By James Adams
Our country’s tax system raised about $80 billion last year for the government to spend on improving the living standards of New Zealanders. However, tax can be more than merely a way to raise revenue: it can also be used to promote social justice and other policy outcomes through its design. For example, the progressive nature of our income tax scale means that those with a greater ability to pay end up paying a greater proportion of their income to the government. This helps to keep inequality under control, an appropriate goal at a time when an increasing body of research indicates that large disparities between rich and poor are detrimental for economies and societies.
The new government has established a Tax Working Group to recommend changes to improve the “structure and balance” of the tax system. The key paper which the Group has released so far mentions a number of potential challenges for the tax system. These include the changing nature of work, New Zealand’s aging population, the housing crisis and environmental degradation. The Group acknowledges that this is not a complete list, and they also comment that challenges which New Zealand faces are not necessarily problems for the tax system to solve.
So what changes to New Zealand’s tax system could we make to promote social justice?
I Introduce a Capital Gains Tax
Imagine that you bought a fairly average house in Auckland in 2014. This would have cost you about $580,000 – which is still a lot of money. A lot of New Zealanders would struggle to pay the deposit, even for a house at this price. If you then sold the house at the end of 2017, the price would have risen to just over a million dollars. That means that you would walk away with $420,000 from your investment – tax free.
It has been widely suggested that introducing a Capital Gains Tax (CGT) would promote fairness and better outcomes in the housing market, because people would have to pay tax on their capital investments (as illustrated above). A CGT is almost certainly a good way to make the system more progressive, because the richest New Zealanders tend to make their money from capital gains, rather than income.
However, it is debatable how much of an effect a CGT would have on the housing market. New Zealand is somewhat unusual in not have a capital gains tax, but housing is also phenomenally expensive in other countries (such as Australia) where they do have a CGT.
There are also several significant design issues to consider. What should be included in a CGT – should we cast the net as wide as possible? Or should we exclude the family home, or certain types of Maori land? How should we tax capital gains – should it be a tax bill every year or only when you sell the capital investment? These two options are called accrual and realisation, respectively, and each has their own unique side-effects, although realisation-based CGTs are generally seen as more practical. Finally, how much should we tax capital gains? Should tax all capital gains at the same rate (like business income) or through a progressive tax scale (like personal income)?
II Introduce Environmental & Health Taxes
There are also opportunities for the tax system to be used more creatively, for example by introducing taxes that are targeted towards reducing particular activities. We already do this with the excise tax on alcohol, for example. It is recognised that the price which consumers pay for liquor does not reflect the externalities which we all suffer as a result of its consumption. This justifies a tax: to discourage consumption, and to help pay for the additional costs borne by police, hospitals and ACC.
Some argue that there is scope to introduce more of these taxes. For instance, New Zealand has a significant issue with obesity; by some measures, we are the third most obese country in the world. A growing number of countries having introduced various types of ‘sugar tax’ to help combat this epidemic, but there is a lively debate about how effective these taxes are. Increasing the tax on alcohol may similarly be more effective at reducing alcohol-related harm than the current strategy of relying on local authorities to make their own rules.
The same is true when it comes to environmental policy. There are some instances where ‘green taxes’ overseas have had surprisingly good results: a plastic-bag tax in Ireland contributed to plastic bags falling as a percentage of total rubbish from 5% in 2002 to 0.13% in 2015. There have been calls in this country to tax water-bottling plants, because if these businesses get resource consent, they can extract pure aquifer water and sell it overseas without paying anything more than the business income tax. Others argue that a tax on water-bottling would be unfair, for other users extract water without having to pay an additional tax. It comes down to a question of what New Zealanders value more highly: a tax system that is responsive to public opinion and actively seeks to improve behaviour, or a tax system that stays in the background and raises revenue without distorting investment choices.
III Bolder Steps that the TWG Won’t Endorse
The Tax Working Group will produce an interim report in September this year, but there are several options that they will not be recommending. This is because the government has determined that some tax proposals are too politically unpalatable. For instance, the Group cannot recommend a Capital Gains Tax that includes the family home. Nor can they recommend an Inheritance Tax, which could be an effective mechanism to ensure equality of opportunity (by preventing wealthy New Zealanders passing all of their accumulated wealth on to their offspring). That being said, inheritance taxes in other countries have typically required lots of complicated rules, which people can get around by putting their money in trusts.
Most surprisingly, the Group cannot recommend any increases to income tax. This is despite there being calls from all manner of groups (see here and here) to reform the income tax scale. It does not make much sense that someone earning $70,000 each year is effectively taxed at the same rate as someone earning $150,000 and it is farcical that every couple of years, governments can give “tax cuts” when really they are just re-adjusting the brackets in line with inflation. So while there is potential for introducing new and creatives tax policies, we need to ensure that we get the basics right, too.
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Featured image source: https://www.economist.com/the-economist-explains/2013/09/24/why-do-the-french-tolerate-such-high-taxes