On Tuesday 9th May 2017, Treasurer Scott Morrison will present the Australian Commonwealth Budget for 2017/18. It is likely to be a controversial budget for it will be delivered in a climate of heightened concern for residential property prices and housing affordability. Anticipation has been stimulated by the plethora of policy suggestions and thought bubbles that have been leaked by the Treasury department. These leaks are designed to subtly measure public support or angst before Budget night. This year is therefore one where the Government and the Treasurer have a range of serious problems to address that extend far beyond the normal requirement to show a path to a balanced budget in a 4-year cycle.
Below we investigate some of the many problems confronting the Government, with the benefit of a recent release by the Australian Taxation Office (ATO). This release gives us a factual insight into tax payments, negative gearing and superannuation from the Australian household tax returns of 2014/15. The ATO tables presented below are full of interesting facts that are commonly glossed over by the media. In them are figures which contest many mainstream beliefs about the financial health and fairness of income distribution across the Australian economy.

Good and Bad Debt

However, before doing so, we must comment on the revelation by the Treasurer that this year’s budget will make a distinction between “good” and “bad” Commonwealth debt. This decision is long overdue and it is being adopted some 20 odd years after the Howard Government’s policy to sell public assets to reduce debt. These public operating businesses had been established, funded and supported by either tax revenue and/or Commonwealth debt. In our view, “good” debt supports public services (health care, defence), enterprises (the NBN or the now privatised TLS, CBA, QAN or CSL) or assets (ports, railways, roads and airports). Further, good debt may also be regarded as “core” debt because the liability is matched by an asset with intrinsic value that is effectively owned by Australian households in the Commonwealth balance sheet.
Good debt – and therefore good assets – improves or sustains the quality of life, provides essential services and enhances productivity. Often such good debt entails that investment is undertaken at lower rates of return than required by private capital. Even so, such debt normally would generate short-term returns which cover the cost of Commonwealth debt. Further, it should offer the opportunity for the privatisation of non-essential enterprises by public floatation on the ASX at a future date. This latter feature needs to be considered in the context of the public good. Essential services and monopoly powers may need to be, and often should be, kept in public ownership. For instance, we would argue that the privatisation of Australian airports and some essential highways (converted into tollways) has not necessarily served the public well. The desire to repay all Commonwealth debt during the Howard years was not part of a grand strategy to replenish Commonwealth assets or services. Neither was it part of a vision to meet the growth needs of the Australian economy, as today much of Australia’s infrastructure is woefully inadequate. A cynic might claim that the focus of selling strategic public assets by PM Howard was to cover the unfunded Commonwealth public servant pension entitlements.
It will be interesting to see how much of the Commonwealth’s circa $400 billion of debt is  regarded as “good”. The lack of significant Commonwealth investment outside the NBN, and the creation of a dual carriage-way from Brisbane to Sydney, suggests that the overwhelming part of Commonwealth debt may actually be “bad”. The ten years of budget deficits and associated interest payments (mainly paid to foreign owners of government bonds) has resulted in rapidly compounding debt. Throughout this period, the growth in net debt (budget deficits and capital investment) has exceeded the growth in Australia’s GDP. Commonwealth debt has therefore lifted from practically zero in 2006 to its current level of 30% of GDP. This may well be regarded as “bad” debt because the asset side of the Commonwealth balance sheet has barely grown outside of the Future Fund.
There is a logical way forward with “good” and “bad” debt. If good debt has a purpose, it is for infrastructure development. Therefore it should be funded by the long-term savings of Australian superannuation. With over $2.2 trillion in assets and swelling growth in cash – the Future Fund recently disclosed a 20% asset allocation to cash – there is a clear opportunity to launch an infrastructure bond.
Surely it is time in this era of “awakening” of the classification of debt to proclaim that bad debt includes debt issued to foreigners undertaking QE, and the manipulation of interest rates or currencies. Australia’s net foreign indebtedness is over $1 trillion dollars and we remain overly reliant upon foreigner creditors when we clearly need not be.
The Australian Government should launch an infrastructure bond that can only be owned by Australian superannuation funds. An elevated and floating yield of at least 1% above Commonwealth bonds could be offered on the presumption that interest payments remain within the Australian economy, thereby supporting growth and ultimately taxation revenue. The recycling of interest payments to service pensions and help accumulation superannuation cash flows is both sensible and logical. If these bonds fund essential infrastructure and services development – and meet the definition of “good” debt – then the Australian economy is a winner. Australian SMSF trustees appear ready to allocate billions to such a bond and we wonder why the Government does not meet the demand.

The ATO taxation tables disclose some interesting facts

In late March, the ATO produced the 2014/15 taxation return analysis. In it are tables that present a snapshot of the Australian household sector from a range of vantage points – taxation returns, salaries, deductions, investments, gearing and superannuation assets.
The first table discloses the makeup of taxable income for households or individuals. It is noteworthy that 10.47 million tax returns were lodged (out of 24 million Australians). It is a growing feature of the Australian economy that the ratio of taxpayers to non-taxpayers continues to fall. The burden placed on those that pay tax is likely to continue to grow in coming years. This burden is certainly not helped by a minority of taxpayers accessing tax breaks. It is this observation that is totally missed in the current debate over negative gearing.
Taxable income for households or individuals, 2013-14 and '14-15
Figure 1. Taxable income for households or individuals, 2013-14 and ’14-15
Source. ATO
A glaring point from the above table is the extremely low level of average interest earned by taxpayers. Outside of super, the average Australian saves little – at least in interest bearing deposits. While 30% of taxpayers don’t earn interest, the average interest earned was $1,622 in 2014/15. This suggests that the average interest earning deposit was $50,000. The median interest figure of $138 suggests little in savings for millions of households. Given that current interest rates are so low and barely cover inflation, it is hard to justify the taxing of interest on bank savings. It is time for the Government to offer a tax break for interest earned: perhaps a $3,000 per annum tax free threshold.
The table also highlights the low level of both average and median salaries, which appear well below what is claimed by the government. Average salaries in Sydney need to be about 30% higher than the national average as average residential housing now exceeds $1 million.
Outside superannuation, it seems that only about 28% of taxpayers invest in shares and therefore disclose dividend franking credits. The numbers of investors that report rental income is about 20% of taxpayers and as a collective they reported “negative” rental income of $3.5 billion in 2014/15. The impact of negative gearing is clear, but the covert impact is that those that don’t negatively gear (the majority) pay more tax to compensate for a minority that do. That is hardly fair.
The deductions for investment purposes (which include negative gearing) can be partly drawn from the next table. Interest deductions and “other” deductions are claimed by about 24% of taxpayers.
Individuals - selected deductions, 2013-14 to 2014-15 income years
Figure 2. Individuals – selected deductions, 2013-14 to 2014-15 income years
Source. ATO
The next table highlights the imposition of the Medicare levy and the “budget repair levy”. It is interesting to note that over one million salary earners do not pay the Medicare levy. This is because their salaries are too low or their taxable income has been reduced by deductions. However, 164,000 taxpayers paid the Medicare surcharge (but this was strangely 12,000 taxpayers less than the year before).
The budget repair levy is imposed on 4% of taxpayers (398,000). Collectively they paid over $1 billion towards reducing the annual $30 billion fiscal deficit. These are the highest paid salary earners in Australia.
At the other end of the salary scale, we note that 6.6 million individuals claimed the low income tax offset. Seemingly over 60% of wage earners are in the lowest income tax bracket. Therefore it could hardly be argued that average Australian workers are benefiting from booming salary payments.
Inidividuals - selected yax offsets and levies, 2013-14 to 2014-15 income years
Figure 3. Inidividuals – selected yax offsets and levies, 2013-14 to 2014-15 income years
Source. ATO
The next table gets to the nub of investment property investment and the extent of negative gearing. Over $41 billion of growing rental proceeds does not generate taxation revenue for the government. Interest deductions of $22 billion were almost matched by an extraordinary $19 billion of “other rental” deductions. The end result was that investors lost $4 billion in income.
Individuals - rental income and deductions, 2010-11 to 2014-15 income years
Figure 4. Individuals – rental income and deductions, 2010-11 to 2014-15 income years
Source. ATO
These statistics include non-residential investment property, where healthy depreciation expenses would be claimed. However, in the main, non-residential investment is positively geared so that income exceeds interest on the acquisition debt. Therefore, the negatively geared residential property sector is massive, and the negative net residential rental income is far greater than the $4 billion disclosed above.
The next table discloses that 90% of property investors have one or two properties. Thus, if negative gearing tax benefits were limited to, say, just 2 properties, then only 200,000 investors would be affected or less than 2% of taxpayers. Remarkably, it seems that the percentage of Federal politicians with more than 2 investment properties exceeds the national average. Obviously some politicians will be grossly conflicted in their views on negative gearing. Arguably such conflicts of interest should be disclosed when a politician rises in the parliament to debate and vote on negative gearing. Such a requirement is no different to those in normal commercial situations and particularly in the workings of public company boards.
Figure 5. Individuals - interest in a rental property, 2012-13 to 2014-15 income years
Figure 5. Individuals – interest in a rental property, 2012-13 to 2014-15 income years
Source. ATO
Given there are 10.5 million ordinary taxpayers, it is sobering to see that over 4 million people earn less than $37,000 per annum – a level that is barely above a basic pension and that suggests financial hardship. Low-income earners have a higher tax-free threshold of approximately $18,000 per annum with most of their tax paid by way of GST (which is not captured above).
The contribution to total tax payments by income earners above $80,000 per annum appears to be somewhat unfair (see the table below) – 20% of taxpayers paying 70% of income tax. However, the proper contribution to taxation collections needs to consider GST, which is proportionately paid more by low-income earners.
 
Number of individuals and net tax, by tax bracket, 2014-15 income year
Figure 6. Number of individuals and net tax, by tax bracket, 2014-15 income year
Source. ATO
The final chart discloses median super balances by age and gender. While the average super balance would be higher than the median, we suspect that the conclusion would be the same. On balance, most people are woefully under-funded for a retirement that does not require a part pension. Further, based on the balances for both genders in the age bracket from 45 to 60, the underfunding will endure for many more years.
Median super balance, by age and gender, 2014-15 financial year
Figure 7. Median super balance, by age and gender, 2014-15 financial year
Source. ATO
Australia’s superannuation system has $2.2 trillion of assets covering over 14 million beneficiaries. However, the SMSF sector has $600 billion of assets supporting about 1 million beneficiaries. Therefore, about 30% of super assets are held by just 6% of beneficiaries. These people can become fully funded by the Australian superannuation system, but unfortunately the great majority are not and never will be. Women in particular present as horrendously under-funded, and if they are single are likely doomed to a distressing retirement (unless they receive an inheritance or have a significant asset such as an unencumbered residence).
Thus, the superannuation system urgently needs a thorough review to transform it into a system that works for the majority. We believe the issues are similar to those surrounding negative gearing – where a majority of taxpayers are disadvantaged and forced to pay higher taxes because of the claims of a minority.
There is clearly a lot wrong with Australia’s distribution of income, wealth, taxation and superannuation. However, it seems that the silent majority is overwhelmed by a shrill and loud minority, that consistently and deliberately complicates the facts.