Sam Rubin
Technical

Henry Tax recommendation to marginal tax rates – what could it mean?

By Sam Rubin

The long waited Henry Tax Review was provided to the Government in December 2009 but was kept out of the public arena until the Government released the report on 30 April 2010.

The overall objective of the Henry Report is to strengthen growth to maximise Australia's wealth creation potential. The review was charged with completing a 'root and branch' approach whilst providing a 'blue print' for the Australian tax system to:

  • respond to the current deficiencies;
  • take into consideration our ageing population and environmental pressures; and
  • address our lack of national savings over the next ten to 15 years.

Even though Australia survived the Global Financial Crisis without descending into a recession, we are faced with the challenges of:

  • shifting world economic activity;
  • a changing labour market;
  • the rise of Asia; and
  • ever increasing standard of living expectations.

Consequently, the Henry Tax Review contained 138 comprehensive recommendations covering personal income tax, superannuation, family assistance payments, small business and retirement incomes. For a copy of the full report please click here.

Even though the report contained a large number of recommendations, the Government has initially responded with some taxation recommendations as outlined below:

  • A reduction in company tax from 30 to 29 per cent by 2013.
  • Small businesses to benefit from company tax being cut to 29 per cent from 2012 along with other write-off concessions. This includes an increase to $5000 of the immediate write-off threshold (up from $1000).
  • Introduction of a 40 per cent Resources Super Profits Tax from July 2012, now replaced by the new profits based minerals resource rent tax (MRRT) of 30 per cent.
  • An infrastructure fund to be paid to the states each year to start at $700 million in 2012.

One of the more interesting recommendations from Henry has been the recommendation of changes to the individual marginal tax rates (MTR) and the abolishment of all tax offsets which has had minimal media coverage.

The Henry report has recommended the following changes to individual MTR as shown in table 1:

Table 1 - Recommended tax thresholds

Income range ($)

Tax rate%

Tax payable

0 – 25,000

0

Nil

25,001 – 180,000

35

Nil + 35% of excess over $25,000

180,001 +

45

$54,250 + 45% of excess over $180,000

The chart below from the Henry Tax Report outlines the recommended changes and the potential effect for income tax paying Australians against current average tax rates

Source: Treasury estimates.

We have compared the recommendation to the current marginal tax rates within table 2, where you will see that an average Australian income earner on $58,000 pa would be paying more in income tax.

Table 2 – Direct comparison and impacts to taxpayers

Taxable income

Henry Tax Review

Tax withheld (2010-11)

Difference

$25,000

$0

$1,350

$1,350

$50,000

$8,750

$8,550

-$200

$58,000

$11,550

$10,950

-$600

$80,000

$19,250

$17,550

-$1,700

$125,000

$35,000

$34,200

-$800

$150,000

$43,750

$43,450

-$300

$180,000

$54,250

$54,550

$300

$200,000

$61,250

$63,550

$2,300

Financial planning strategy opportunities

There are a number of tax minimisation strategies that will impact these recommendations. We have outlined a few strategies below:

  • The salary sacrifice to superannuation strategy to maximise a client's after tax investment will be to reduce taxable income down to $25,000 whilst keeping within the concessional caps as opposed to the current strategy of salary sacrificing super down to $30,000 to maximise the low income tax offset (given plan to abolish).
  • Investing via a corporate entity will become more attractive because of the future reduction to the corporate tax rate from 30 to 29 per cent announced in this year's Federal Budget compared to a 35 per cent marginal rate (assuming higher tax-free threshold already utilised).
  • Investing via family trusts with non-working beneficiaries available to distribute income eg non-working spouse or adult children still studying (assuming minors will still be subject to penalty tax rate).
  • Salary packaging concessional and/or full fringe benefit tax benefits may become more attractive.

Case study

John and Mary are aged 52 and 50 respectively. They would both like to retire in eight years and require sufficient accumulated wealth to meet their goal. They have two children aged 18 and 16 and both plan to complete university education. John and Mary both work and earn annual salaries of $120,000 and $55,000 respectively. John's superannuation balance is $350,000 and Mary's is $75,000. John's mother has recently passed away and has left him $300,000. They have no debts.

What financial planning strategies would you recommend John and Mary under the current taxation law and if the Government implemented Henry's taxation plan?

Financial planning strategy

Current tax law

Henry Tax Proposal

Salary sacrifice to super

Depending on cash flow requirement, you could utilise the full concessional cap for John and reduce Mary’s salary to $30,000.

Utilise John’s $50,000 concessional cap but salary sacrifice Mary’s to $25,000.

Contribute $300,000 surplus to super

Utilise the $300,000 and contribute to Mary’s super to provide balance of super.

Invest $300,000 via a family trust

Could contribute to each child up to their tax-free threshold. Adult child will be entitled to $16,000 (for 2010/11 year including low income tax offset of $1,500) whereas the minor will be subject to $3,335.

Tax-free income threshold for adult child will be $9,000 more each year (ie $25,000 - $16,000). 

If no changes to minor’s income but abolish tax offsets, minor’s income will be $416.

In 2 years, the annual tax benefit will increase to $18,000 (ie $9,000 x 2).

Invest surplus funds via private company or insurance bond – IOOF WealthBuilder

Announced reduction in company and bond rates to 29% will make it more attractive as an investment vehicle for individuals like Mary that are in the 30% tax bracket.

Assume the kids will be working, a saving of 1% tax (ie 30% less 29%) will be realised.

Assume kids will be working, a tax saving under this investment will be 6% pa (ie 35% flat tax rate - 29% less bond tax rate). 

Conclusion

As the average Australian would be worse off under these proposed changes to the MTR, it will be interesting to see if this would ever become law. Having said that, if it does get implemented, we should see the real value of full ongoing financial planning advice.