Tax breaks are coming, but bracket creep remains an issue

Tax is a hot topic at the moment. With Australians looking for cost-of-living relief from any source, and changes to the stage three tax cuts detailed by Prime Minister Anthony Albanese on Thursday, one senior economist has called for a radical government change. Westpac chief economist Dr Luci Ellis says the time has come for income tax brackets to be adjusted annually.

That would counter bracket creep, a long-time scourge for personal income earners but an automatic annual boon for government coffers. Boosting the government’s bank balance isn’t a bad idea in theory, but it comes at the expense of lower income earners.

An independent analysis indicates that’s exactly what happens with bracket creep. Parliamentary Budget Office (PBO) figures show median income earners will pay an extra $5000 tax in the next three years. The entire amount of the increase is attributable to bracket creep.

The average Australian aged 15 and over paid a record $15,344 in income tax in 2023. The net average tax rate was 23 per cent in 2022, compared with an OECD average of 24.6 per cent. In other words, in Australia the take-home pay of an average single worker, after tax and benefits, was 77 per cent of his/her gross wage, compared with the OECD average of 75.4 per cent.

The Albanese government resisted calls to completely abandon the stage three tax cuts, citing them as offsetting bracket creep. Yet the data shows that for most Australians, bracket creep remain an issue.

What is bracket creep?

Bracket creep occurs when inflation increases wages to the point where an income earner lands in a higher tax bracket. If tax brackets are not regularly adjusted in line with inflation, the earner effectively ends up with a drop in real income.

Australia is among a cohort of 21 OECD countries that do not index their tax brackets for inflation. Seventeen OECD countries automatically adjust their brackets to compensate for higher prices.

Some analysts say governments are happy to allow bracket creep so they can deliver a ‘present’ to taxpayers via the budget. Tony Greco, the Institute of Public Accountants’ general manager for technical policy, is one such analyst.

“Bracket creep is real,” he says. “No treasurer wants to give it up as it means they cannot play Father Christmas at budget time.”

HSBC chief economist Paul Bloxham said bracket creep was an automatic stabiliser that helped take money out of the economy when it was running too hot.

But the tax system’s reliance on income taxes was problematic over the medium term, he told the AFR.

“One of the big inefficiencies in the tax system in Australia is that it’s got such a high reliance on personal income and corporate taxes, and not enough reliance on taxes that are more efficient, like the GST.”

He said that a contributor to the recent spike in income taxes was the end of the $1500 low and middle-income tax offset, which had caused tax returns to shrink in the 2022-2023 financial year.

Is there a fairer way to tax?

Yes, says Dr Ellis, and her proposal of an annual tax bracket adjustment in line with inflation would be effective. But the incumbent government has given no indication it is considering such a change.

Analysis done by University of Sydney economist Jim Stanford shows that Australia’s tax structure is poor at managing inequality. In terms of tax as an inequality correction mechanism, Australia ranks the eighth-worst of 37 measured OECD nations, he says.

Do you believe bracket creep should be addressed annually? What do you think about the stage three tax cuts? Let us know via the comments section below.

Also read: More wealthy Aussies reaping benefits of super tax concessions

Written by Andrew Gigacz

Andrew has developed knowledge of the retirement landscape, including retirement income and government entitlements, as well as issues affecting older Australians moving into or living in retirement. He's an accomplished writer with a passion for health and human stories.

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