The discussion of company tax and firms that don’t pay it often seems to me to be confused. Company tax is a tax on profits, on income earned after costs. These profits could be distributed as dividends to shareholders or held in firms as retained earnings and eventually paid out as dividends. When they are paid out as dividends (now or in the future) to residents they are subject to the income tax paid by residents but, under the imputation system, to avoid these dividends being double taxed, a credit is given for any tax paid by the firm as company tax. Thus resident shareholders are only levied the generally positive difference between their marginal tax rate and the company tax rate of 30%. Thus the firms as as acting as “withholding tax” agents for the government.
Thus reducing the rate of company tax will make very little difference to total taxes paid by residents. More will then simply be paid by resident shareholders as personal income tax since their personal tax rates invariably will exceed those of companies. .
The only difference cutting company tax rates will make is to the taxes paid by non-resident shareholders who will now pay less tax since they generally do not benefit from dividend imputation. Thus cutting company taxes can only be motivated as a means for cutting the taxes paid by foreign shareholders in Australian-based companies. This effectively increases the rate of return foreign shareholders receive on Australian equity investments. Are there arguments for reducing taxes on foreign investors in Australia? The main argument is that such increases in the rate of return on equity will increase the foreign capital flows that enter Australia thereby promoting business and, in particular, increasing the returns to Australian workers who will, therefore, be better equipped with physical capital. This depends on how mobile capital is internationally and therefore how responsive capital flows are to the rate of return improvement. It is difficult to believe differential tax rates are a major issue in driving investment given that most of our mining industry and much of our industry anyway is foreign owned.
Of course if local firms already transfer price most of their profits into inflated costs borne overseas then the effects on capital inflows will be zero since there will be no effect on returns on equity of tax reductions since the firms pay no tax.
My own view is that the company tax-cum-imputation system has that the two great advantages of (1) providing just tax treatment to residents and, (ii) bringing foreign shareholders into the Australian tax base. Impact (ii) is more important the more the transfer pricing games paid by multinationals can be stopped and it seems to me that tax reform efforts should concentrate on this rather than reducing a rate which falls only on foreign holders of Australian equity.
The claim that the Australian company tax rate – and taxes generally – exceed those payable in China (including Hong Kong) and Singapore seems to me a point of irrelevancy. We do attract plenty of foreign investment from these countries which suggests that high rates of tax are not having a strong deterrent effect.