Provisional Tax System

22.109. It is by means of the provisional tax system that individual taxpayers with income from sources other than salary or wages have since 1944 been called upon to pay tax on a basis broadly similar to the pay-as-you-earn basis applicable to salary or wage earners. In a year of income in which income other than salary or wages is derived, a taxpayer pays, not earlier than 31 March in that year, an amount of provisional tax normally based on the taxable income from this source in the preceding year of income. The amount and due date for payment of provisional tax are notified with the assessment for the preceding year of income. Where prior to this due date for payment of the provisional tax, or an extended due date, a taxpayer confidently anticipates that his taxable income in the current year will be less than in the preceding year, he may by a process of self-assessment have the amount of provisional tax reduced. Penalties by way of additional tax are provided for undue underestimation of income. A taxpayer may also have the amount of provisional tax increased above the notified figure by the same self-assessment process.

22.110. Submissions to the Committee on this subject can be conveniently divided into two categories, the first advocating that the provisional tax system be abolished and the second claiming that provisional tax should be paid by instalment. At the basis of the latter claim is the view that payment by instalment is a more convenient means of satisfying a substantial liability and that payment of all provisional tax in the last quarter of the year is a major contributing factor to the pronounced seasonal movements in the liquidity of the whole economy.

22.111. In the Committee's opinion, the pay-as-you-earn character of provisional tax should not be abolished. Receipt by the Government of substantial amounts of revenue from this source in the year of derivation of the taxed income is well established and abandonment of pay-as-you-earn would severely affect revenue in the year of change. So long as pay-as-you-earn applies to salary and wage earners by instalment deduction as income is received, there seems little justification for other individual taxpayers paying tax on any substantially more advantageous basis.

22.112. In considering the payment of provisional tax by instalment, the Committee has had in mind two other relevant matters upon which submissions have been received. These are criticisms of the present requirements that apply to taxpayers carrying on business activity who find it more convenient and desirable, for a variety of reasons, to prepare accounts on a year ending on a date other than 30 June; and representations on the problems facing tax agents in meeting the program set by the Commissioner for lodgment of clients’ returns. On both these matters companies as well as provisional taxpayers are involved: the company aspects will be taken up later when the system of paying company tax is considered.

22.113. The two matters mentioned in the preceding paragraph need spelling out. Under section 18 of the Act, a person desiring to lodge returns on an accounting period ending other than on 30 June requires the approval of the Commissioner. The Commissioner takes the view that where such approval is granted the person should not receive a tax advantage, such as a deferment or delay in payment of tax, compared with a taxpayer lodging on the basis of 30 June. Special conditions are not normally attached to approval to lodge returns on an accounting period ending on say 30 September, being after 30 June, except that there must be no period of income not

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covered by returns. In such a case the person involved accepts some tax disadvantage compared with a 30 June basis because he pays tax on income derived in the last three months—July, August and September—at an earlier date.

22.114. On the other hand, where a taxpayer seeks leave to lodge returns on an accounting period ending on, say, 31 March, being before 30 June, the granting of leave without a conditional adjustment would result in the taxpayer gaining an advantage from the deferment or delayed payment of tax on income derived in the three months of April, May and June following the balance date of 31 March. The usual condition attached to the approval is agreement to pay, in conjunction with the tax due on the first period ending 31 March, a further amount equal to tax attributable to taxable income derived or estimated to be derived in the following three months of April, May and June. Subsequent returns cover a twelve-month period ending 31 March and the further amount is held by the Revenue until the person ceases to be a taxpayer or changes the balance date, when an appropriate tax adjustment is made. Few individuals, partnerships and trust estates lodge returns on an accounting period ending other than on 30 June, though quite a number of companies do. The requirement to pay the further amount has been the main subject of complaint by companies in submissions to the Committee, and the matter is taken up later. Not all companies and individuals now lodging returns on an accounting period ending before 30 June have actually paid the further amount referred to, or an amount that is realistic in the light of their current income. There are a variety of reasons for this: for example, the present accounting period may have been adopted many years ago when annual income was considerably lower than it now is.

22.115. The second matter relates to the lodgment of clients’ returns by tax agents after the general due date of 31 August in conformity with a pattern set by the Commissioner. Briefly, the pattern requires that each tax agent lodge a certain percentage of returns, differentiated by category, by various dates between 31 August and 31 March. For many years now this has been a source of contention between tax agents and the Commissioner, the contending issues being the continually growing work load falling on tax agents and the need of the Commissioner to have returns lodged in sufficient time for assessment and collection of tax within the financial year. Some relaxation in the lodgment program has been advocated in submissions.

22.116. For taxpayers deriving income other than salary or wages—provisional taxpayers is a convenient term for them—the Committee recommends that tax payments be made by instalments on a pay-as-you-earn basis involving an adaptation of the present provisional tax system. The adapted system would not apply to income other than salary or wages below a set figure where both salary or wages and other income are received by a taxpayer.

22.117. Several other countries have adopted a system of pay-as-you-earn taxation for provisional taxpayers involving payment by instalments. In the United States and Canada, provisional taxpayers pay self-calculated tax on estimated income in the year of derivation by quarterly instalments; in New Zealand and South Africa payment is by two instalments. It is usual for arrangements to differ somewhat in the case of farmers and certain other taxpayers. In some instances heavy reliance is placed on estimates of income and self-assessment of tax by the taxpayer progressively throughout the year, with penalties by way of ‘interest charges’ for undue underestimation of income or underpayment of instalments.

22.118. Australia's present provisional tax system has a number of unsatisfactory features. For one thing, it involves a degree of unfairness vis-á-vis the system of tax

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instalment deductions applying to non-provisional taxpayers. Under the instalment deduction system a salary or wage earner is forced to meet his tax liability progressively as he receives his remuneration over the year of income, whether it be paid weekly, fortnightly or monthly. In fact, under the present system a very high percentage of salary and wage earners without other income are required to pay more tax than they strictly should during the year of income and to wait for an end-of-year refund of the excess: the Committee has earlier made recommendations that will mitigate the extent of the excess payment.

22.119. On the other hand, in the income year in which he derives his income a provisional taxpayer pays an estimated amount of tax applicable to that income; but in no case is he called upon to make payment until at least nine months of that year have passed and, in the majority of cases, until nine months’ income has been derived. Published figures reveal that more than half the 1.4 million assessments issued to provisional taxpayers in 1973-74, based on 1972-73 income, were due for payment after the end of the first week in April 1974 and more than a third were due for payment in May-June 1974 and later. Thus for a substantial proportion of provisional taxpayers provisional tax relating to income derived in 1973-74 did not become payable until the second quarter of 1974. The time of issue and due date of provisional tax assessments are of course largely dictated by the date of lodgment of returns by taxpayers and by tax agents on behalf of clients in line with the program referred to in paragraph 22.115.

22.120. A further area in which a provisional taxpayer gains an advantage in tax payment over a salary or wage earner is in relation to the excess of actual assessed tax for a year of income over provisional tax. The pattern of payments in figures published by the Commissioner indicates that provisional taxpayers who in 1972-73 year paid provisional tax that fell short of the amount subsequently assessed on their returns for that year would have made up the short-fall in the second quarter of 1974 or later. The short-fall would have been paid nine to twelve months after the close of the income year to which it related and, where substantial amounts were involved, a significant breakdown in the pay-as-you-earn principle would have resulted.

22.121. The setting of a due date for payment of any short-fall and for payment of the next round of provisional tax will depend on when the taxpayer's return is lodged. Ideally, all returns of provisional taxpayers should be lodged in sufficient time to enable the issue of assessments with due dates for payment on 31 March. This is not feasible and some taxpayers obviously delay lodgment of returns in an endeavour to postpone payment day. In the 1973-74 year the Commissioner issued almost 308,000 final notices calling for returns and information and instituted legal proceedings in some 54,000 cases.

22.122. Other features of the provisional tax system are the almost complete dead-letter character of provisions requiring taxpayers who begin to derive income subject to provisional tax to take steps to pay in the first year, and the minimal use of the self-assessment procedures to increase provisional tax payments to realistic levels, particularly where major increases in income can reasonably have been anticipated. These two aspects have led to unwarranted criticism of the provisional tax system, including claims that the system calls, in some cases, for tax payments absorbing virtually all the taxable income of the year in which the assessment is received or all the taxable income of the previous year shown in the assessment. Not infrequently, of course, the tax payable is in reality the tax attributable to the income of two years.

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22.123. For a number of reasons, therefore, the Committee has come to the conclusion that a system of pay-as-you-earn should be applied to provisional taxpayers, involving tax instalments of, say, one-third on 30 November and two-thirds on 31 May in the year of derivation of income. Where the actual tax payable falls short of the provisional payments, the taxpayer would be required to make up the short-fall by 30 September following the end of the year of income. The base for the instalments would, in the first place, be the final estimated income for the immediately preceding year of income; and the Taxation Office would issue before 31 October of the financial year in which the instalments are payable a notice showing estimated income, the total estimated tax, the amounts of each instalment and the date on which it is due for payment. With each instalment payment the taxpayer would be required to adopt the base and estimated tax in the Commissioner's notice, or provide a fresh estimate of the income of the current year and adjust his payment as necessary. Lodgment of a return for the preceding year and receipt of an assessment on that return would require the taxpayer to review, and vary if necessary, his base income and instalment with his next payment. The one-third instalment on 30 November would be payable after the equivalent proportion of the income of the year had, in most instances, already been derived, and the 31 May instalment would be payable towards the end of the full year. The final opportunity for estimation, and any necessary further payment, three months after the close of the year, would permit actual income figures or a more accurate estimate of the likely outcome to be used in calculating any short-fall of tax due for payment on 30 September. An ‘interest charge’ at a commercial rate on underpayments as a result of underestimates of income of more than 20 per cent on 30 September would be necessary to encourage taxpayers to comply, including taxpayers commencing to be taxed under the provisions for whom special provisions will be necessary.

22.124. Special rules will also be necessary for taxpayers, mainly certain primary producers, who receive the bulk of their income in the second half of an income year. For such persons instalments of, say, one-third on 15 February and two-thirds on 31 May might be appropriate, with the same opportunity as other taxpayers for a final estimate and further payment after the end of the year. Taxpayers lodging on accounting periods other than 30 June would have instalment payment dates set at the same intervals following the first day of their accounting period as taxpayers lodging on the basis of 30 June are allowed from 1 July.

22.125. The Committee believes that many taxpayers will find the move to paying provisional tax by instalment convenient. At present provisional taxpayers are often called upon to pay very large amounts in one lump sum in April, May or June, though the majority of these adequately plan for the meeting of such payments. There are some, however, who fail to plan their financial affairs efficiently and consequently experience difficulties in meeting the once-a-year tax bill: for them the instalment payment plan will be of considerable assistance.

22.126. The recommended system of instalment payments by provisional taxpayers will have the effect of aligning the tax payments of these persons, numbering about a million, more closely with the tax payments of approximately 4.7 million nonprovisional taxpayers. It will reduce the undue delays that now occur in meeting payment of substantial short-falls of provisional tax. The spacing of provisional tax payments over the year will also reduce the present seasonal drain on the liquidity of the economy stemming from the concentration of payments in the last three months of a financial year. However, the system would need to be phased in over several years.

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22.127. The taxpayers affected—mainly business people and investors—should have little difficulty adapting to the recommended system, especially as the majority of them already employ tax agents. By divorcing the amount and date of payment of provisional tax from the lodgment and assessment of the return of the preceding year, the way will be paved for the Commissioner and tax agents to settle a program of return lodgments which will answer much of the present criticism in this area.

22.128. Further, the setting of patterns of payment of the instalments at a single set of intervals from the commencement of the current income year, whether the income year be July-June or some other, will facilitate leave being granted to lodge returns on an accounting period other than one ending on 30 June: there will not be the same need as now for the Commissioner to insist on the special payment to overcome any delay or deferment in payment of tax. However, it will be necessary to have provisions to overcome any advantage or disadvantage brought about by the application of progressive tax rates to the assessment of a return for less than one or more than a full year on the occasion of the change-over from a July-June income year. Where a change in the rate of tax occurs between one income year and the next, the Commissioner at present does not attempt to split the income of an accounting period ending other than on 30 June into income subject to the previous rate and income subject to the new rate. This practice should continue.