Tax Instalment Deduction System
Excess Instalment Deductions
22.91. The present system of tax instalment deductions from salary or wages is well established. Deductions from salary or wages comprise over half the total collections of income tax. The system is accepted by both employees and employers and generally works satisfactorily. But there are several aspects of the system requiring examination.
22.92. The instalment deductions from salary or wages are based upon schedules in the Regulations to the Act. The main schedule provides for instalment deductions in relation to concessional allowances for dependants and for home loan interest to which a taxpayer may be entitled. An employee may formally notify his employer of any of these concessional allowances and the employer is then required to take account of this information in making instalment deductions. The main scale of instalment deductions has built into it some recognition of average concessional allowances for items other than dependants, such as superannuation contributions and medical expenses; but generally the aim is to ensure that total instalment deductions exceed the amount of final tax payable, so that for a very high percentage of salary or wage earnings without other income there are end-of-year refunds. In some cases taxpayers deliberately refrain from informing their employers of entitlements to dependant allowances and in this way voluntarily increase the amount of their refunds. Moreover, in recent years there have been indications that the application of the main schedule of instalment deductions is resulting in greater numbers of salary and wage earners with further tax payable at the end of the year: the taxpayers chiefly involved are those without dependants and with few other concessional allowances. In September 1972 an optional schedule was issued with the object of reducing the number of cases where a further tax payment has to be made after the end of the year.
22.93. It is apparent from submissions that some taxpayers favour instalment deductions being aligned more closely
with their final tax liability. It has also been put to the Committee that the rapid growth of end-of-year
refunds, mainly in the months of July, August and September, is leading to more pronounced seasonal movements in
the economy's liquidity—movements involving costs for the whole community. The
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end-of-year refunds
have grown from $507 million in 1970-71 to $772 million in 1973-74 and an estimated $930 million in 1974-75.
22.94. Under the present legislation an employee can reduce his tax instalment deductions to a figure closer to his final liability by special application to the Commissioner for a variation of the instalment deductions. In the Committee's view this procedure should be more readily available to employees and more widely applied. The present system of declaration forms supplied by employees to employers should be extended to include a number of concessional allowances in addition to those for dependants and for mortgage interest. Within the limits of a maximum yearly allowance, the extension ought at least to encompass employee superannuation and medical and hospital benefit fund contributions collected through employers, and deductible life insurance premiums where supported on the declaration form by details of policy number, name of payee, etc. as now required on return forms.
22.95. The reduction of tax instalment deductions in this fashion should be entirely optional in the manner of the present reduction for dependants: it would be solely up to the employee whether he wishes to take advantage of it. Where an employee claims reduction of instalment deductions other than for dependants, the employer would be obliged to apply an instalment scale that takes no account of concessional allowances. The implementation of a scheme of this kind will inevitably involve the Taxation Office in an expanded role in advising upon and policing the pay-as-you-earn system. But the work load on employers would not be significantly increased; and as is the case at present, employers would not be required to accept responsibility for the accuracy of the items claimed by employees.
Limited Effectiveness
22.96. The key to the effectiveness of the tax instalment deduction system is the definition of ‘salary or wages’ in the legislation. While the definition is drafted to include payments made ‘under a contract which is wholly or substantially for the labour of the person to whom the payments are made’, its interpretation has severely limited the application of tax instalment deductions. Generally the system cannot apply unless payments are made in circumstances where a relationship of employer and employee clearly exists, and difficulties arise where payments based on work performed are made to one of a group of workers operating in a loose partnership arrangement: payments of the latter type cannot be said to be substantially for the labour of the one person to whom the payment is made.
22.97. Where the relationship of employee and employer is absent, the Committee recommends that payments substantially for the labour of one person or a small group of persons be included in the system of tax deductions at source. Like salary and wages, the income would be brought to account as income in a return after the end of the income year and, on assessment, credit would be given for the tax deductions. In similar fashion the system of tax deductions at source could be extended to certain payments for goods where the payment is substantially for the labour of the seller: for example, payments to individuals for supplying animal skins or opals. The systems of tax instalment deductions employed in the United Kingdom and New Zealand contain provisions similar to what is being proposed here.
22.98. The tax deductions would have to be made at a flat rate. However, a taxpayer would need to be given an
opportunity of applying to the Taxation Office for a reduced flat rate where the nature of his operations and
expected net income warranted a lower rate. Similarly, where the extent and nature of a taxpayer's operations,
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the maintenance of adequate records and the lodgment of past returns give grounds for reasonable
expectation of the lodgment of complete and accurate returns and the payment of tax, exemption from flat-rate
deductions at source might be sought from the Commissioner.
22.99. The areas of activity to be covered by extended tax deductions at source might include the building and construction industry; primary production, including forest operations and fishing; the entertaiment industry, including professional sport; and free-lance writing. The experience of the Taxation Office in these and other fields of activity where difficulties have been experienced in collecting tax should be drawn upon in delineating the areas to be covered.
22.100. Secondary or casual employment is another area in which the system of tax instalment deductions fails to operate effectively. At present secondary or casual employment yielding $20 or less per week is not subject to instalment deductions; and a casual employee who lodges with his employer a declaration claiming reductions for dependants is freed from instalments in respect of considerably higher casual earnings. While, to an extent, earnings not subject to tax instalment deductions must be shown in Statements of Earnings supplied to employees, with a copy to the Taxation Office, the coverage is far from complete. There is thus substantial scope for tax avoidance in the case of earnings from secondary or casual employment, and the opportunity of using false names increases the scope yet further.
22.101. Where a relationship of employer and employee arises, the Committee recommends that, for tax instalment deduction purposes, a distinction be drawn between main regular employment on the one hand and all other employment— secondary or casual—on the other. The former should be subject to tax instalment deductions on the present basis, main regular employment being interpreted as employment expected to continue for more than one week and to involve working on at least four days for a minimum of 30 to 35 hours a week. Other employment ought to be subject to tax instalment deductions at a flat rate high enough to discourage working under a false name and giving strong encouragement to include the income, and the credit for tax instalment deductions, on a return of income. It would be necessary to determine an amount per week, less than the present $20, below which no tax deductions would have to be made. There would also need to be provision for an alternative to the basic flat-rate deductions: employee taxpayers taking secondary or casual employment should be able to apply to the Taxation Office for a certificate authorising, in relation to a particular employment, flat-rate instalment deductions at a lower rate or in some cases no deductions. The employee would have the option of accepting the basic flat-rate deduction with the prospect of a refund on assessment of his return of income after the end of the year or of applying to the Taxation Office for a reduced flat-rate deduction: in both instances the income and credit for instalment deductions would still have to be included in the return of income.
22.102. A third area in which the tax instalment deduction system lacks effectiveness is in relation to benefits in
kind—‘fringe benefits’—given by an employer to an employee. In Chapter 9 the Committee has made recommendations on
the tax treatment of non-cash benefits from employment. Briefly, the Committee recommends that the tax instalment
deduction system be extended, where possible, to ensure adequate instalment deductions in respect of the
assessable value of employment benefits that are to be brought to account as assessable income. The present
legislation on tax instalment deductions covers meals, sustenance or the use of premises or
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quarters,
in addition to salary or wages, but the statutory figures of value obviously need to be lifted.
22.103. The Committee recognises that these recommendations will, to some extent, involve employers and certain other users of labour in additional work. But if, as a result, the effectiveness of the tax system is increased, the price is worth paying.
Other Aspects
22.104. On several other aspects of the system of tax instalment deductions the Committee does not propose to make firm recommendations. One of these concerns the difficulties in establishing the true identity of employee taxpayers at the employment point. An employee, with or without the connivance of his employer, may work under a false name. The recommended system of flat-rate tax instalment deductions for secondary or casual employment is likely to reduce tax evasion in this area. But if each adult person were to be given an identifying number to be used in all employment documents and in tax instalment deduction documents and tax returns, scope for tax evasion would virtually disappear. The Committee is aware of objections to any general system of allotting numbers to members of the population for purposes of identification, though it should be pointed out that such a system is in operation in the United States.
22.105. In the Committee's view the advantages of a system of identity numbers far outweigh the disadvantages, a matter mentioned earlier in paragraph 13.14. The obvious advantage in reducing tax evasion, and thereby conveying benefits by way of potentially lower imposts upon honest taxpayers, is in itself a major factor in favour of such a system. At 30 June 1974 the total amount of unapplied credit on Group Certificates was some millions of dollars. This figure represents tax instalment deductions made by group employers and included on Group Certificates issued to employees which the Taxation Office has not been able to match with returns lodged. Clearly this figure must include a substantial sum in respect of employees working under false names where there is not a corresponding return lodged: the tax correctly payable would generally exceed the amount deducted at source.
22.106. The Committee is also aware of the likelihood, under the present system, of false claims for dependent children in dependant declaration forms furnished by employees to employers, whether the employee is working under his true name or not. By this means an employee can substantially reduce tax instalment deductions or eliminate them completely. The proposal of the Committee in Chapter 12 that concessional tax allowances for children be replaced by benefits given solely through the child endowment system will eliminate claims for children in dependant declaration forms. This is a further point in favour of handling child maintenance benefits through the expenditure side of the Budget.
22.107. Finally, the question has been raised in submissions of the Australian Government paying interest on end-of-year excess tax instalment deductions due for refund. The Taxation Office endeavours to issue these refunds to a maximum number of taxpayers as soon after the end of the income year as possible, and by the end of October well over 80 per cent of refunds of excess tax instalment deductions have normally been posted to taxpayers.
22.108. The Committee has made recommendations that would enable any taxpayer concerned at the size of his expected
refund to have the amount reduced. To calculate interest entitlements in relation to end-of-year excess tax
instalments would
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be extremely expensive and might result in delays in making refunds to employee
taxpayers. The Committee therefore does not favour the payment of interest.