Some assets are easy to value, but others are more difficult. Photo / 123rf
The recent announcement by the Green Party of a proposed wealth tax raises many important questions about the taxation system.
Although this was part of a range of proposed measures suggested by the Green Party, in my view, the suggestion of a wealth tax is the most controversial.
In essence, the Greens propose a 1 per cent levy on the net wealth of any person which exceeds $1 million and a 2 per cent levy on the net wealth of any person which is greater than $2m.
The net wealth calculation includes one's home and most other valuable assets (certainly financial assets such as shares, bonds and business assets but also valuable artwork and some household assets and consumer goods with values greater than $50,000-say some European or electric cars).
Do we need more taxation?
The "Great Lockdown" has been described as the worst recession since the Great Depression and certainly is much worse than the Global Financial Crisis.
Most countries around the world will have largely emptied their coffers, and borrowed heavily, to fund strategies to support their businesses and workers.
Back in April 2020, the International Monetary Fund (IMF) forecast that the cumulative loss to global GDP over 2020 and 2021 from the pandemic crisis could be around US$9 trillion ($13.5t), greater than the economies of Japan and Germany combined, but the latest information suggests that this is optimistic.
In New Zealand, annual GDP has declined by 4.6 per cent (the quarterly decline in GDP for the June quarter was over 20 per cent), the unemployment rate is forecast to peak at just under 10 per cent at some stage in the next nine months, and the government has provided the wage subsidy scheme costing almost $12 billion covering some 1.66 million workers (63 per cent of total employment).
The net core Crown debt is forecast to rise over the next five years from around $55b (or about 16 per cent of GDP) to approximately $200b which is over 50 per cent of GDP. The economic environment is fragile and uncertain but at some point and hopefully, shortly, a robust recovery should happen.
When we return to better economic times then, I'm guessing, the need to pay down some of our government indebtedness and so we may need more taxation.
Why do we need to tax wealth?
The Green Party suggest that this wealth inequality creates "an underlying structural problem" and that the tax-free status of wealth results in an unbalanced tax system. They point to information provided to the Tax Working Group in 2018 which would suggest that "very wealthy people often don't pay much income tax".
In summary, the rather obvious point of wealth taxation is as an instrument to reduce inequality, reducing the assets of our wealthiest households, and providing revenue which is available for redistribution.
Is wealth taxation the best form of taxation?
A short answer to this question, in my view, is no. There are several points which are worth considering as we discuss this question.
Why are fewer and fewer countries relying on net wealth taxes?
Despite some recent discussion by potential candidates in the United States wealth taxes are far less widespread than they used to be. An OECD study in 2018, The Role and Design of Net Wealth Taxes in the OECD, illustrates this point.
There were 12 OECD countries which had a wealth tax in 1990, but only three of these (Norway, Spain, and Switzerland) have retained them.
If you include Argentina, then only four major countries impose net wealth taxes around the world. It is more common to find transfer taxes such as inheritance taxes and gift duties then it is net wealth taxes.
New Zealand abolished death duties in 1993 and gift duty in 2011 for some of the reasons given below.
The trend away from net wealth taxes seems to be based on one or more of the following considerations, which frequently are interrelated to each other:
• Wealth taxes do not collect much revenue. The 2018 OECD report makes it clear that wealth taxes do not provide very much revenue.
The OECD notes that there is growing wealth inequality in OECD countries, but ascribe the paradoxical lack of wealth tax revenue to changes in the design of the wealth taxes, a failure to update property values, and widespread avoidance and evasion.
• It seems there are significant integrity issues. Net wealth is a narrow base compared to income and consumption (which are the bases for our income tax and GST).
It seems somewhat obvious that the wealthy can afford good advisers and as wealth is more concentrated than income there will be considerable efforts made to minimise this type of taxation.
The tax can be avoided by owning forms of wealth which are not subject to the tax or, when all else fails, the ownership of the wealth is transferred outside of jurisdictional reach.
• Jurisdiction to tax and residence flight The Green's proposed wealth tax seems to be based on the normal proposal that all the worldwide net wealth of a New Zealand resident is subject to assessment.
Very wealthy people are likely: (i) to have both significant assets in New Zealand and overseas, and (ii) to have more than one home available to them in multiple jurisdictions.
So the possibility of becoming a non-resident in New Zealand, and resident in a jurisdiction which does not have a wealth tax may not be a very high barrier for them to overcome.
This will have the effect of ensuring their non-New Zealand assets escape the wealth tax net.
• Distorting investment decision-making Generally speaking, wealth taxes are more distortive and less equitable than personal capital income taxes because they are imposed irrespective of actual returns earned on assets but rather just on asset values.
This can lead to over-taxation relative to actual economic return and, of course, under-taxation in situations where the investment provides significant economic rents (investments above an expected normal rate of return.
If non-residents are subject to tax on their New Zealand based assets then this could lead to a decline in foreign direct investment but more certainly double taxation as a non-resident is unlikely to be able to credit a wealth tax against income taxation in their home jurisdiction.
• Compliance costs and practical administration Net wealth tax requires valuations of all assets within the base every year.
Some assets are easy to value, but others are more difficult. It may be difficult to ascertain whether such assets held by family trusts are held for the benefit of New Zealand residents or non-residents, given that many families have beneficiaries widely spread around the globe.
• Liquidity concerns-ability to pay A major concern is that unlike a realised capital income tax, a wealth taxes imposed irrespective of a realised gain. This can lead to liquidity issues.
Conclusion
In summary, there is likely to be a strong need for tax revenue and standing back from the New Zealand tax system the under-taxation of capital is an issue for the variety of reasons set out in the Tax Working Group's interim and final reports. Is a wealth tax the answer? I don't believe so when there are other alternatives.
- Craig Elliffe is is a Professor specialising in taxation in the Faculty of Law, University of Auckland.
The Reserve Bank will this week deliver a new set of forecasts for where rates are headed.