A new study has indicated that Australia’s tax system for corporations has significant flaws and cannot sustain itself, and is calling for the federal government to adopt changes urgently.
Furthermore, researchers from the ANU also found that the system had five additional systematic issues, such as a high corporate tax rate and a gap between the corporate tax rates and personal income tax rates.
The distortions caused by those problems not only compromise the tax revenue base and the efficiency and fairness of the tax system but also discourage productivity and economic growth.
Professor Robert Breunig, the study’s lead author, said that the federal government could fix the system’s flaws by putting an “allowance for corporate equity” in place.
This would come in the form of an additional tax deduction that is available to companies when they increase their equity base through investment.
At present, unlike debt expenses (interest payments), the cost of investment is not recognised as a legitimate business expense under the country’s corporate tax system and thus is not deductible.
Therefore, Australian companies are currently better off borrowing money than investing in equity because they can reduce their taxable incomes with the deduction from the interest on their borrowing.
To give an illustration, the study said that if the new allowance was linked to the current government bond rate, for every $1 million (US$740,000) investment in equity, Australian companies could receive a $21,000 (US$15,500) deduction to offset their tax bills.
In other words, the deduction from the allowance will provide “a tax-free area” for corporate profits.
“Not only will an allowance for corporate equity raise investment levels in Australia, including new money from overseas, it will also lower Australian companies’ exposure to debt,” Breunig said.
“The (allowance) deduction will encourage companies to invest, will allow companies to earn more profit before they begin paying tax, and will make them more financially secure by removing the current system’s bias towards debt.”
The research also noted that other countries had implemented such an allowance, resulting in fewer debts for corporations and rises in investments.
Additionally, Breunig said that with the implementation of the allowance, Australia would enjoy a higher economic growth and employment rate while reducing the severity of the problems existing in the current corporate tax system.
“An allowance for corporate equity is also a better solution than cutting the corporate tax rate,” he said.
“While this could stimulate investment, a cut would also generate undesirable outcomes including handouts to foreign investors and undermining the personal income tax system.”