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A corporate tax rate cut is just one part of the puzzle

Considered in isolation, a reduction in the corporate tax rate offers challenges both socially and politically.

Tax&Compliance Reporter 31 December 2020
— 2 minute read

The public not only have the opinion that large corporates have significant cash and therefore should not benefit from reduced corporate tax rates, but they also fear large corporates manipulate our systems to extract profits free of Australian tax. Ironically, it can be Australia’s high corporate tax rate which drives these behaviours where they exist.

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Australia currently operates with a two-tiered corporate tax rate system. This leads to significant complexity and anomalous outcomes, particularly for our domestic businesses where an entity’s tax rate and franking rate can vary from each other and from year to year which can increase compliance costs and errors.

To add some perspective, the total annual tax collections in Australia is around $400 billion, of which around $220 billion is collected from individuals, around $85 billion is collected from corporations and around $60 billion is collected from GST (the GST revenue is passed onto the states and territories).

Regarding the ATO’s published Tax Gap data, the following should also be observed in relation to the 2017–18 income year:

Population Estimated Net Gap
Large Corporates 3.7%
Medium Business 6.2%
Small Business 11.5%
High Wealth Income 7.4%
Individuals not in business

5.6%

“Our country needs to be funded and tax is the only way to achieve this, so it remains reasonable to ask all Australians and entities operating in Australia to pay their fair share of tax,” said Andrew Mills, director, tax policy and technical, at The Tax Institute, and the driving force behind The Tax Institute’s tax reform project, Project Reform.

“One needs to remember, however, that the corporate tax collection is less than 25 per cent of Australia’s total tax collection.

“Our corporate tax rate operates as a disincentive for foreign investment; accompanied by a lack of incentives to commercialise and retain new intellectual property in Australia, the long-term sustainability of Australia’s tax system is shaky.”

Tax is predominantly borne by individuals, be it through income or consumption. While corporations can derive significant profits, these profits are paid to employees in the form of salaries and wages and profits to shareholders in the form of dividends.

“A higher corporate tax rate, accompanied by high individual tax rates, leads to a behaviour of individuals seeking to retain profits in corporate structures and a desire to have an imputation system to prevent double taxation,” Mr Mills said. “Imputation systems inherently bring complexity and manipulation.”

Relatively few countries have an imputation system; Australia, New Zealand, Mexico and Chile have full imputation systems, and Canada and Korea have partial imputation. There is a global trend to move away from such systems, with France and Germany being some of the latest to do so.

Mr Mills said: “There is real merit in reducing the corporate tax rate. The benefits of reducing domestic tax complexity, eliminating the complexity of imputation, and ultimately attracting more foreign investment cannot be underestimated. However, we cannot just consider adjusting the corporate tax rate in isolation; it needs to be planned, considered and adjusted in the context of reforming the entire tax system.

“It remains that we need to look beyond the current income tax system to find sustainable revenue streams to fund our country’s services and infrastructure. Australia must bring the income tax - consumption tax ratio into balance and create incentives to attract and retain intellectual property.”

A corporate tax rate cut is just one part of the puzzle
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