I. The Case for Special Treatment
21.4. The Committee has, in Chapter 3, expressed the view that neutrality should be the general aim when economic efficiency is at issue and that, as far as possible, considerations of tax liability ought not to be allowed to influence the manner in which a person conducts his affairs. But in so far as certain inherent features of the tax system tend to make for non-neutrality in the overall operation of that system, some deliberately contrived offsetting correction may be warranted.
21.5. One such feature, of particular relevance in the context of the present chapter, concerns the taxing of income. As already pointed out in Chapter 3, a tax on income falls on the component saved as well as on the component immediately consumed; and when income is subsequently earned on the component saved, that too bears tax. In the result, the effective rate of return on saving is less than it otherwise would be and the balance of advantage between consuming income immediately and saving it to consume later is shifted towards the former. Bias of this kind against saving is an inherent feature of income tax: it could be wholly eliminated only by abandoning income tax altogether and substituting an expenditure tax along the lines suggested by Lord Kaldor. The Committee is not prepared to go this far; though if greater reliance is placed on indirect taxes and less on income tax, which is the Committee's proposed long-run objective, the general bias against saving will in time diminish. In the meanwhile, however, special provisions in the income tax law must be relied upon to correct the bias.
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21.6. Traditionally the law, in its special provisions, has gone beyond merely correcting the bias against saving. These provisions clearly reflect a policy of promoting long-term saving in the private sector. The policy reflects notions of thrift intended, among other things, to relieve the State of some of the heavy financial burden of providing for old age. It also reflects the need to foster a healthy capital market. The Committee does not see its role as enabling it to question the policy of promoting long-term saving, even were it minded to do so. It is concerned, nevertheless, to make an assessment of the existing law, or any alternative law, directed to promoting saving and to judge its effectiveness to this end as well as its fairness.
21.7. Clearly superannuation and life insurance are structured so that they can offer the assurance that saving undertaken through them is long term. In this respect they are the avenues of private saving most deserving of tax assistance.
21.8. While the Committee can thus see some justification for an approach that will result in the deferral of tax and some relief from tax on such long-term saving, it can find little justification in theory for a system that permits exemption from tax altogether. If contributions to superannuation funds are to be an allowable deduction at the time they are made, and the income of such funds is to be exempt from tax, then the virtual exemption from tax of the whole benefit payable at retirement is debatable. If some relief from tax is to be given in relation to life insurance premiums, and it is not practicable to tax the policy proceeds, the levying of some tax on the investment income earned by the premiums is seen to be appropriate.
21.9. Finally, and most importantly, it must be borne in mind that the matters with which the Committee is here dealing involve long-term commitments entered into by taxpayers on the basis of the existing taxation structure. It would be unfair to such persons if a significantly different taxation structure were to be introduced without adequate and reasonable transitional arrangements. Having regard to the importance of life insurance and superannuation funds in the Australian capital markets, it would be an unwise step to make recommendations likely to force such institutions abruptly to slacken the pace of new investment or even to liquidate a large portion of their existing holdings. The deleterious effect of such action on the Australian economy would outweigh any gains in equity in the treatment of taxpayers that recommendations of this kind might bring.