Business tax breaks hurt local investors
Ordinary investors, including millions of super fund members, stand to benefit if the government heeds opinion polls revealing that the general public overwhelmingly opposes company income tax reductions instead of personal income tax cuts.
As well as recognising the direct benefit to individuals of personal income tax cuts, many understand that the main beneficiaries of lower company tax rates would be foreign investors.
The imputation credit system introduced in 1987 refunds to resident shareholders all company tax already paid by means of personal income tax credits when they receive dividends.
So, there's no company tax levied on resident investors receiving fully franked dividends. Reducing the company tax rate will increase the income tax payable by resident investors. While not presented by proponents of lower company tax rates in this light, the bulk of company tax levied on Australian resident investors is refunded as personal tax credits. For any significant benefit to accrue to the Australian economy, company tax rate reductions would have to increase overall tax collected from non-resident investors.
This additional tax could accrue in either of two ways: first, via more direct investment in Australia by overseas investors, increasing the overall tax take; second, a lower company tax rate would encourage non-residents to reduce their highly profitable efforts to avoid paying company tax by transfer pricing, royalty payments or high levels of gearing.
However, it's likely that overseas investors will continue to pursue company tax avoidance strategies even if the tax rate is reduced, say from 30 to 25 per cent, when they pay little or no withholding tax on interest payments and only 15 per cent tax on royalty and similar expenses set usually by head office.
In its latest budget, the British government reduced company tax from 20 to 17 per cent in 2020 but at the same time is implementing anti-avoidance measures to raise the tax payable by non-residents on intercompany transactions. While the UK tax rate may appear low compared with our tax rate, domestic investors are much more heavily taxed on their dividends than Australian investors.
In Britain, a lower company tax rate benefits both resident and non-resident investors.
The push to lower company tax rates here completely ignores the fact that this involves higher tax payable by resident taxpayers and lower tax collections from non-residents. There are no indications so far that our government plans to follow the UK and seek more revenue from non-residents related party transactions.
Investors need to be alert to the potential effect on their portfolios if the May budget contains company tax cuts. Given our continuing tight budgetary situation, lower company tax rates will ultimately involve higher tax bills on investors and other tax-payers.