Fortune favours the brave (updated)

Most of the political commentariat were convinced that Bill Shorten had got things badly wrong by announcing his policy on dividend imputation immediately before the Batman by-election. It was even more striking that, despite the pressure, Shorten didn’t cave into demands for changes to the policy. Michelle Grattan, for example, described the policy as an “own goal“. After Labor’s easy win, she backed off a little bit, but still claimed that Labor “has a selling job“. M

Maybe so, but I’d say the government is the one that has scored goals for the other side.

(Update 27/3) As predicted, Labor has tweaked the policy to exclude pensioners. That blunts the remaining lines of attack, but doesn’t cost much money, since the benefits go primarily to high-wealth self-funded (but massively tax-subsidised) retirees. By waiting until after the Batman by-election and the latest Newspoll, Labor looks gutsy (even Dennis Shanahan in the Oz conceded this) and Turnbull looks even weaker than before

Immediately after Labor’s announcement, the government’s preferred media outlet ran with a Treasury analysis showing that most of the losers were people with a taxable income of less than $18200 and the observation that Labor had supported the original decision to refund imputation credits to people who didn’t pay tax.

The trick was that the analysis ignored one of the many timebombs Peter Costello left in the budget (after the 1999 change to dividend imputation). By extending tax concessions on income from superannuation, Costello created a large class of retirees who had relatively high incomes, but little or no taxable income. These are the big beneficiaries of the current system. This point has already been discussed a fair bit in our comments thread. This <a href="http://Grattan“>explanation from Brendan Coates & Danielle Wood of Grattan sums up the key points.

The other line of political attack is the discovery of some deserving voter who will lose from the tax change (there are always some losers). The Oz managed, at very short notice to find a self-proclaimed lifelong Labor voter who was going to switch sides as a result.

People like this can’t be very numerous however. Self-funded retirees mostly vote conservative and LNP governments have given them big handouts. The fury with which they greeted recent attempts to scale back some of the biggest Costello handouts reflected a genuine feeling of betrayal from a core component of the LNP base. Conversely, if a self-funded retiree is a lifelong Labor voter, it’s likely that they are not driven primarily by hip-pocket concerns.

Putting all that to one side, the government has already used up its best opportunities for a scare campaign. Having been caught out cheating with its initial analysis, it will face a lot more scepticism next time around. Meanwhile, Labor has plenty of time to make tweaks to the policy if they are needed.

75 thoughts on “Fortune favours the brave (updated)

  1. Can someone explain this tax policy change or point me to a good explanation?

    My understanding is that it removes the tax rebate for franking credits. I.e. a corporation has paid tax on profits and then payed the remaining profits to shareholders, some of whom are retired. That money having already been taxed is exempt from tax – that remains – however people who don’t pay any tax were getting a rebate (not a deduction) for this, but now wont. I think I have that right. I just don’t get the implications.

    Is it because some retired people are actually rich, but appear to have no income so pay no tax so were getting big rebates?

  2. Okay I should of read the linked article. The issue is that super income is tax free. So you could have income from super well above $100000, but still have an taxable income of zero.

    Hmmm not sure how I feel about this. Perhaps super income should be taxable and then the rebate could stay? Or the rebate only applies if not coming from super which is already tax free?

  3. The linked article is not bad but it mixes up income earned in a super fund with drawdown from super. The latter is a combination of capital and income and cannot be simply added to non-super income to give total income.

  4. The other interesting thing is that this policy change along with changes to CGT and negative gearing would give the ALP a huge election warchest (100 billion or more?) to bribe people with. More than enough to counter balance the small numbers of pensioners who swing to the Coalition on this policy.

  5. @Shane From Melbourne The problem is that CGT and negative gearing actually hits the 40 to 55 demographic not the retired. Also you would need to phase I any changes to these which means a government wouldn’t see any of the revenue in their first term at least.

    Personally I think that housing loan interest should be excluded from all loss calculations. That would be for private individuals as well as trusts and property funds. Housing is special and housing leveraged debt even more so. Also foriegn investment in residential Housing should only be allowed for newly built properties.

    Just some thoughts…

  6. Foolish policy and based on a flawed understanding of the imputation idea. Dividends are taxed by the firm – a tax prepayment with individuals only coughing up the difference between their MTR and 30%. The effect of the policy is to impose a tax of 30% on low-income earners. High income earners will continue to get the benefits of indexation. Judith Sloan explains it well:

  7. Sorry Harry you are badly wrong. Low income tax is not the same as low incomes as you should know.

    I have actually written about this today. congrats to Grattan Institute on their paper.

  8. @hc

    I dunno about Sloan ever, and her piece is hiding under a gold brick, but hc you are right on the money!

  9. Given the astonishing level of (confected?) outrage that greeted Labor’s latest tax proposal and the similar outrage that greeted its proposals on negative gearing, Australian tax payers (and, evidently, certain non-tax payers) appear to have embraced the philosophy that tax benefits are somehow granted in perpetuity.
    How, then, can we ever refine & rationalise our ridiculous taxation system, or are we to be forever encumbered with its copious nonsensical provisions?
    And please don’t tell me, a la ScMo, that taxation is now effectively a competitive international market place.

  10. “Labor had supported the original decision to refund imputation credits to people who didn’t pay tax.”

    JQ, would you please write an authoritative article on this recurrent non-sense of quoting a policy stance from the past because the proponents of this type of argument seem to confuse the methodology in common law proceedings (where judgments from say 1890 or 1901 are used in say 2018) with the methodology in economics (where a policy is evaluated in terms of contemporary conditions involving many variables).

  11. “…the discovery of some deserving voter who will lose from the tax change (there are always some losers)”


    “Labor has plenty of time to make tweaks to the policy if they are needed.”

    Or one could wait for Labor’s policy on income tax cuts for low and middle income earners, as well as pensions (as foreshadowed) and presumably superannuation rules to see whether the deserving people end up financially at least as well off as with the cash refund of dividend imputation credits.

  12. I’m not actually a fan of the dividend imputation changes as such: there’s no actual problems with rebatable franking credits, the problems are with the tax treatment of deferred incomes such as superannuation and CGT [and a handful of people with severely irregular incomes like certain artists or farmers].

    But those are really hard problems, not just politically but also conceptually/definitionally and administratively. And the dividend imputation changes get a fair approximation to the desired result for much less effort, so pragmatically it’s a good and reasonable decision.

  13. Craig Emerson had this to say about the origins of the cash prize for paying no tax, writing in the AFR on Monday.

    “Cash refunds for dividend imputation were not part of the Keating imputation system. The Howard-Costello government introduced them in 2000 as a sweetener for self-funded retirees who would be adversely affected by the stated plan to tax family trusts as companies.
    In the event, Howard buckled under the pressure from the National Party and reneged on Costello’s signed agreement with shadow treasurer Simon Crean to tax trusts as companies. But he and Costello kept the sweetener anyway… It now costs more than $5 billion annually and is heading towards a $8 billion annual drain on the budget…”

  14. @hc

    Quite so. I was wrong. Thank you for the correction.

    But you are wrong, or could be wrong when you say the policy will impose a tax on low income earners. There are people who appear to be low income earners only because they receive distributions from trusts. This is a very effective tax avoidance strategy, but only if the trust income is spread widely so a large number of people in a family each get a small amount of distribution.

    Speaking of which, the Labor imputation policy complements its family trust anti tax avoidance policy. That policy proposes to tax trust distributions at a rate of at least 30%. But there is an easy work around, which is to distribute trust earnings to a company which then pays franked dividends to low income earners in the family who are the shareholders in the company that gets the distribution. They then get cash back on the excess franking credits, and the trust tax avoidance strategy is replicated. But this won’t work if the family members can’t get cash back on the franking credits.

  15. Freddo – Isn’t the most important point that when non-taxpayers get their cash prize, nobody pays tax. The company has paid tax on the dividend, but that tax is handed over to the taxpayer – so nobody pays tax!

  16. @Smith Again you are confused. This issue has nothing to do with trusts. The criticism is not that low income people are relying on trusts but that some low income people are fairly asset rich with fairly large holdings of equity which offer fully franked dividends on which tax has been prepaid by firms. Hence they have no tax liability and get a refund of the tax paid by firms for them.

    The difficulty with this approach is that genuinely low income people with low equity holdings are due to have a 30% tax imposed on their limited incomes. Weahthy people with equities and other sources of income however will continue to benefit from imputation and the prepayment.

    The core difficulty for Labor is that they are trying to modify the imputation system to provide a surrogate tax on equity wealth but, in doing so, are trying to square the circle. The measure they propose hurts small equity holders (most retirees) and leaves unscathed most of the higher income equity holders who have many sources of income.

    If you want to tax wealth broadly then do so. Tax equities, the family home etc and that will do the trick. Of course Labor would never be elected with such policies so they have come up with this foolish surrogate.

  17. @hc

    You’ve missed the point. Not all low people who are apparently low income (because their taxable income as assessed by the ATO is low) are genuinely low income.

  18. FREDDO :
    Freddo – Isn’t the most important point that when non-taxpayers get their cash prize, nobody pays tax. The company has paid tax on the dividend, but that tax is handed over to the taxpayer – so nobody pays tax!

    Yes, this is the crux of the tax leakage.

    Beside self-managed superfunds, complex corporate structures involving loss making subsidiaries who own shares of companies that pay franked dividends ought to be examined, too.

  19. @FREDDO

    “Isn’t the most important point that when non-taxpayers get their cash prize, nobody pays tax.”

    Given the likelihood of a junk food or dumpster sourced diet then even destitute beggars in Australia pay 10% tax.

  20. @hc

    The original and the proposed dividend imputation system avoids double taxation of dividends by taxing the dividends at the marginal tax rate of the recipients of the franked dividends.

    What is the amount of tax on franked dividends received by an agent with a marginal tax rate of 0%?

    We all know that any number multiplied by 0 results in 0. Hence no additional tax is to be paid.

    Please explain how you arrive at your conclusion that a cash refund of corporate tax payed on fully franked dividends constitutes ‘double taxation’ rather than a welfare payment which happens to discriminate against income earners from wages in favour of those who earn the same amount of income from franked dividends (this becomes obvious if you compare the a number close to the tax free amount under both income streams).

  21. @Ernestine Gross

    Correction: Insert “No” in line one.

    Please explain how you arrive at your conclusion that No cash refund of corporate tax payed on fully franked dividends constitutes ‘double taxation’ rather than a welfare payment which happens to discriminate against income earners from wages in favour of those who earn the same amount of income from franked dividends (this becomes obvious if you compare the a number close to the tax free amount under both income streams).

  22. Freddo – Isn’t the most important point that when non-taxpayers get their cash prize, nobody pays tax. The company has paid tax on the dividend, but that tax is handed over to the taxpayer – so nobody pays tax!

    Nobody pays tax because according to the ATO income definition nobody made any money. It’s only a problem because the ATO’s income definition is flawed.

    [GST input credits are fully-refundable too; same mechanism, partial collection at multiple stages with the entire effective burden falling on the end of the chain. It’s really clever, and you can tell that tax reformers overseas are bogus because they don’t push for similar. ]

  23. @Ernestine Gross

    It may not be a “double” taxation, but is definitely a double standard. Cash to the value of the franked tax credits should end in the pockets of all or none whether it is cash via a reduction in other tax due or just plain cash.

  24. @Smith I’m not sure where you say in the article they are treating drawdown of capital as income. There are references to ‘drawing’ income from super accounts, but that could be earnings (e.g. $130k on $3.2m balance is ~4% return). Elsewhere, they also clearly identify that drawdown of capital is not ‘income’ but is available to fund retirement (that’s what should happen, not building up tax-free estates to bequeath). Note also that there are Deeming Rules that deem a portion of super balance as income for assessing eligibility for a Pension.

    @hc You are presenting as objective policy truth that the Company Tax system *should* be a pre-payment or withholding regime prior to ultimate taxation at the individual’s MTR. This is simply not true. It’s one policy model, not the only viable or ‘legitimate’ model. It doesn’t apply to foreign investors into Australia (Company Tax is final for them), didn’t apply before 2000, and doesn’t apply in most (any?) other countries.

    To pretend that returning to the pre-2000 regime shows a lack of understanding of imputation credits is silly or mendacious. As Keating said, the intent of the imputation system was to ensure that company profits were taxed once; not twice, but also not zero times.

    Also, it’s not quite right that this has nothing to do with trusts: some recipients of FC refunds would be ‘low (taxable) income’ adults in a high-wealth household, receiving distributions of dividends through a discretionary trust.

    The main affected group, SMSFs, are also trusts – but that’s being technical. It does, however, very much undermine your claim on distributional impacts as this will overwhelmingly impact people with high balances in SMSFs in pension phase – i.e. the wealthy.

    Finally, I invite you to declare whether or not you would be personally adversely affected. (I’m unlikely to be affected any time soon, but expect it could hit me somewhat when I retire.)

    “The poorest half of all retirees own less than 2 per cent of all shares held directly. By contrast, the wealthiest 40 per cent of retirees own 97 per cent of all shares held directly, and the wealthiest 20 per cent alone own 86 per cent of all shares held directly.”

    Based on their graph their language is sloppy. That poorest half of retirees are actually legion whereas the wealthiest 40% and 20% are few. Going after the few by hurting the many (voters) is dumb.

    derrida derider at called it for what it is. It’s all an ALP dodge to avoid taxing all retirement incomes appropriately, especially those of the rich (and pollies). They wouldn’t like to upset their rich direct and indirect donors too much either.

    It’s also a blatant hypocrisy of pollies and ‘public servants’ whereby their most generous indexed retirement super incomes would be untouched by the ALP proposed change in treatment of franking credits but income of retirees currently with direct or indirect franked dividends would be hit hard, and, relatively, the poorest the hardest hit. But that is the ALP of the last 40 years: the poor pay the rich get away. Take, for example, Sally McManus this morning in her speech calling on young workers to join unions to fight for improvements like previous generations of workers did, but glossing over the inconvenient facts that the existing situation arose due to huge and sustained 30 year sell out of several generations of workers by most union bosses in cahoots with the ALP!

  26. There is a simple way to avoid double taxation that does away with the complexity of franking credits. Tax the company and don’t tax the dividends.

    Great, except:
    + company tax is significantly lower than the top marginal tax rate, and
    + company tax is applied to a lower fraction of incomings [because companies are allowed more deductions than individuals, acct company tax technically being net and personal tax gross] and
    + for a lot of people, particularly people with high personal incomes, routing incomes through companies is straightforward.

    So your proposal is a vast tax giveaway for the wealthy self-employed… unless company tax is close to doubled, and then it means that poor shareholders get the shaft, with their dividends effectively taxed as if they were wealthy.

    [also, franking credits means that companies get a vast tax incentive for paying dividends; this has huge impact, almost entirely positive, on australian company management practices and a significant part of why we’ve been doing so well economically.]

    Your plan is not clever.

  27. @Collin Street

    Insurance bonds are taxed exactly this way. 30% tax at the source, the remaining 70% distributed with no tax liability.

    If you want to get audacious, if there was a single rate of tax for all types of income, say 35%, all of these problems would go away. Low income people could be looked after by the government giving them money.

  28. Svante :
    @Ernestine Gross
    It may not be a “double” taxation, but is definitely a double standard. Cash to the value of the franked tax credits should end in the pockets of all or none whether it is cash via a reduction in other tax due or just plain cash.

    And what would be ‘other tax’?

    FYI, the avoidance of ‘double taxation’ relates the issue of the capital structure of firms. That is the two sources of outside finance (not retained earnings, if you are used to the accounting terminology), namely debt and equity. Without dividend imputation the returns to equity, distributed via dividends are taxed twice (eg under the US system), first on the corporate level (corporate taxation) and then on the shareholders’ level (personal income tax). By contrast, returns to debt holders are taxed only once (personal income tax). This system provides an incentive for corporations to use debt finance (increasing financial risk).

    The original (and the proposed) dividend imputation system eliminates the double taxation of dividends and, setting aside a whole lot of tax loopholes as well as tax expenditures in other areas of the taxation system, the original (Keating) as well as the proposed (Shorten) dividend imputation system maintains the progressiveness of personal income tax rates. The Costello system does not.

  29. @Ernestine Gross

    We two have dallied a little with dividend imputation before. You know I know what it is, how it works, but thanks for the slightly different tack in explanation.

    What is ‘other tax’?

    Consider the longer snip ‘a reduction in other tax due’. I thought it clear I referred to tax due on other income. The franked credit results in a reduced overall tax bill which means money in the pocket. Money in the pocket however it got there whether by reduction in tax or a simple cash payment is money in the pocket, and if franked credits mean that money goes in the pocket for anyone then it must be for everyone having dividend imputed shares. All or none. Anything else is a double standard

  30. @Ernestine Gross

    Nothing progressive about it. Keating and Shorten looking after themselves and their mates may offset their tax bill by the full amount of franking credits, so come tax time it’s more money appearing in their pockets thanks to the franking fairy while others on lower incomes get to offset less or none at all.

  31. @Svante

    @37 and @38

    Swante, I don’t think we have met and ‘dallied’ wrt anything. You are repeating your preferred message. As for ‘other tax’, you are now taxing my patience exceedingly with what I call obfuscatory language.

  32. @Ernestine Gross

    Your memory is short. The language (including the spelling) above is clear enough. The rest I can’t help you with further. If you can’t see who benefits and who loses from your proposed regressive changes and why, and who should be taxed and how, and why your proposed changes are an ALP dodge to avoid addressing the income/imputation taxation “main rort” then I can’t see the point. I’ll just leave you with dd’s comment once again to consider.

  33. I believe this is the Judith Sloan quote, which I think HC agrees with, that I (and many others, it seems) are having trouble understanding:

    “When an individual earns less than $18,200 and pays no tax, then the individual receives a cash ­refund of 30 per cent. This is only fair. Without cash refunds, the ­effect on very low-income earners would be a tax of 30 per cent on dividends.”

    Over at my blog, I asked if someone could explain it, as it makes no sense to my brain at all. Someone commenting anonymously did try to explain, but it still makes no sense to me. You can see it here:

    I don’t trust Sloan as far as I could throw her, but for HC to arguing on similar line makes me feel it’s like a Magic Eye poster that must have something in it, just I can’t see it!

    Any assistance would be appreciated….

  34. It may not be a “double” taxation, but is definitely a double standard.

    Well, yes.

    We are trying to maximise multiple conflicting factors. If we were only trying to maximise one single factor we could use one single rule… but we’re not doing that, so we can’t.The limiting factor differs in different situations and we pick different rules in those different situations to maximise whatever the limiting factor is in that situation.

    If your moral sense is offended that we have to do this… It’s not really within my power to find a solution. It’s how the world is and will always be; if this is a problem for you, then it’s you that will have to change. And that’s not something I can help you with.

  35. @Steve from Brisbane

    It’s not true.

    Say someone who earns $15000 in salary and is therefore in a 0% tax bracket gets a fully franked dividend of $70. The franking credit is 1/(1-30%)*$70 – $70 = $30. The pre-tax dividend is $70 + $30 = $100.

    Tax owed on the dividend = 0%*($70+$30) – $30 = -$30 so they get a cash refund of $30. They are taxed on dividend at a rate of minus 30% = -$30/$100.

    Under the Labor policy tax owed = $0 so they are taxed on the dividend at a rate of 0% = $0/$100.

    It is true that the tax rate under the Labor policy the tax rate will be 30% higher than now, since 0% is 30% more than minus 30%. But the Labor tax rate will not be 30%. It will be 0%.

    The more pertinent question is what kind of people have a taxable income that is so low yet receive dividends. Share ownership is not an activity one normally associates with the poor. The great majority will be either superannuants in pension mode, whose pension income is not taxable, where that income could be up to around $100K, or recipients of income from family businesses, family trusts, rural trusts, testamentary trusts etc, and who could not be described in any meaningful sense as ‘low income’, even though they personally are ‘low taxable income’.

  36. @Collin Street

    I think rather the problem is yours as such a change as Billie and Bowen have proposed and you seem to also want simply will not happen, albeit for the very reasons you give, ie, “It’s how the world is and will always be”. There may be change, certainly there always is, but it won’t purely be that dumb one for if it is pursued as is impotence will follow for Billie and Bowen.

  37. whew.

    from an idiot point of view

    the gist seems to be — the really well off are making a (here-we-go-again) claim to being picked on because of being really well off and are scrambling into kick-and-scratch mode.

    i’d be more inclined to feel sorry for them if there wern’t so many people sleeping rough.
    (it’s the older women who did the “stand-by-your-man”life and found when the chips were down, it’s “stiff cheese biddy”, that stick in ones craw.)

  38. @Svante

    I didn’t ask you for help, Svante.

    The remainder is your problem not mine. I refer you to JQ’s post and Collin Street’s posts.

    Interesting how you try to cover up the corporate tax leakage, small as it is in the example, in your post to Steve from Brisbane.

    There is agreement between JQ and myself regarding the ‘main leakage’ of corporate tax revenue due to cash refunds of franking credits as should be evident from one of my posts on the ‘Greens’ thread.

    Incidentally, my comments are totally divorced from party politics.

  39. @Steve from Brisbane I attempted to answer your question on your site. @Smith ‘s comment above is an alternative way of looking at it (the ‘pre-tax dividend’ is equivalent to company’s profit).

    Svante – you seem very confident in the distributional impacts are regressive. I am extremely confident that you’re wrong – vast majority of the projected revenue raised comes from SMSFs, and the majority of that comes from SMSFs with an average balance of $2.4 million. As Grattan analysis noted but you seem to dismiss/ignore – share ownership, hence dividends and FCs, flow overwhelmingly to wealthier people. (Yes, I understand the offsetting of FCs against tax payable on other incomes. Reality is many wealthy people can structure to minimise other taxable – the most obvious being tax-free super in retirement.

  40. @EconoManOz

    Reality hits the road not with the numbers concerning who gets how much but with the number concerning how many would get hit and vote accordingly. This proposal is hardly a surgical tax strike on rich superannuants and such as it’s held to be, it’s more like a cluster bomb barrage with high “collateral damage”.

  41. @Svante

    Genuine question: Is that an assessment of policy merit (and actual distributional impacts) or likely political impact? I read your comment #38 (“nothing progressive about it”) as a policy merit / distributional impacts assessment.

    In my opinion (with a reasonable degree of former tax policy experience): The revenue/distributional impacts indicate that this is very much a surgical strike as far as tax changes go. Not to say that there are no other impacts, but if Labor can exclude all Pensioners for <10% of the revenue impact as suggested over last few days, that is very low 'collateral damage' by typical tax policy standards.

    Contrast it with two main alternatives suggested in the comments/elsewhere: 1) ending 'tax-free super' in pension phase, which would impact many more people, or 2) a wealth tax, which would be entirely new and crazy-brave to design, let alone propose, from Opposition.

    As for political impact, I think the only accurate answer is we don't know yet. Early evidence is mixed / points to a mild impact – and certainly does not indicate that the Govt's histrionics have succeeded (yet?).

    Finally, it's wrong to assume all those people who would get hit would vote accordingly – or more to the point, change their vote accordingly. I’ve heard quite a few people say it will affect them, but they agree with the change.

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