Less company tax spells more growth

By ALASDAIR THOMPSON

Reducing company tax from 33 to 20 per cent will increase investment, accelerating New Zealand's economic growth.

Since the Government is forecasting the economy to grow by no more than 3 per cent a year for the next four years, the present policy mix won't get us back into the OECD top 10, yet that is the Government's stated objective.

We need 4 per cent a year, at least, to climb back up the rankings of well-off nations. If we don't reach this growth target, we'll also fail to meet social and environmental goals.

Last year the Employers & Manufacturers Association and Business New Zealand engaged economic consultancy Infometrics to model the economic impact of cutting company tax to 20 per cent.

An important outcome of the analysis was the recognition that changes to the tax system can and would assist growth.

Nearly as important was the realisation that cutting the company tax rate would be fiscally neutral for the Government.

The first reason is that company tax is essentially a withholding tax. Lower company tax rates result in an equivalent reduction in the tax credits passed on with dividends paid to shareholders.

Secondly, a lower company tax rate means companies would retain more of their earnings for reinvestment in employment, skills development and new production capacity. A higher rate of growth would result from this, with more tax collected from all tax sources, and lower welfare costs, too.

The General Equilibrium model Infometrics employed - the same used by the Government for modelling other work such as the effects of a carbon tax - found, when the company rate was reduced to 20 per cent, that the initial tax loss was $958 million. It calculated this would be recovered through:

* An extra 1.1 per cent GDP growth.

* 3.6 per cent increase in investment.

* 1.1 per cent growth in employment and/or workers' incomes.

* 1.5 per cent growth in exports.

* A 0.6 per cent reduction in inflation.

A lower company tax rate would also lead overseas companies domiciled in New Zealand to report more of their earnings here and pay more tax, with more overseas companies attracted here as well so they could do this.

One of the assumptions in the model was that the proportion of company tax paid as dividends in a given year is 45 per cent, higher than the 28.6 per cent employed by the Treasury.

But we have subsequently learned from IRD that New Zealand companies actually distribute a huge 90 to 95 per cent of their taxable profit each year. Hence, most company tax paid is reclaimed as imputation credits against personal tax.

Other assumptions also err towards the conservative.

The model estimated the effective rate of company tax at 18 per cent. When the nominal rate is reduced to 20 per cent, the effective rate goes down to 11 per cent.

Hence the entire net revenue gain from the company tax system, after subtracting imputation credits, is only about $870 million, most of which comes from overseas investors.

Therefore, if the company tax rate were cut to 20 per cent, the maximum revenue cost would be $344 million. This would be made up and more from transnational companies choosing to report more of their profit, and tax, in New Zealand.

The McLeod Committee's report last year recommended an 18 per cent rate for overseas investors, though it seems to us that retain-ing New Zealand investment isat least as important.

New Zealand's 33 per cent company tax rate is now higher than the average in the Asia-Pacific region, or in the OECD. Twelve OECD countries cut their rates last year, including Australia.

As Chris Abiss, senior tax partner for KPMG, pointed out this year, New Zealand's company tax rate has to remain internationally competitive along with other business costs.

If it remains out of kilter for long, we lose out on new direct investment, and on the opportunity to present New Zealand as a profitable place to operate.

* Alasdair Thompson is chief executive of the Employers & Manufacturers Association (Northern).