Why You Should Care about the Stage 3 Tax Cuts

The legislated Stage 3 tax cuts have created a cacophony of negativity since they were first proposed in May 2018 by the then Government. Despite the benefits for middle income earners and their tax reformist flavour, very few groups have spoken positively about these tax cuts in public forums. Notwithstanding the negative sentiments from some, you should care about the Stage 3 tax cuts as they will likely provide a benefit to you.

The lack of positivity (or even worse, the apathy) in relation to the Stage 3 tax cuts is understandable. They don’t apply until 1 July 2024, more than six years after they were announced. A lot can happen in six years, and a lot has happened locally, nationally and globally since May 2018. This long lead time, coupled with a justifiable sense of scepticism that our political leaders will stay the course, has left many people doubtful the tax cuts will be introduced. Indeed, many people aren’t fully across the tax cuts, what’s in it for them and why they should care about them.

So what are the Stage 3 tax cuts?

The Stage 3 tax cuts mean that from 1 July 2024 individuals earning between $45,000 and $200,000 will pay tax on their income between those levels at a 30% tax rate. Without delving into the technical details, this is achieved by eliminating and adjusting existing tax brackets and marginal tax rates. The highest marginal tax rate of 45% will only apply to income in excess of $200,000.

If you earn more than $45,000, then as our income tax law currently stands you will, all other things being equal, pay less income tax from 1 July 2024 compared to the income tax you are paying now.

What some people will have forgotten is that the Stage 3 tax cuts were preceded by Stage 1 and 2 tax cuts implemented from 1 July 2018 and 2020 respectively. Stages 1 and 2 were focused on providing income tax savings to lower- and middle-income earners, with very little benefit in terms of % tax reduced for higher income earners (with the timing of benefits staggered such that higher income earners had to wait longer, six years longer, for income tax benefits).

If you earn less than $45,000, you’ve been enjoying a significant reduction in the amount of income tax you pay each year since 2018. In fact, for those earning $45,000 your income tax bill in the current financial year will be 16.0% lower than it was in the year ending 30 June 2018 (a $1,080 tax saving). While its hard to keep track of these things every year, our lower income earners have been paying at least 16% less tax every year since 2018. The clarity of these income tax savings are likely lost in the overall impacts of the broader taxation and transfer systems that see many other benefits flow to our lower income earners (many of whom pay no net income tax at all – the most recent data from the ATO indicates that of all individual tax returns lodged in 2020, 25% of them resulted in no net income tax payable). The tax savings are lower in % terms through to 30 June 2024 for those earnings more than $45,000. For example, while someone earning $120,000 will pay $2,565 less income tax in the current financial year than they did in 2018, that’s only a 7.4% reduction on their 2018 income tax bill. Someone earning $200,000 now also pays $2,565 less income tax than they did in 2018, but in % terms for them its only a 3.8% saving.

The deferred income tax savings for middle and high income earners will only be realised from 1 July 2024. Should current law be amended to reverse the Stage 3 tax cuts, middle and higher income earners will be at a permanent and ongoing disadvantage to our lowest income earners in terms of the income tax relief announced back in May 2018.

Should you care about the Stage 3 tax cuts? YES!

If you earn more than $45,000 a year then you should care about the Stage 3 tax cuts – and arguably you should be vocal about seeing them retained. The Stage 3 tax cuts will deliver tax savings of between $375 and $9,075 from 1 July 2024 for those earning more than $45,000 compared to the income tax they are paying now. For those earning $90,000 or less the Stage 3 tax cuts go some of the way to replacing the temporary low- and middle-income tax offset that helped reduce tax payable from 2019 to 2022.

Beyond the benefit to individuals, there will be broader economic benefits of the Stage 3 tax cuts, albeit those benefits (like increased potential for household consumption following tax cuts) need to be carefully managed in an inflationary environment. The Stage 3 tax cuts are reflective of a tax reformist agenda as they simplify our personal tax system by eliminating a tax bracket. They also remove a potential disincentive to individuals seeking to increase their income by ensuring that more income is taxed at a 30% rate rather than at 37%. The Stage 3 tax cuts will provide a future buffer against bracket creep whereby increasing numbers of taxpayers end up paying tax at higher rates as their actual wages grow but their real wage may not have grown. For business owners, it also reduces the potential arbitrage between retaining profits in companies (where the tax rate is 25% or 30%) or paying them out as additional wages or dividends, confident they will be taxed at the same or only a 5% higher income tax rate.

Personal tax reform in the nature of the Stage 3 cuts was one of the many recommendations in the often cited, but seldom acted upon, Henry Review of 2009 (Australia’s future tax system). Back in 2009 this report suggested consideration should be given to increasing the tax-free threshold to $25,000 (currently $18,200) and introducing a 35% tax rate for income between $25,000 and $180,000 as that would then have seen 97% of taxpayers subject to personal tax at a 35% rate. More broadly, the Henry Review argued that Australia is overly reliant on the taxation of income earned by individuals and would be better off seeking to broaden its revenue base. That situation has only become worse since 2009 with the ATO reporting the top 3% of individuals based on taxable income paid 29% of income tax collected from individuals in 2020. Now, more than ever, is the time to revisit the specific and broader reforms proposed by Ken Henry and avoid populist policy initiatives that don’t enhance our taxation system.

It would be easy for the current Federal Government to be swayed by the noisy negative sentiment toward the Stage 3 tax cuts and seek to amend current law to abolish them. Its time for the quiet Australians, the middle-income earning Australians, to again be counted and remind our current Federal Government that the Stage 3 tax cuts are important to them and our future economic prosperity and should be retained. Should current economic reality mean that the plans first announced in 2018 are no longer sustainable, then let’s consider alternative strategies (perhaps similar to the 2014 to 2017 temporary budget repair levy which saw the highest marginal tax rate temporarily increased from 45% to 47%) to compliment the Stage 3 tax cuts rather than abolishing them.