits; Austudy, Newstart Allowance, Parenting Payment, Partner Allowance, Special Benefit, Education Entry Payment, Pensioner Education Supplement, Baby Bonus, Parental Leave Pay, Dad and Partner Pay, Child Care Benefit, Child Care Rebate, JET Child Care Fee Assistance, Schoolkids Bonus, Family Tax Benefit (Part A&B), Low Income Health Care Card, Income Support Bonus, Single Income Family Supplement, Low Income Supplement, Low Income Family Supplement, Clean Energy Supplement, Rent Assistance, Telephone Allowance. And that is not including any of the special case benefits for the young, old, disabled, carers, widows, indigenous, migrants, orphans, and rurals. Some of these are limited duration or one-off payments for new children. Some benefits are requirements for other benefits, and some preclude you from other benefits. Some depend on your relationship status. Some require regular proof of participation in certain activities (study, job seeking, training, etc). Most have some degree of income or assets tests or scaling.
More coming soon...
Company Taxes
Australian company taxes are very simple compared to personal taxes. More coming soon...
An Alternative Tax System
When you add up all the Australian tax and welfare payments, you end up with a rather distorted graph. There is a distinct welfare trap effect for households earning <$50,000, and several other distortion points along the curve. At the extremely low end there is also pressure applied by the welfare department in the form of regular eligibility checks and extra paperwork to justify and correct for any income earned. People on welfare with irregular work have to fill in regular paperwork reporting their income or risk missing payments or having to make repayments. Their employers also have extra paperwork, with the welfare department requiring them to make declarations on the income paid. The complexity of these processes discourage individuals from getting work which would risk their regular reliable welfare payments.
The current complex system's overall tax rate without the unfair distortions can be produced with a very simple system; replace all the different welfare payments with an unconditional fixed tax rebate, and replace the tiered tax system with a high fixed income tax rate. This results in simliar overall taxation rates to the current progressive tiered tax and welfare systems, and provides a similar level of negative feedback without the complications and distortions. For low income earners, the tax rebate is large compared to their income, so the high tax rate has little impact. For high income earners, the tax rebate is negligible compared to their income, so the high tax rate dominates. This system can be tuned by adjusting two variables; the tax rebate amount, and the income tax rate. Adjusting the tax rebate will affect the poor, and adjusting the tax rate will affect the rich. Increasing or decreasing both together will increase or decrease negative feedback, and should be cost neutral to the government.
This will remove all the eligibility and means testing criteria, so every resident gets the tax rebate as weekly/fortnightly payments with no questions asked. Every source of income for individuals, whether it is salary, dividends, or interest will withhold and pay the fixed tax without any need for knowledge or declarations about other income or welfare. At assessment time there will be no need for tax payments or refunds based on overall income from multiple sources, so there should be no need for most people to fill in in annual tax returns. It will correct the welfare trap effect, and remove any disincentives for people to work, with no extra paperwork and reduction in welfare when unemployed people decide to start working part time.
The removal of all the complex eligibility criteria for benefits and exemptions will remove most of the loopholes for avoiding tax. The flat taxation rate will prevent tax avoidance by income splitting, and there will be no welfare or taxation incentives for claiming or denying relationships. The removal of all the different types of income will prevent tax avoidance by income-shifting into different income categories.
Another possible side effect of this system would be an increase in availability of low income part time work. Employers will no longer have to compete with the welfare system to employ people for occasional small jobs, and will not be faced with excessive paperwork when they do. Employing someone local one day a week to clean the office will no longer be more paperwork and expense than it's worth.
UPDATE: Since writing this I've discovered (unsurprisingly) that I'm not the first person to think of this, and it is widely known as Basic Income. There is a worldwide Basic Income Earth Network promoting the idea. In Australia there is Basic Income Guarantee Australia promoting the idea.