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  • Written by Richard Holden, Professor of Economics, UNSW
Vital Signs: policies come and policies go, but surely we shouldn't be subsidising inheritances

There’s an election on. Half a million of us have already voted. There’s just two weeks to go.

With that comes more intense scrutiny of different policies (which is good) and disingenuous claims by those with vested interests (which is not so good).

And perhaps the most contentious policy Labor is taking to the election is its proposal to eliminate dividend imputation cheques for people with excess franking credits.

Peter Martin has provided an excellent explanation of what franking credits are and how dividend imputation works which I won’t recapitulate.

What’s relevant here is that Labor wants to undo a Howard government innovation that sends cheques to people fortunate enough to receive income from shares and not pay tax. It exists nowhere else in the world.

Read more: Words that matter. What’s a franking credit? What’s dividend imputation? And what's 'retiree tax'?

Naturally retirees who don’t pay tax and have become used to “franking credit” cheques" along with dividend payments are unhappy.

Take this example, published in the Sydney Morning Herald on Thursday.

Alan and Bev are in their eighties, own their own home, and have A$800,000 in shares. Those shares pay them dividends of $32,000 a year. Along with those dividend cheques they get a $13,000 cheque from the government, which takes their annual income to $45,000.

Alan and Bev don’t want to spend what they’ve got

The thought of having to exist on only $32,000, leaves them “wondering how they can reduce their already tight budget”.

Alan and Bev might have realised that could draw down on their $800,000 a little each year.

If, for example, they took out $15,000 a year and earned 4% (their current rate) on what was left they would

  • have more post-tax income than they do now, and

  • still have about $400,000 saved in 20 years time, by which time they would be over 100 years old and, statistically speaking, rare.

I understand that they mightn’t want to do that, and I can understand that their adult children mightn’t want them to do it either, because if the parents don’t use the money they have saved, the children will be in line to inherit it.

Why should we subsidise their desire not to?

The position of the “independent financial expert” who wrote the article is a little odd. She doesn’t seem to want it to happen either.

The Future of Financial Advice Act requires her to put the best interests of her clients ahead of her own.

Perhaps she did, and advised them to run down some of their savings. Perhaps they told her that in their view it was in their best interests not to, and to leave them all to their children.

Read more: The newest election faultline isn't left versus right, it's young versus old -- and it's hardening

However, I as a taxpayer don’t like paying them a subsidy that allows them to do that when they could (should) be using their own money to pay for things they can well afford.

The payment of dividend cheques to people who pay insufficient tax costs $6 billion a year - soon to be $8 billion.

I don’t think we should be taxing inheritances through a death duty or an estate tax. Not at all. But right now we have what amounts to as an estate subsidy, one for which it is hard to see the economic rationale.

Labor wants to wind back an unusual subsidy

Dividend imputation is an important principle and a was a good policy when Paul Keating introduced it as treasurer in 1987.

It prevents the double taxation of company profits – where the company pays, say, 30% tax on profits and then an individual pays another as much as another 49% on the dividends. That kind of double taxation was unprincipled, deterred capital formation and investment and harmed employment and economic growth.

Dividend imputation paid to the shareholder the company tax paid in return for the shareholder paying tax.

In 2001, the Howard government extended it to shareholders who didn’t pay tax, in their cases turning “no double taxation” of company profits into “no taxation” of company profits.

Then in 2007 he changed the tax rules so that many more retirees didn’t pay tax.

Read more: Who are the wealthy retirees targeted in Labor's plans?

Labor’s policy reverses the first (international unique) extension, in part because it has become extraordinarily expensive.

It’s understandable that retirees such as Alan and Bev feel that they are losing something. They are. But the main thing they are losing is a government subsidy that would enable them to hand all of their savings on to their children without dipping into them to look after themselves.

That’s the “gift” the opposition leader Bill Shorten says he wants to wind back.

Authors: Richard Holden, Professor of Economics, UNSW

Read more http://theconversation.com/vital-signs-policies-come-and-policies-go-but-surely-we-shouldnt-be-subsidising-inheritances-116415

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