Despite what we’re led to believe, tax cuts are no free lunch (2024)

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Opinion

Ross Gittins

Isn’t it wonderful that the Albanese government – like all its predecessors – has been willing to spend so many of our taxpayers’ dollars on advertising intended to ensure no adult in the land hasn’t been reminded, repeatedly, about the income tax cuts that took effect on Monday, first day of the new financial year?

But believe me, if you rely only on advertising to tell you what the government’s up to with the taxes you pay – or anything else, for that matter – you won’t be terribly well-informed. The sad truth is there’s a lot of illusion in the impressions the pollies want to leave us with when it comes to tax and tax cuts.

Despite what we’re led to believe, tax cuts are no free lunch (1)

For instance, none of those ads mentioned the eternal truth that, when we have income tax scales that aren’t indexed annually to take account of inflation, the taxman gradually claws back any and every tax cut the pollies deign to give us. And this slow clawback process – known somewhat misleadingly as “bracket creep” – begins on the same day the tax cuts begin.

So readers of this august organ are indebted to my eagle-eyed colleague Shane Wright, who asked economists at the Australian National University to estimate how long it would take these tax cuts to be fully clawed back, using plausible assumptions about future increases in prices and wages.

A tax cut reduces the average rate of income tax we pay on the whole of our taxable income. A middle-income earner’s average tax rate will fall from 16.9 cents in every dollar to 15.5¢. The economists calculate it will take only two or three years for inflation to have lifted most taxpayers’ average tax rate back up to where it was last Sunday.

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So that’s the terrible truth the pollies rarely mention. But don’t let that make you too cynical about the tax-cut game. Just because this week’s tax cut will have evaporated in a few years’ time doesn’t mean it’s worthless today. Actually, as tax cuts go, this is quite a big one. Someone earning $50,000 a year is getting a cut worth almost $18 a week. At $100,000 a year, it’s worth almost $42 a week. And on $190,000 and above, it’s worth $72 a week.

Is that enough to completely fix your cost-of-living problem? No, of course not. But if you think it’s hardly worth having, please feel free to send your saving my way. I’m not too proud to take another $18 no one wants.

Remember, too, that had Anthony Albanese not broken his promise in January and fiddled with the stage 3 tax cuts he inherited from Scott Morrison, most people’s saving would have been a lot smaller, even non-existent.

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Everyone earning less than $150,000 a year got more, while those of us struggling to make ends meet on incomes above that got a lot less. In my case, about half what I’d been led to expect.

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But the politicians’ illusions are built on our self-delusions. Our biggest delusion is that government works quite differently to normal commercial life. We know that when you walk into a shop you have to pay for anything you want. If you want the better model, you pay more.

Somehow, however, we delude ourselves that governments work completely differently. That the cost of the services we demand from the government need to bear no relationship to the tax we have to pay.

The politicians actively encourage this delusion in every election campaign by promising us this or that new or better service without any mention that we might have to pay more tax to cover the cost of the improvement.

Any party foolish enough to mention higher taxes gets monstered – first by the other side and then by the voters. No one wants to admit that what we get can never be too far away from what we pay.

For the near-decade of the Liberals’ time in government, they drew many votes by branding Labor as “the party of tax and spend” while claiming they could deliver us the services we want while keeping taxes low.

This was always a delusion. So they squared the circle by using various tricks they hoped we wouldn’t notice, such as underspending on aged care, allowing waiting lists to build up and secretly ending the low- and middle-income tax offset, thus giving many people an invisible tax increase of up to $1500 a year.

But the main trick they relied on was the pollies’ old favourite: bracket creep.

Get it? When we delude ourselves that we can have the free lunch of new and better services without having to pay more tax, they resort to the illusion that income tax isn’t increasing by letting inflation imperceptibly increase our average tax rate.

This is the tax-cut game. As an economist would say, our “revealed preference” is for no explicit tax increases, but for tax to be increased in ways we don’t really notice and for tax cuts to be only temporary.

Ross Gittins is the economics editor.

Ross Gittins unpacks the economy in an exclusive subscriber-only newsletter. Sign up to receive it every Tuesday evening.

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Despite what we’re led to believe, tax cuts are no free lunch (2024)

FAQs

Why are people against tax cuts? ›

Those who oppose cuts say they only help the rich and reduce the government services on which lower-income individuals rely. Regardless of opinion, tax cuts reduce government revenues and lead to budget deficits or growth in government debt.

Do tax cuts stimulate or restrict spending? Why? ›

Tax cuts increase household demand by increasing workers' take-home pay. Some tax cuts can boost business demand by reducing the cost of capital, thereby making investment spending more attractive. Business tax cuts also increase firms' after-tax cash flow, which can be used to pay dividends and expand activity.

Why is lowering taxes good? ›

Lower individual tax rates have increased disposable income throughout the economy, increasing consumer spending on goods and services, including retail purchases. Increased consumer spending has driven demand, leading to higher sales for retailers across the country.

How does increase in taxes affect the economy? ›

How do taxes affect the economy in the long run? Primarily through the supply side. High marginal tax rates can discourage work, saving, investment, and innovation, while specific tax preferences can affect the allocation of economic resources. But tax cuts can also slow long-run economic growth by increasing deficits.

Do the rich get tax cuts? ›

In 2018, the first year the law was in effect, the top 5 percent of households received 40 percent of the individual tax cuts, and more than half of the law's other tax cuts, which were primarily corporate tax cuts. (See Figure 3.)

Does the middle class pay more taxes than the rich? ›

The top 10%, with incomes of at least $169,800, pay about three-quarters of the nation's tax bill, the analysis found. Although most Americans believe the middle class bears the heaviest tax burden, it's actually the top 1% who pay the highest federal tax rate, at 25.9%, the Tax Foundation analysis found.

Are taxes a good or bad thing? ›

Taxes generally have a negative effect on economic growth. Theoretically, they act as a disincentive on whatever is taxed – corporate taxes reduce business investment; and indirect taxes like value added tax (VAT) reduce consumption.

What is a good thing about high taxes? ›

High-income tax increases can generate substantial revenues for investments in people and communities that provide economic and social benefits over the long term.

Are higher taxes or lower taxes better for society? ›

Finally, the argument that tax cuts grow the economy, while tax increases shrink it, is incomplete and incorrect. Economists generally agree that true tax reform, where marginal tax rates are reduced while the tax base is broadened and the revenue collected stays the same, is good for economic growth.

What is it called when there is too much money in the economy? ›

If the money supply grows faster than overall economic growth, inflation will occur. If the difference between the money supply growth and the growth of the economy becomes too wide, hyperinflation occurs.

Where does tax money go? ›

California's state budget supports an array of programs and services that touch the lives of all Californians – from schools and colleges to health care and public safety to highways and environmental protection.

What is the largest source of federal revenue? ›

Sources of Federal Revenues

Individual income taxes are the largest single source of federal revenues, constituting nearly one-half of all receipts.

Why do conservatives want to cut taxes? ›

Tax cuts are just one step toward the ideal of replacing our outdated and complex Federal Tax Code with a modern and simple tax. Through comprehensive tax reform, either a flat tax or a single-rate national sales tax (like the Fair Tax) would spur economic growth, be fairer, and would lower compliance costs.

Why is everyone owing taxes this year in 2024? ›

Under-withholding from Your Paycheck

Under-withholding is the #1 reason individuals owe taxes. This occurs when not enough tax is taken out of your paychecks throughout the year.

Why are taxes controversial? ›

Common Causes of Tax Controversies:

Interpretation of Tax Laws: The complexity of tax laws can result in different interpretations, leading to disagreements between taxpayers and tax authorities. Ambiguous regulations or changes in tax laws can contribute to these disputes.

Why are people getting less in taxes? ›

Changes to your income last year may play a role in receiving a smaller refund this tax season. Here are some examples: Salary increase: If you got a salary increase last year but neglected to increase your tax withholding, this could lead to a smaller tax refund when you file.

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