Gareth Morgan

Gareth Morgan on the economy

Gareth Morgan and Susan Guthrie: Tax revamp not about pulling rich down

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A loophole in the tax system has meant that more New Zealanders' wealth is tied up in housing and less investment is available to businesses. Photo / Doug Sherring
A loophole in the tax system has meant that more New Zealanders' wealth is tied up in housing and less investment is available to businesses. Photo / Doug Sherring

Gareth Morgan and Susan Guthrie answer the critics of their ideas to transform NZ's tax and welfare system.

If website traffic is anything to go by, our previous articles on the widening income gap in New Zealand, and the type of reform needed to address it, have generated a fair bit of debate.

Some common themes have emerged amongst our critics, and we'd like to both air their concerns and address them.

CRITICISM 1:

"Dragging the rich down will hold our economy back, not make it better."

The Big Kahuna policy is not about dragging the successful down, but making sure that no activity that leads to personal success does so because it gets special tax treatment.

The policy results in a narrowing of the gap between the well-off and everyone else because it effectively taxes all income, not just that which accrues in a cash form. Current policy should do this but, as a litany of tax inquiries have pointed out, it fails - it is inequitable because it rewards people for dodging tax as much as for creating wealth. That is indefensible.

It's also important not to lose sight of the big picture - the ultimate goal of economic activity is a society we want to live in.

The current system of targeting some groups for tax-funded benefits, but not others, creates a focus for envy, resentment and prejudice that at the end of the day leads to an unpleasant, unhealthy divided society, typified by high rates of crime, violence, youth suicide and so on.

Under the unconditional basic income (the 'UBI') a common, standard payment is made to all adults so no one can stigmatise beneficiaries or claim they are getting less from the Government than anyone else.

Anything more they get depends on their own efforts (or the wealth they inherited, though that's another debate). In this regard the reform better rewards entrepreneurship and effort - meritocracy is championed.

CRITICISM 2:

"Many people will choose not to work at all if they get the UBI."

It's important to be objective about the effect of the UBI on work incentives. On what grounds can anyone claim that a significant proportion of people will choose not to work at all? You can't use current beneficiary numbers as evidence that many people won't choose paid work - many of these people cannot find full-time jobs in the current environment and face effective tax rates in excess of 70 per cent of any part-time earnings. It is populist drivel to accuse others of being layabouts, an accusation sadly all too common under our benefit regime which stigmatises beneficiaries.

Because of benefit abatement rates, the current system makes it perfectly rational for people who rely on benefits not to supplement them with paid work. You wouldn't attempt paid work if it left you worse off - why should you? With respect to unpaid work, New Zealand has one of the highest rates of unpaid work in the world - hardly indicative of a nation of shirkers.

In fact there's evidence from elsewhere that UBI-type policies have positive effects on work effort. Community-wide experiments with UBI-type policies in Canada in the 1970s showed that the main breadwinners didn't alter their hours of paid work much at all, young men stayed in school longer (that's a good thing as they acquire more skills), and mothers spent more time in "home production" after having children (also considered a good thing as this was a voluntary choice made possible by the UBI). In other words, the UBI policies were found to affect "effort" in positive ways. So much for the prejudice our current targeted regime engenders. At present the welfare policy is moving to more and more draconian measures to force people into paid work.

This is what the Welfare Working Group advocated and National has announced. But the success rate of this sort of approach is low (it tends not to lead to committed employees, or workers the employers value highly). It's little more than an impressive bit of theatre to keep taxpaying voters quiet.

The Big Kahuna proposal reinstates the incentives to accept paid work because every dollar earned pays tax at a flat rate of 30 per cent - every job, no matter how few the hours, is financially rewarding.

It is also important that there are paid jobs for people to do. We address this issue with the tax proposal. By leaving large gaps in the tax base, current policies have encouraged huge amounts of money to be invested in housing - but what paid work does this create? - the initial build, then cleaning, gardening, someone to fix the odd faulty tap. This excessive focus on housing has been at the expense of investment in real wealth creation.

Just like now, there will be adults who see no point in trying to improve their financial circumstances by taking on paid work to supplement the UBI. Making paid work worthwhile is one solution (dealt with by the flat tax rate), but education and families are where those problems lie and the solutions have to be found.

CRITICISM 3:

"It's ridiculous to charge a capital gains tax on owner-occupied housing."

We are not targeting housing for unduly harsh tax treatment, but ensuring all assets are taxed equally - this will help the economy's long-term performance. The Comprehensive Capital Tax (CCT) proposed in the Big Kahuna is not a capital gains tax, but an asset-based minimum tax.

The CCT doesn't explicitly tax the capital gains made in a year, but taxes the balance left after interest costs are deducted from a return "imputed" to the asset (the "minimum required return").

One of the reasons we propose the CCT is that if, instead of owning a valuable home, you had downsized and invested the balance in the bank, you would have paid tax on the interest your "property" in the bank earned.

By holding on to the house your wealth also rose each year as the value increased but you paid no tax on that implicit income. The result of this loophole in the tax system is that more New Zealanders' wealth was tied up in housing than it would have been, and less available to businesses.

One effect of the tax policy would be to drive farm prices down because cash income from the farm is likely to be less than the minimum required return we impose of 6 per cent - an overdue adjustment in our view. The effect on house prices is less clear - sure the tax policy would prompt new sales, but many working people receiving average and low wages would see a significant income boost from the policy, providing new demand. The UBI policy would also mean many students could study debt free, so they could enter the housing market sooner.

Gareth Morgan and Susan Guthrie are the authors of The Big Kahuna - Turning Tax and Welfare in New Zealand on its Head and economists at Gareth Morgan Investments.

www.bigkahunabook.co.nz

- NZ Herald

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