Eric Crampton: Tax system is heavily reliant on high earners

Eric Crampton.
Cameron Burnell/Fairfax NZ

Eric Crampton.

OPINION: A good mythbusting takes on the things we know that aren't so. There's plenty of popular misperception out there in need of it.

But it is no myth that at least 40 per cent of households pay no net taxes – despite Keith Ng's Four tax myths that might pop up this year.

Ng argued that the figure is inaccurate because it ignores GST in its tax measure and because it ignores services like education and healthcare in its measure of benefits. He claimed the net tax measure is a "political tool" produced by Treasury but that it has only ever been released by the minister of finance's office.

And he argued that the figure has mutated into "wildly inaccurate" claims about how much the tax system relies on a small number of taxpayers.

But the mythbusting fails.

Properly accounting for the things Ng points to, like GST, education and healthcare, shows that about 60 per cent of households receive more in benefits and services than they contribute in taxes – and that the system is heavily reliant on high earners.

Work published in Policy Quarterly in 2012 showed that households in the top 10 per cent contributed about $50,000 more in taxes than they received in services.

Only households in the top 30 per cent paid appreciably more in tax than they received in services. Households around the median received slightly more in services and transfers than they paid in taxes. Meanwhile, households in the bottom 40 per cent received at least $20,000 more in services and benefits than they contributed in taxes.

So the net tax figure that Ng condemned is wrong not because it overestimates how heavily the tax system relies on top earners, but because it underestimates it!

The 2012 evaluation is the latest available but does not include the 2010 tax changes that increased GST while cutting income taxes. That tax switch compensated low-income households for the GST increase, but also included a bigger cut to top income tax rates.

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Did that make the tax and transfer system substantially less progressive? Let's again turn to the data.

The Ministry of Social Development's Bryan Perry compiles the country's most comprehensive survey of household income statistics: an essential source for any data analyst.

Figure B.6 of the report also includes the 'net tax' figure that Ng blames on Treasury and the minister of finance's office.

Perry's 2016 report shows that the tax and transfer system did just as much to reduce household income inequality in 2013, after the tax change, as it did in 2004. In both years, government transfers reduced the household income Gini coefficient, one measure of inequality, by 21 per cent – despite 2010's income tax cuts for high earners.

And further work by Victoria University's John Creedy and Treasury's Jesse Eedrah, published last year, showed 2010 tax changes had very little effect on after tax-and-transfer inequality.

That at least 40 per cent of households pay no net taxes, accounting fairly for GST, education and healthcare, then seems a lot more like a safe bet than like a myth.

On one big picture question, Ng is right. A progressive tax system always means that higher-income households will cover a large proportion of the costs of government programmes, and the fairness of the system is not immediately obvious from any tallying of who pays for what and who receives which services.

Some of the households that pay far less in tax than they receive in benefits still only get to keep 10 cents for every additional dollar earned, because of how income-linked benefits are cut when households earn more. That burden matters.

But election-year debates often focus on whether higher-income households are paying enough, and whether government transfers enough to those on lower incomes. In an election year in which too much of the public shares the myth that income inequality has been increasing, these debates should be grounded in accurate assessments of how much the state already relies on those on the highest incomes.

We need better mythbusting.

Dr Eric Crampton is chief economist with The New Zealand Initiative in Wellington.

 - The Dominion Post

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