On the problems in making the tax cuts equation stack up

Would scrapping the depreciation rules on rental residential property really deliver the $1.6 billion promised? That $1.6 billion sits on one side of the ledger and – when added to the $2 billion in revenue likely to be raised by hiking GST to 15% – is meant to bankroll the $3 – 4 billion package of tax cuts planned for the top end of the income ladder, a figure that includes the promised compensation for beneficiaries and low paid down at the bottom end.

Leave aside for a moment the unfairness involved in transferring wealth from low and middle income earners in order to provide tax relief for the tiny band of New Zealanders who are currently cringing under the lash of our top tax rate. At last count, only about 9% of us are in the lucky bracket that seems to be Key’s priority concern for tax reform.

Fairness aside, is the largesse affordable? Meaning: how robust are the figures in the relevant table for the depreciation figures – which can be found at page 45 of the Tax Working Group Report? There we find the revenue gain from removing depreciation on buildings is said to be “up to $1.3 billion” – and rests on the assumption that if the buildings were sold at a loss, there would be no offset allowed. In addition, there would be a further $300 million up for grabs if the special 20% loading available for new depreciable property was also removed. That’s how you get to the $1.6 billion revenue figure (from scrapping depreciation) that has featured in the headlines.

Initial problem: to me, ‘up to $1.3 billion’ means the figure is a potential maximum, not a given. Moreover, if an offset was allowed if and when buildings were sold at a loss – and you can bet National Party supporters will be aggrieved if such losses cannot be written off – you have to subtract $300 to $600 million from that initial $1.6 billion.

So, to recap: The potential for $1.6 billion being up for grabs from depreciation changes in the tax cuts equation rests on three premises : that you will recoup $1.3 billion from removing depreciation, and also get all the $300 million potentially available from scrapping the 20% depreciation loading on new property – and thirdly, you will forbid write-offs for buildings sold at a loss.

Lets assume for argument’s sake that National is serious about all three planks. Even then – how reliable is that $1.6 billion figure? Well, the modeling that yielded the figure for the TWG was done by the IRD, and the TWG simply accepted it at face value. Fair enough, perhaps – verification wasn’t their job. Yet when asked, one of the TWG did a rough calculation for me (purely for indicative purposes) that he felt got us within the same ballpark.

It went as follows. The value of residential rental property in New Zealand, he believed, was about $213 billion, and lets assume that half of that value is the land, which plays no part in the depreciation process. Of the remaining roughly $100 billion value attributable to the buildings then, he felt, a 2% depreciation rate would gets you roughly in the zone.

The trouble with that scenario is that depreciation is not worked out on the current rateable value. More accurately, it is based year by year on the residue of the historic cost of the buildings. Meaning: if that $213 billion is the current rateable value, it is somewhat irrelevant to how much money Finance Minister Bill English would actually get from scrapping the current depreciation rules.

The question then to IRD is… did you guys model that figure for the TWG on the current rateable value, or did you model it on the value of the residue of the historic cost – and if the latter, how on earth did you model it ? Because only the latter figure will deliver what English really gets in the kitty to dole out in an affordable round of tax cuts. Ultimately, if this exercise is truly to be fiscally neutral ( as English claims) there could well be insufficient revenue to compensate the most vulnerable part of the population for the GST hike.

Income Distribution.

As this column pointed out the other day, the government has used a peculiar notion of “balance” within this tax debate. The tax cuts will make a small elite much, much better off – while, at best, the various compensation packages will leave the rest of us no worse off. That’s not balance – that’s a transfer of wealth, and it is a mechanism for increased income inequality.

The pattern of income distribution in New Zealand is already highly skewed. Thanks to some brilliant recent work on The Standard website ( that has used IRD income data) the full extent of this inequality is now evident.

Most of us, I suspect would be surprised to discover that $40,000 a year puts you in the top third of income earners in this country. My own calculations, based on this table of income figures for 2008 are similar, and indicate that 75% of New Zealanders earn less than the average wage. If you want to see the same income skew represented on a graph, check this out :

Number of [IRD] customers with wage/salary income
Source: www.ird.govt.nz/aboutir/external-stats/income-bands-salaries-wages/

As this entry at The Standard points out 10% of people have more income than the bottom 50 % of us combined. The wealth figures are just as hair raising.

That’s just income. The inequality of wealth distribution is far greater. The net wealth of 10% of people is 20 times the wealth of 50% of us combined. In fact, the wealthiest 10% have more wealth than everyone else put together.

Point being, it is highly misleading to portray the tax cut programme – which has focused on cutting the top rate of personal income tax – as a process that will benefit middle income New Zealand. The tax cut element would bypass them almost entirely, and provide little or no compensation for the hike in GST. The real pup that we are being sold is the hoary old argument based on trickle-down economics, and the benefits that allegedly accrue to the rest of us from giving a tiny elite an even bigger slice of the income pie. Well, trickle down arguments were discredited way back in the 1980s. It is worth repeating The Standard’s central point :

I find it frustrating that the debate over tax concentrates on the top rate rate, which doesn’t apply to 90% of taxpayers. It’s as if the Right, and many in the media, are either blind to the existence of people on normal incomes, or severely underestimate their number.

John Key, of course, is the worst. He has repeatedly been asked for assurances that people on low-incomes will not be worse off because of the GST increase. He off-handedly gives that assurance (despite not having the money to pay for all his promises) but when he gives examples of how the changes will impact a low income person he chooses someone on $40,000 or $50,000… It’s as if the rest of us are invisible to him. I’m willing to bet he simply has no understanding that 70% of Kiwis have incomes under $40,000.

John Key’s problems in selling this crock of goods have just begun.


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