Mon Jan 29

the rejigged tax cuts help fight bracket creep and boost middle and upper-middle households

Written by Ben Phillips, Associate Professor, Centre for Social Research and Methods, Director, Centre for Economic Policy Research (CEPR), Australian National University

The winners and losers from the Albanese government’s rejig ^[1] of this year’s Stage 3 tax cuts have already been well documented.

From July 1 every taxpayer will get a tax cut. Most, the 11 million taxpayers earning up to A$146,486, will also pay less tax than they would have under the earlier version of Stage 3, some getting a tax cut twice as big ^[2].

A much smaller number, 1.8 million, will get a smaller tax cut than they would have under the original scheme, although their cuts will still be big. The highest earners will get cuts of $4,529 instead of $9,075.

But many of us live in households where income is shared and many households don’t pay tax because the people in them don’t earn enough or are on benefits.

The Australian National University’s PolicyMod ^[3] model is able to work out the impacts at the household level, including the impact on households in which members are on benefits or don’t earn enough to pay tax.

More winners than losers in every broad income group

We’ve divided Australian households into five equal-size groups ranked by income, from lowest to lower-middle to middle to upper-middle to high.

Our modelling finds that, just as is the case for individuals, many more households will be better off with the changes to Stage 3 than would have been? better off with Stage 3 as it was, although the difference isn’t as extreme.

Overall, 58% of households will be better off with the reworked Stage 3 than they would have under the original and 11% will be worse off.

Importantly, there remain 31% who will be neither better off nor worse off, because they don’t pay personal income tax.

But it is different for different types of households.

In the lowest-earning fifth of households, far more are better off (13.5%) than worse off (0.2%) with the overwhelming bulk neither better nor worse off (86.3%).

In the highest-earning fifth of households, while more than half are better off (54.4%), a very substantial proportion are worse off (42.3%).

Very few (only 3.1%) are neither better nor worse off.

But high-earning households go backwards on average

In dollar terms, the top-earning fifth of households loses money while every group gains. That’s because although there are more winners than losers among the highest-earning fifth of households, the losers lose more money.

The biggest dollar gains go to middle and upper-middle income households with middle-income households ahead, on average, by $988 per year and upper-middle income households by $1,102. The highest-income households are worse off by an average of $837 per year.

As a percentage of income, middle-income households gain the most with a 1% increase in disposable income. Lowest income households gain very little, while the highest-income households go backwards by 0.3%.

The rejig does a better job of fighting bracket creep

And we’ve found something else.

The original version of the Stage 3 tax cuts was advertised as a measure to overcome bracket creep ^[4], which is what happens when a greater proportion of taxpayers’ income gets pushed into higher tax brackets as incomes climb.

We have found it wouldn’t have done it for most of the income groups, leaving all but the highest-earning group paying more tax after the change in mid-2024 than it used to in 2018.

The rejigged version of Stage 3 should compensate for bracket creep better, leaving the top two groups paying less than they did in 2018 and compensating the bottom three better than the original Stage 3.

Not too much should be made of the increase in tax rates in the lowest income group between 2018 ad 2024 because some of it reflects stronger income growth.

We find that overall, the redesigned Stage 3 does a better job of offsetting bracket creep than the original. It is also better targeted to middle and upper-middle income households.

Having said that, the average benefit in dollar terms isn’t big. At about $1,000 per year for middle and upper-middle income households and costing the budget about what the original Stage 3 tax cuts would have cost, its inflationary impact compared to the original looks modest.