Executive summary

Date
  1. The Business Tax Working Group (Working Group) was established following the Tax Forum in October 2011. The terms of reference ask the Working Group to make recommendations on how the business tax system could be improved to make the most of the challenges and opportunities arising from transformations in the broader economy, including the patchwork economy, and that aim to increase productivity while delivering relief to struggling businesses.
  2. The Government asked the Working Group to prioritise consideration of a cut to the company tax rate accompanied by measures that fully offset the cost.1 The Working Group released a Discussion Paper in August 2012 that sought views from stakeholders about some specific base broadening options to offset the cost to revenue of a cut to the company tax rate.
  3. The Discussion Paper outlined the Working Group's view that a lower company tax rate would lead to greater investment in Australia, which would contribute to improved productivity and higher incomes for Australians. Australia is a relatively small, somewhat open economy that is increasingly integrated with international capital markets and reliant on highly mobile international capital to fund new investment. In this context, a lower statutory corporate tax rate would increase Australia's ability to attract foreign investment and increase the quantity of the capital stock for greater productivity. Over time, it would generally be expected that the economic benefits of greater productivity will be distributed between capital owners, labour and consumers, through higher profits and real wages and through lower prices.
  4. The Discussion Paper also outlined a set of principles for business tax reform that have guided the Working Group's thinking and which would be relevant for future consideration of business taxation reform.
  5. The Working Group's preliminary view was that a lower company tax rate funded by business tax base broadening could deliver net benefits to the economy. The Working Group's discussion paper canvassed base broadening options in the areas of interest deductibility, capital allowances and research and development expenditure, which, if adopted, could fund a company tax rate cut of two to three percentage points.
  6. Following the release of the Discussion Paper, the Working Group met with 20 stakeholder groups and received more than 80 written submissions.
  7. The Working Group also asked Treasury to undertake modelling of the potential long-run economic impacts of a lower company tax rate. The modelling, while preliminary, suggests that a one percentage point cut in the company tax rate, depending on how it was funded, could have a positive economic impact in the long run, raising GDP and real wages by around 0.2 per cent, and increasing household consumption. While modelling on the base broadening options was not completed and so could not be determinative for the Working Group's findings, the tentative and preliminary results reinforced some questions raised in consultations and submissions about whether, in theory, some combinations of base broadening and rate cutting could deliver a net economic benefit overall.
  8. The Working Group has made a number of findings but is unable to recommend a revenue neutral package to lower the company tax rate. Several factors have been important to the Working Group in reaching this conclusion.
  9. First, changes to depreciation arrangements could have a significant impact on the after-tax return on investment, particularly where there is a long lead time before income is produced (for instance, gas pipelines). Australia is currently experiencing an unprecedented level of investment, planned or underway, in the resources sector underpinned by strong demand from Asia. There are a number of significant investment decisions relating to resource projects that have recently been committed or will be considered in the near future. The sheer scale of capital investment in individual projects and the long lead times before production commences mean that changes made now to depreciation arrangements can have significant impacts on their expected returns.
  10. Second, reductions in the company tax rate during the 1980s and 1990s were paid for by making the business tax base broader. As a consequence, the Working Group has found it difficult to identify support for measures that would further broaden the business tax base. As noted in the Discussion Paper, further broadening of the business tax base would involve a reversal of measures that have recently been enacted, the removal of longstanding taxation treatments that were not changed in previous base broadening exercises, or would significantly affect small groups of taxpayers.
  11. Third, the economic benefits from a reduction in the company tax rate from the current rate are likely to be smaller than when the rate was much higher in the 1980s and 1990s, notwithstanding that capital may have become more mobile since then. The Working Group considers that a cut of two to three percentage points would be required to drive a significant investment response.
  12. 11. These factors have underpinned the lack of support in the business community for pursuing a lower rate/broader base reform of business taxation in Australia at this time. Many businesses that were particularly affected by the base broadening options asserted that they would have been worse off under the trade-offs canvassed. Further, some submissions questioned whether there would be a net benefit for the economy as a whole from a combination of some of the base broadening measures canvassed and a cut in the company tax rate of between one and three percentage points.
  13. Nevertheless, the Working Group considers that there are benefits from a lower company tax rate and therefore Australia should have an ambition to continue the trend from the late 1980s to reduce its company tax rate as economic and fiscal circumstances and other budget priorities permit. A reduced rate would result in greater foreign investment flows into Australia by increasing the after-tax return on investment. Greater investment would enhance the capital to labour ratio, a process known as 'capital deepening', which could increase the marginal product of labour, resulting not only in higher economic growth but also higher wages in the long term.
  14. This finding is consistent with the direction proposed by the Australia's Future Tax System (AFTS) Review, which recommended a tax mix switch and the introduction of improved charging arrangements for non-renewable resources as the precursor to a rate reduction.2
  15. The Working Group's terms of reference also required it to consider the merits of a business expenditure tax, including an allowance for corporate equity (ACE). In its Discussion Paper, the Working Group set out its consideration of an ACE and expressed its initial view that an ACE should not be pursued in the short to medium term but may be worthy of further consideration and public debate in the longer term. The Working Group remains of this view following public consultation.
  16. Tax reform should be seen as a continual process. The most recent conversation about tax reform in Australia began with the AFTS Review and continued at the Tax Forum last October. Following the Tax Forum, the Working Group was established to focus initially on the tax treatment of losses. The Working Group's recommendation to introduce limited loss carry-back, which has been adopted by the Government, will reduce the tax bias against riskier but worthwhile investments and support businesses adapting to changed economic conditions. This Report fulfils the second phase of the Working Group's task, which was to consider reducing the corporate tax rate further or moving to a business expenditure tax system, funded from within the business tax system.
  17. The Working Group commends
    the principles for business tax reform it has identified as a useful framework that articulates the range of relevant considerations. The Working Group also supports the continuation of a consultative approach to business tax reform.
  18. The Working Group would like to thank all of those organisations and individuals who made submissions and attended meetings during the Working Group's deliberations. The Working Group would also like to thank Alf Capito of Ernst & Young, Matt Cowgill of the Australian Council of Trade Unions, and Peter Crone of the Business Council of Australia, who assisted the Working Group. Finally, the Working Group would like to acknowledge the Treasury staff that assisted throughout this process.

1 Hon. Julia Gillard MP, Prime Minister, Closing remarks at the Prime Minister's Economic Forum, 13 June 2012.

2 AFTS Review (2009), Final Report to the Treasurer, Treasury, Canberra (recommendation 27).