The 2024-25 Federal Budget will likely respond to significant cost-of-living pressures. The Albanese government have already amended the legislated stage 3 tax cuts implemented by the former coalition government. The original stage 3 tax cuts would have primarily benefited higher-income earners and the government claims that its changes will instead redirect the benefit to lower- and middle-income earners to assist with the rising cost-of-living. In this article we examine these changes for lower- and middle-income earners and discuss the trade-off between temporary and permanent measures in addressing rising costs.
What exactly has changed?
Putting aside the debate surrounding the awkward political position this “broken promise” has placed the Prime Minister in, from 1 July 2024 more taxpayers will receive a tax cut under the amended stage 3 plan.
Treasury modelling has indicated no inflationary impact or “burden to the budget”. Specifically, the financial impact has been calculated as a decrease in tax collected by the Government of $1.3 billion and $640 million respectively for the tax cuts and related Medicare levy changes over the forward estimates period.
What does this look like for taxpayers?
Note: Additional changes to the Medicare Levy thresholds are not shown here. There is no increase to the taxable income thresholds for when the Medicare Levy Surcharge kicks in for those taxpayers who do not pay for private health insurance.
Breaking down the amendments, we see a reduction in the lowest tax rate from 19% down to 16% for incomes between $18,200 and $45,000. This change is specifically targeted towards lower income earners.
We also see a reduction of the 32.5% rate to 30% for income levels between $45,000 and $135,000. Whilst the originally enacted stage 3 tax cuts included this reduction, the amendments by the Albanese government reintroduce the 37% bracket so that the benefit is more restricted. Income between $135,000 and $200,000 will no longer be subject to the 30% tax rate, however, the threshold at which the 37% tax rate applies has been increased from $120,000 to $135,000.
Whilst this is still a benefit for this tax bracket from current rates, the originally enacted cuts removed this bracket entirely. This was designed to combat bracket creep, where increased inflation and wages trigger more tax but no real increase in purchasing power. Thus, the changes reinstate a higher marginal tax rate for this range (which is, in essence, what taxpayers are currently experiencing).
Remember, we are talking about the next tax year changes, so regardless of whether we contemplate the Coalition or Labor version, neither has yet been felt or experienced. What is changing is the expected benefits. Taxpayers need to wait until their first pay-packet in July to see a slight increase in take-home pay due to a reduction in the PAYG withholding rates due to these tax changes.
Finally, there is an increase in the threshold for which the 45% tax rate applies. This is from $180,000 to $190,000. Again, in comparison to the originally enacted tax cuts rather than the current income year tax rates, this results in a reduction of the threshold from $200,000 to $190,000.
The changes can therefore be described as akin somewhat to the ideals of Robin Hood, namely “stealing” the tax cuts from the high-income earners and redistributing wealth to the lower- and middle-income earners. This juggling reflects a fundamental aspect of the income tax system, to redistribute wealth and to maintain revenue neutrality.
What does it mean for taxpayers?
The Prime Minister, as well as providing numerous statistics comparing the stage 3 tax cuts, describe the changes as benefiting “middle Australia”.
Albanese points specifically to 5.8 million more women accessing greater tax cuts compared with the Coalitions model. This is not surprising given statistics have shown that women tend to have lower wages compared to men and therefore have a greater presence in the lowest income brackets. Redistributing the tax cuts to middle and low-income earners therefore inherently benefits women.
However, contemplating the amendments to alleviate cost-of-living pressures requires a consideration of family units and arguably should not always be looked at on an individual taxpayer basis. An individual taxpayer on a low income may form part of a family unit where the spouse is earning a much higher income. The overall taxable family income and resultant tax break should therefore be considered in totality as some of these family units may, in fact, be worse off once allowing for the reduction of the original Stage 3 tax break for the higher income earner. Total family income is also used to determine benefits from the welfare system and is not isolated to individual taxpayers either – such as family tax benefits and various childcare subsidies.
It is important to recognise that the Coalition’s stage 3 tax cuts were enacted prior to the change in economic conditions that brought about significant cost-of-living pressures (and previously the COVID pandemic). This was raised in the second reading by Dr Ananda-Rajah, which noted that the former government did not provide tax relief to high income earners during the decade of Coalition leadership through better economic times, describing it as “kicking the can down the road”.
At the core of these amendments is a shift in relief to key demographics. In her analysis, Dr Christine Peacock found the amendments go some way to address vertical equity as well as enabling low and middle-income earners to be better off. The trade-off being higher income earners (those over $150,000) will be negatively impacted by the Albanese amendments.
Additionally, as noted in the second reading by Dr Ananda-Rajah, the changes also bring relief to the 18 to 26 year old demographic. This represents the next generation of taxpayers who are only beginning to enter the tax system. We need to be mindful of Australia’s reliance on income taxes and changes in demographics along with increasing breadth of income earning activities in a digitalised economy. It is expected that as the taxpaying community ages, there will be a narrowing of tax base and with it a risk to tax revenue collection.
The trade off between temporary and permanent measures
A cat juggling various household costs (AI-generated image using Microsoft Copilot, provided by the authors)
A fundamental question surrounding the original Coalitions package of tax cuts was around the temporary nature of those benefiting low-and-middle-income earners, whilst high-income earners benefiting on a permanent basis. A key element that the Labor amendments brought, was to make benefits to all taxpayers permanent in nature. Whilst this brings low-and-middle-income earners on par with high income earners from this perspective, this can be contrasted with prior assistance packages combating crises using temporary measures. We therefore ask, should crises result in permanent changes to the tax system?
Take for example as a result of the COVID crisis and as announced in the 2022-23 Budget, the Coalition government increased the low-and-middle-income tax offset (LMITO) from up to $1,080 to $1,500 and halved the excise on petrol for a six-month period to have an immediate impact on easing the financial burden. Both measures have now lapsed due to their temporary nature as the crisis has subsided. Comparing Labors amendments with the temporary LMITO, we observe a smaller and less immediate tax break for low-and-middle-income earners than the previous temporary measures achieved for those with a taxable income around $55,000.
The question for economists is whether the current cost-of-living pressures will remain for a longer period and warrant a permanent tax change, notwithstanding questions about the equity of pre-existing tax cuts going only to higher income earners.
A temporary cost-of-living offset – even via the reintroduction of the LMITO – could have had a more immediate and effective impact on those most impacted by cost-of-living pressures. Such an offset could have similarly been paid for with a levy on the higher income earners as in 2015 when the Coalition government introduced the temporary budget repair levy on higher income earners to assist with fiscal budget repair. These measures could easily be removed once the present crisis is averted. This could balance the necessary re-distributions whilst maintaining budget neutrality.
Admittedly, irrespective of approach, this results in the Government continuing to “break promises”. It similarly does not necessarily make the tax system simpler – another facet of a good tax system. We need only look to the regular question over when the temporary small-business immediate write-off thresholds will be extended again and again – as has been occurring since 2015 and the resulting “dog’s breakfast” of rates and thresholds.
The relevance of the temporary-permanent trade off relates similarly to the HELP debt controversy that is currently being debated. The contemporary issues around rising interest rates and inflation lead to adverse impacts on the ability to reduce debts. Shortcomings of the design of the HELP repayment system have arisen particularly in this economic climate, where current indexation is not keeping up with repayment cycles. Given economic conditions are dynamic, the question arises as to whether any reform should be permanent in design, or whether a temporary approach is necessary.
As Ken Henry flagged, the financial gain or losses to voters and the media may be the key matter from a political perspective when it comes to tax reform. However, we must also ask: overall which approach is better for a long-term outlook contemplating the tax and welfare systems as a whole? These are important matters that the forthcoming budget will need to address.
It is correct that one should not look at individuals in isolation when it comes to imposing income tax and who is well off.
The real problem is a basic logical one – Should income be taxed where it is earned or where it is enjoyed?
Virtually all tax systems ignore private income redistribution. By doing so they push people to reliance on government transfer payments as opposed to private transfers.
The old British deed of covenant deduction which transferred income made under legal obligation to be taxed to the recipient had sense.
In the real world an enormous amount of income redistribution takes place outside government – ask any parent or husband or wife.
I should add that the $300 electricity bill handout is rather (sadly) amusing given it was the Treasury and the so-called Productivity Commission which gave us these rapacious corporatised utility monopolies charging consumers on the basis of a bogus measure of replacement cost of capital which means users are paying over and over again for assets they have already paid for.