Economic weather report: 5 reasons why John Key's tax plan won't deliver a 'step change'

Watch on our video page here. Watch on YouTube here. Bernard Hickey delivers an Economic Weather Report in association with BNZ that details 5 reasons why National Prime Minister John Key's tax reform plans announced yesterday won't deliver the 'step change' in New Zealand's economic performance he wants. Key talked about the need to encourage investment in productive assets and pull property into the tax net. Instead, Key's decision to tax property only lightly and exchange a higher GST for lower personal income taxes is more of a giant 'side step' of a tough decision. 1. The NZ$600 billion hole in the tax system (total value of residential property) has not been patched up or even vaguely squeezed. John Key commented after his speech that his unspecified references to measures to tax property investors referred to the removal of depreciation on buildings as a taxable expense. The Tax Working Group estimated that could bring in NZ$1.3 billion if it was applied to all buildings.

KPMG has since pointed out that 70% of that cost would be borne by commercial property owners, many of who are owner-operated businesses. That means residential property investors face a tax hit of NZ$390 million on assets worth NZ$213 billion (0.18%). Most tax experts believe that NZ$1.3 billion is a maximum figure and many property investors will be able to prove actual depreciation and avoid being hit. 2. The GST hike fixes nothing. The proposed hike in the GST rate to 15% from 12.5% would nominally raise over NZ$2 billion, but the Tax Working Group pointed out that compensation to poorer taxpayers most affected by the hike would mean the net benefits would be closer to NZ$200 million. John Key suggested after his speech that the compensation would come in the form of reductions in the lower 12.5% and 21% income tax rates, along with increases in benefits. That would be better than Working for Family-style tax rebates suggested by the Tax Working Group. But it still raises the question: why bother employing a whole bunch of bureaucrats to administer the compensation when the net benefit is so small? It leaves little fiscal headroom for a significant reduction of the top income tax rate of 38% or the corporate tax rate at 30%, which may be necessary if Australia cuts its rate from 30% to 27% or even 25%. It will be very difficult to equalise the top personal tax rate, the family trust rate and the corporate tax rate with such a small increase in new revenue. 3. There isn't enough money to make a difference. Without a land tax or a capital gains tax the net revenue raised from denying depreciation on buildings, changing thin capitalisation rules and removing depreciation loading on plant and equipment would raise around NZ$2 billion. John Key said after the speech the 'across the board' income tax cuts would cost NZ$3 billion to NZ$4 billion. Where is the money coming from? He will certainly find it immensely difficult to pay for any corporate tax cut necessary to follow Australia. 4. The GST hike could prove politically very difficult. John Key pledged before the election that he would not need to raise GST if he was a half decent manager of the economy. See the link here. This doesn't look good. It also reduces the likelihood of any sort of politically sustainable 'grand coalition' with Labour to shepherd a wide-ranging tax reform programme through Parliament. 5. The new tax system would not be broad enough. A land tax or a capital gains tax would have 'captured' that part of the economy that is effectively untaxed at the moment. A land tax that included a tax-free threshold of say NZ$50,000 and the ability to defer payment until the property is sold would have hurdled the political problems of grumpy grannies in Remuera and shirty farmers. Instead, the tax system will be focused on extracting more income from those PAYE taxpayers without families who are unable, unwilling or ignorant enough not to have bought rental investment properties. It will have failed the Tax Working Group's drive for a fairer, broader and flatter tax system to cope with an impending increase in government spending needed to pay the health care and pension costs of baby boomers.